Believing someone else will pay is naïve: Higher taxes and lower benefits are in our future...

Interest rates are on hold for another month. No real surprise. There’s not enough bad news out there…yet.

And given the rebound in the US share market in October, you wonder whether there’ll be any bad news to really trouble markets while central bankers are in control with their hand firmly on the interest rate dial.

Prince of Penzance proved long shots can prevail against the odds. Market outliers — events that are totally unexpected — are the ones that catch everyone by surprise. Word of caution: don’t bet too heavily on the Fed’s infallibility.

Increased taxes are at near unbackable odds. There is far too much budget red ink for the status quo to remain. The Government is rattling the tin, and this time they’re deadly serious.

‘Any changes to the tax system have got to be ones that ensure that there is no disadvantage to the most vulnerable Australians, to less well-off Australians,’ Prime Minister Malcolm Turnbull

Over-promising on benefits and under-delivering on revenues have put tax reform — once again — front and centre on the political agenda. Turnbull has the political capital to make headway on this.

A slow growth economy is not generating the tax revenues needed to pay for burgeoning welfare and health costs.

So, do we raise taxes, lower expenditures (welfare, healthcare, education) or a combination of both? It’ll be the latter, but tax increases will do most of the heavy lifting.

Whenever any change to the status quo is flagged, the political message has been, is and will always be ‘no disadvantage to less well-off Australians.’ Let’s not spook the electorate.

‘Tax the rich’ always plays well to the crowd. The masses are told ‘don’t you worry, someone else (richer than you) will pay’.

‘And so they bloody well should’ is the standard (and predictable) response. That and, ‘I’ve paid taxes all my life, time for someone else to pay their dues.’

But the crowd will pay. They just don’t realise it.

The government can make all the promises it likes about ‘compensation packages’ and ‘a fairer tax system’ to calm the nerves in voter land, but the reality is: the government needs more dollars and lots of them.

We will all pay — either a lot or a little — in some way. Believing someone else will pay is naivety or stupidity.

For those who are working you can go to http://www.budget.gov.au to see how much tax you pay on your income and where those tax dollars go to.

A person earning $70,000 pays income tax of $15,697.

Welfare consumes nearly 40% ($6,118) of the tax paid. Add in health and it’s a massive 57% of the tax take going to these two items alone. What will it be like when boomers are in full retirement mode?

This is just the division of the income tax take. It does not include the tax revenues derived from levies, excises, sin taxes, duties, GST, superannuation tax, luxury car tax, a multitude of state government charges (vehicle registration, stamp duty, land taxes etc.) and local government rates.

According to the Federal Treasury Department ‘Australians pay at least 125 different taxes each year.’ Governments at all levels (local, state and federal) have multiple pipelines into your pocket to pay for their over-promises, waste, bureaucracies, indebtedness and incompetence.

According to Treasury figures the total taxes paid in Australia are nearly $500 billion.

To maintain our sanity let’s assume the majority of these dollars get to the front line services we need as a society. However a waste factor of 10% amounts to $50 billion and my uneducated guess is this number is closer to 20%…$100 billion frittered away.

Getting rid of this waste is not a serious option. Powerful public sector unions and highly organised and well financed special interest groups (of which there are plenty) are determined their share of the tax pie never gets any smaller.

Any politician with an eye on the opinion polls would never seriously consider poking these angry bears too much. Easier to pay the $100 billion in hush money.

Accepting the expenditure side of government budgets is unlikely to be seriously addressed (unless a major economic event forces this outcome or a politician grows a pair), then it’s only logical to expect some of the 125 different taxes to be dialled up to increase tax receipts.

This is where it gets interesting.

An ageing population poses two big problems. Over the coming decade, the income tax receipts from retiring boomers are going to contract while the welfare and health expenditures are going to expand.

As part of the government’s proposed GST ‘compensation package’ they’re talking about lowering personal income tax rates.

With the tax receipts from boomers declining AND lower income tax rates being promised to those remaining in the workforce, where does the government get the dollars needed to fund ballooning welfare and health commitments?

From the other 124 taxes, that’s where. We will all pay, whether we know it or not.

GST and superannuation (contribution and pension tax rates) are the obvious targets, but you can bet there will be others.

We are fast approaching a point I wrote about nearly a decade ago. On 6 August 2006 my weekly article in The Cairns Post was titled ‘Plan for the Future Now’. Here’s an extract:

‘As stated in previous columns water, fuel, food and healthcare costs in the future are going to absorb much more of your household budget.

‘The cost of these items will grow at a higher rate than inflation.

‘The other big impact on future budgets will be an increased rate of GST.

‘Over the next 20 years, the Government will gradually lose the income tax receipts from the retiring baby boomers.

‘Where will they source the much-needed revenue to pay age pensions and healthcare for an ageing population? Governments won’t be able to significantly increase income taxes on the next generation as it will be too much of a disincentive.

‘The only logical answer is to spread the cost across the whole community via an increase in GST.

‘The average retiree of tomorrow will enjoy a longer life but the cost of living will be much higher then expected.

‘Any government contribution, via the age pension, to their living expenses may not be as generous as the current pension system.

‘There simply may not be enough tax revenue to share around so a harsher means test would need to be introduced.

‘I cannot emphasise enough the need to organise your financial planning requirements. There are massive social, technological and economic changes that will occur in the next one to two decades.

‘Exactly what they will be and what the precise repercussions will be I cannot tell you.

‘But the one answer that keeps coming back to me is that we will need more money to live on if you wish to retain a reasonable standard of living, in this new and exciting world.’

The one important variable I didn’t foresee a decade ago was ultra-low interest rates.

When you add this into the mix with the other challenges — living longer, rising costs of living and crimping of age pension benefits — it means retirees will need much, much more money to live on.

It’s not hard to see retirements being postponed until people are well into their 70s. People will simply not have the money to fund a multi-decade long retirement.

Low interest rates are a reflection of the low growth (deflationary) world we now find ourselves in.

Gone are the days of boomers going deeper and deeper into debt to keep up with the Joneses. Without these credit dollars flowing through the system to boost economic activity, government cannot generate tax dollars in sufficient quantity to fund its promises.

Everything is being done to encourage another sustained debt binge by the next generation. Making debt cheaper (with low interest rates) is the one pillar strategy policy makers are trying to build another debt edifice upon. It’s not working.

What’s happening however, is low interest rates are forcing income hungry retirees to chase higher yielding investment options. There is a capital risk attached to these investments — whether they know it or not.

What happens if that long odds major market meltdown actually happens? Those who reached for an extra few percent of income will see a good chunk of their capital vaporised.

Instead of having much, much more money to live on, they’ll have much less money.

Which in turn puts more pressure on the welfare budget. In addition, stressed investors will most likely add costs to the health budget.

We are facing a real conundrum. How it’s resolved is going to be interesting, but the big picture outcome is almost assured.

For workers it will be a combination of working much longer, higher indirect taxes, and access to lower levels of government benefits (welfare).

For retirees; possibly returning to the workforce (full or part-time), higher indirect taxes, subsiding their lower incomes with capital drawdowns (reverse mortgages will be all the vogue in the coming decade) and more user pay costs for health.

Then there’s the minority that saw the writing on the wall and took defensive action early — lived within their means, recognised that welfare payments were likely to reduce in real terms, invested conservatively, saved and when appropriate mobilised their capital to invest in low risk/high rewards investments.

The system we have today is a product of an economic model that encouraged far too much debt to create economic ‘growth’. An increasing stream of taxes was generated from this ‘growth’. Which in turn led a succession of politicians to make generous promises that cannot be sustained in a low growth world with a greater number of retirees.

The economic model is in the process of breaking. Something has to give.

Higher taxes and lower benefits are in our future. We need to get serious and plan for it now.