Jessica Rogers

University

University of Technology Sydney

Place (Rank)

2nd Place

Year

2012

Introduction

Former Prime Minister Paul Keating described uniform taxation as “the glue that holds the federation together” and the reason Australia is “one nation with one economy.” Constitutionally, this comment is unsupported because uniform income taxation was never intended to be a feature of Australian federation. Until the Second World War both the States and the Commonwealth imposed individual income taxes. The way uniform taxation was implemented in Australia was by the Commonwealth increasing its rate of income tax to a level which approximately equaled the rate imposed by the Commonwealth and States combined. In return for the States ceasing to impose income taxes, the Commonwealth then reimbursed the States for their lost revenue using s96 of the Constitution which allows the Commonwealth to “grant financial assistance to any State on any such terms and conditions as the parliament thinks fit.” While this scheme does not hold federation together, it has been the source of Australia’s centralised federation and has only been compounded by the implementation of the Commonwealth levied GST. By levying income tax to the exclusion of the States and being able to allocate the revenue from the tax levied to States by way of specific purpose payments (which prescribe how the money is to be used), the Commonwealth has made significant inroads into the States’ autonomy and independence. These inroads go close to infringing the implied constitutional prohibition of controlling the normal activities of the States. Further, Australia is stuck in this centralised federation because there are constitutional and political restrictions preventing the States from regaining control over their finances. So while uniform taxation may hold Australia’s centralised federation together, it is altering federation as it was intended.

Essay

Former Prime Minister Paul Keating described uniform taxation as “the glue that holds the federation together” and the reason Australia is “one nation with one economy.”  Constitutionally, this comment is unsupported because uniform income taxation was never intended to be a feature of Australian federation. Until the Second World War both the States and the Commonwealth imposed individual income taxes. The way uniform taxation was implemented in Australia was by the Commonwealth increasing its rate of income tax to a level which approximately equaled the rate imposed by the Commonwealth and States combined. In return for the States ceasing to impose income taxes, the Commonwealth then reimbursed the States for their lost revenue using s96 of the Constitution  which allows the Commonwealth to “grant financial assistance to any State on any such terms and conditions as the parliament thinks fit.” While this scheme does not hold federation together, it has been the source of Australia’s centralised federation and has only been compounded by the implementation of the Commonwealth levied GST. By levying income tax to the exclusion of the States and being able to allocate the revenue from the tax levied to States by way of specific purpose payments (which prescribe how the money is to be used), the Commonwealth has made significant inroads into the States’ autonomy and independence. These inroads go close to infringing the implied constitutional prohibition of controlling the normal activities of the States.  Further, Australia is stuck in this centralised federation because there are constitutional and political restrictions preventing the States from regaining control over their finances. So while uniform taxation may hold Australia’s centralised federation together, it is altering federation as it was intended.

It is clear from the structure of the Constitution that uniform taxation was not intended to be the glue that holds federation together. The fact the Commonwealth’s taxation power is found in s51, shows that taxation (excluding taxes found in s90) was never intended to be uniform throughout the Commonwealth and was to be exercised concurrently with the States’ taxation powers, like all other legislative powers found in s51.  “It was [also] not envisaged that the Commonwealth’s taxation power would be invoked solely for the purpose of making grants to the States.”  Further, federation was based on the States still meaningfully retaining their legislative powers and autonomy. In order for any government to retain its autonomy, the ability to have access to its own efficient and significant revenue sources is vital.  With certain taxation powers like customs and bounties no longer being able to be levied by States,  if the States foresaw that they also would lose access to income tax, some may have indeed thought twice about joining federation.

Most federations with comparable socio-economic environments do not have a scheme of uniform taxation. Australia is the most centralised federation in terms of tax collection and revenue expenditure  and the only federation where State governments do not collect income tax.   Twomey and Withers present data suggesting Australian State governments also have the least access to efficient taxes.  The federation with the most similar historical circumstances to Australia is Canada. Like Australia, during WWII, the federal government in Canada levied income tax to the exclusion of the provinces.  Unlike Australia, the power to levy income tax was later returned to the provinces.  The taxation system in Canada is flexible enough to incorporate different taxation agreements with different provinces, with Quebec having a different system to other provinces.  Nevertheless, it could not be argued that Canada is not one nation with one economy.

One argument for uniform taxation is that the Commonwealth needs the disproportionately large amount of revenue it generates to implement horizontal fiscal equalisation (HFE). This argument may be what Keating was alluding to when describing uniform taxation as ensuring Australia is ‘one nation’. HFE is a process by which the Commonwealth distributes its revenue to States. To ensure all Australia has the same level and variety of services and an equal standard of living, it is necessary for some of the revenue generated by the larger States to be used to subsidise the smaller States.  Walsh however notes that uniform income taxation is unnecessary for the Commonwealth to implement HFE.  HFE could still occur by both the Commonwealth and States imposing income tax and agreeing that the Commonwealth would reduce its grants to the States.  While this would lead to Commonwealth revenue loss, only a small portion of revenue the Commonwealth currently receives is needed to maintain HFE.  Such a scheme would also give the States autonomy and control over the amount of revenue they levied, increased control over how revenue was spent and discretion to increase revenue to fund special programs.

The macroeconomic policy argument for the Commonwealth requiring access to a surplus of funds through uniform taxation also appears flawed. The macroeconomic argument can be seen as representing Keating’s statement that uniform taxation ensures Australia has one economy. The argument is that without the ability to control Commonwealth and State spending, macroeconomic policy can be negatively effected.  The Constitution was drafted with the intention of the Commonwealth controlling macroeconomic policy. This can be seen in the Commonwealth’s power to make laws with respect to currency,  trade and commerce  and customs and import duties.  Nevertheless it was not envisaged that the Commonwealth would retain the surplus funds it received in excess of its expenditure needs. The ability to retain surplus funds only resulted by virtue of a High Court decision and some creative accounting on the Commonwealth’s part.  Suggesting that the Commonwealth could not control macroeconomic policy without uniform taxation focuses solely on the role of fiscal policy in macroeconomic management, completely disregards the role of monetary policy (controlled by the Reserve Bank) and the Australian Loan Council’s control over State borrowing.  It is also based on the assumption that co-operation and co-ordination between State and Commonwealth governments about macroeconomic policy is not an option and disregards research which suggests that superior macroeconomic outcomes are more commonly obtained in decentralised federations without uniform taxation.

The uniform taxation scheme described in the introduction has been challenged on two occasions. It was recognised by Latham CJ in the First Uniform Tax Case that “revenue is essential to the existence of any organised State”  and taxation provides this revenue. A central feature of both the scheme’s challenges was that by removing the States power to levy income tax, the Commonwealth was seeking to “destroy or weaken the constitutional functions or capacities of the States”  against which there is an implied constitutional prohibition.  The scheme was held to be valid and not infringing this prohibition because it did not purport to force States to give up their taxing powers or to repeal State taxes.   This is despite the States having no real choice as to whether they participated in the scheme because non-participation would result in some States’ citizens paying much more tax than citizens of other States and no grants from the Commonwealth.

Since the Uniform Tax Cases the High Court has made further comments suggesting that the Commonwealth would be able to force the States to not exercise their taxing powers and further weaken federation. This result could be achieved by the Commonwealth passing a taxation law which would override the State taxation law by virtue of s109.  It was suggested in Hematite a case concerning s90 that the States taxation powers are subject to s109.  Mason J stated that it was unnecessary that s90 provided the Commonwealth exclusive power to levy customs and excise because the Commonwealth would be able to pass laws giving it the exclusive power to do so which would operate by overriding any inconsistent State law.  These comments pose an even greater threat to the States continued independence and existence than the uniform tax scheme as this would enable to the Commonwealth to force States to stop levying taxes, without providing them with a revenue source in exchange.  While it is not definite that this obiter would be upheld,  it still has the potential for the Commonwealth to gain further influence and no doubt would be argued if the States tried to implement an additional GST.

In the Second Uniform Tax Case, Dixon CJ expressed reservations about the extent of the grants power. He was concerned about the unfettered discretion the grants power provides and that the grants power would become “a power [for the Commonwealth] to make laws with respect to general subject matter.”  Following this decision, this is precisely how the Commonwealth government has been using the grants power, to circumvent many Constitutional limitations on the Commonwealth’s legislative powers. It can be used to discriminate on the funding provided to each of the States  and is not subject to any of the legislative powers in s51.  The enormous amount of surplus revenue which the Commonwealth derives from both income tax and the GST  has given it the funds to fully exploit the grants power and the ability to limit State policy decisions. This is further compounded by the States having very limited taxes which they can impose, most of which have been recognised by the Commonwealth to be inefficient.  Consequently, in order to implement policy and provide services, the States are at hostage to the funds the Commonwealth will provide them, and whatever conditions are imposed.

The COAG intergovernmental agreement on Federal Financial Relations in 2011  saw a retreat from the use of specific purpose grants and an increase in general purpose grants.  This suggests that the current Commonwealth Government is taking a more decentralised approach to federalism and towards State government policy control. However this is not necessarily the case. The decrease in specific purpose payments may partially be accounted for by the use of the Commonwealth government’s ‘spending power’. Following the decisions in Pape  and Williams , it is almost certain that specific purpose payments under the grants power will once again increase. Pape and Williams established that the Commonwealth Executive does not have a general power which allows it to spend on activities which it does not have the power to legislate on.  In order for the Commonwealth to provide funds for services, like specific school programs as in Williams, it will have to be done via the grants power as a specific purpose payment using the State government as a conduit.  What this shows is that irrespective of the method by which the Commonwealth is distributing revenue to State programs, in meaningful terms there is no indication in the near future of decentralising policy decision-making.

The uniform tax scheme has made it constitutionally and politically difficult for the States to re-levy income taxes and ensure Australia continues to be a centralised federation. The constitutional impediment found in s51(ii) prohibits the Commonwealth from discriminating between the States in relation to taxation.   This means the Commonwealth cannot vary the rates of taxation between States. If a lone State was to implement an income tax in addition to the Commonwealth’s income tax, the Commonwealth would be constitutionally unable to reduce its rate of income tax in that State.  So for the State which implemented the income tax, the rate would have to be so small so that administrative costs would outweigh its benefits or otherwise being the only State to implement the tax would amount to political suicide. If however all States agreed to re-implement an income tax on top of the Commonwealth’s tax, this would overcome the constitutional limitation  and with the influence all States acting together could exert over the Commonwealth, the Commonwealth could be forced to reduce its rate. The repercussions of such actions would likely see the Commonwealth reduce its grants to States. Fear of a reduction in grants and the lack of reliable revenue would render smaller States (which are more dependent on grants) unwilling to participate in the scheme and as such, provides an obstacle to State consensus on re-introducing income tax. The only way which it could be achieved is by agreement with the Commonwealth government  and it is unlikely the Commonwealth would want to relinquish the power which uniform taxation provides.

Despite uniform taxation’s impact on the States, their inertia over the last twenty years to alter the status quo has been a contributing factor to the continuation of uniform taxation in Australia. No serious attempt to take over income tax has been made by the States since 1991.  With the detrimental impact it is having on their autonomy, it leads one to wonder why they are not more vocal against uniform taxation. Ironically the answer to this question may be the same as the reason why Keating wanted the States to take more responsibility in their decision-making and a more active role in federation, provided the Commonwealth could still impose uniform taxation.  By not having control over the amount of funding they receive and how approximately 42% of it is spent,  it gives State governments an excuse for not fulfilling election promises and poor management.  Conversely, Keating wanted to retain control of State finances,  but by the States taking a more active role in decision-making, it would be harder for his government to be blamed for the States poor decision-making. In this respect his comments could be seen as mere rhetoric, as he was not willing to give the States the revenue to regain real control and responsibility for their actions. Levying efficient taxes would give States greater autonomy than if all the payments from the Commonwealth were general purpose payments, because it gives the States the power to increase or decrease taxation, rather than deciding on projects based on the amount of revenue being granted.  For these reasons and the limitations on the States re-entering the income tax field, uniform taxation and centralised federation is most likely here to stay.

Uniform taxation ensures that Australia is, and remains a centralised federation. In this respect Keating’s description of uniform taxation being the glue that holds federation together can be seen as accurate. Being the Prime Minister at the time of making this comment, it is altogether unsurprising the importance he placed on the Commonwealth’s ability to levy uniform income tax to the exclusion of the States. The source of the Commonwealth government’s enormous power and control over the State governments stems primarily from the scheme by which uniform taxation was imposed and has been solidified in more recent times by the GST. The funds from these revenues sources have then been granted back to the States in the form of general purpose payments and specific purpose payments. Specific purpose payments under Keating as Prime Minister were near an all-time high,  suggesting he viewed the most important factor in keeping federation together was the Federal government’s control over the States. So while uniform taxation may facilitate the centralisation of fiscal power and policy control in a Federal government, international comparisons and constitutional intention show it is neither uniform taxation nor fiscal centralisation that is the glue that which holds Australia’s federation together.

 

Bibliography

Journal Articles

C J Bevan, ‘Constitutional Aspects of the GST’ 1999 28(3) Australian Tax Review 173

R A Dick, ‘A Loss of State Autonomy: Implications of the Ha and Hammond Decisions (1998) 27(1) Australian Tax Review 30

Peter Hanks, ‘“Inconsistent Commonwealth and State Laws: Centralising Government Power in the Australian Federation” (1986) 16 Federal Law Review 107

Peter Hanks, ‘Section 90 of the Commonwealth Constitution: Fiscal Federalism or Economic Unity’ (1986) Adelaide Law Review 365

Vince Morabito, ‘The Constitutional Restriction on Taxes Imposed on Crown Property’ (1998) 1(1) Journal of Australian Taxation 41

G Sawer, ‘The Second Uniform Tax Case’ (1957) 31 Australian Law Journal 347

Cheryl Saunders, ‘Hematite Petroleum Pty. Ltd. v Victoria’ (1983) 2(4) Australian Mining & Petroleum Law Bulletin 51

Cheryl Saunders, ‘Towards a Unified Theory for Section 96 – Part 1’ (1987) 16 Melbourne University Law Review 1

Cheryl Saunders, ‘Towards a Unified Theory for Section 96 – Part 2’ (1988) 16 Melbourne University Law Review 699

Cheryl Saunders, ‘The Sources and Scope of the Commonwealth’s Power to Spend’ (2009) 20 Public Law Review 256

P G Sharp, ‘The First Paragraph of Section 55’ (2005) 33(3) Federal Law Review 569

A H Slater, ‘Tax in Australian society: An 80 year perspective’ (2007) 81 Australian Law Journal 681

Philippa Stone, ‘Immunity from Taxation Under s114 of the Constitution’ (1992) 66(9) Australian Law Journal 601

‘Recent Decisions: South Australian and Others v Commonwealth and Another’ (1942) 16 Australian Law Journal 109
 
‘The Constitutional Prohibition of ‘any tax’ by the Commonwealth on State Property’ (1987) 61(5) Australian Law Journal 207

Books

J Clarke, P Keyzer, J Stellios, ‘Hanks’ Australian Constitutional Law’ (8th ed, 2009)

Cheryl Saunders, ‘Vertical Fiscal Imbalance: Constitutional Origins’ in D J Collins (ed) ‘Vertical Fiscal Imbalance and the Allocation of Taxing Powers Papers from a Conference Organised by the Australian Tax Research Foundation (1993) 55

Cliff Walsh, ‘Vertical Fiscal Imbalance: The Issues’ in D J Collins (ed) ‘Vertical Fiscal Imbalance and the Allocation of Taxing Powers Papers from a Conference Organised by the Australian Tax Research Foundation (1993) 31

Reports

Francis G Castles, ‘Decentralisation and the Post-War Political Economy’ Discussion Paper No. 399, Political Science Program, Research School of Social Sciences Australian National University, March 1999

Michael Schur, ‘Interstate Comparison of Taxes 2008-09’ New South Wales Treasury Office of Financial Management, Treasury Research Paper 09-02, May 2009.

Ross Garnaut, Committee for the Review of Commonwealth-State Spending, Parliament of the Commonwealth, ‘Review of Commonwealth-State Spending’ (2002)

John Pierce, ‘The Case for Payroll Tax’ New South Wales Treasury Office of Financial Management, Treasury Research Paper 99-03, September 1999

Stewart Smith, ‘Land Tax: An Update’ Briefing Paper 05/5, New South Wales Parliamentary Library Research Service

Anne Twomey and Glenn Withers, ‘Federalist Research Paper 1: Australia’s Federal Future’ A Report for the Council of Australian Federation, Parliament of Victoria, April 2007.

Neil Warren, ‘Benchmarking Australia’s Intergovernmental Arrangements’ Interim Report, Commissioned by New South Wales Treasury, 23 March 2006.

Neil Warren, ‘Benchmarking Australia’s Intergovernmental Arrangements’ Final Report, Commissioned by New South Wales Treasury, 26 May 2006.

Cases

Attorney General for Victoria (Ex Rel Black) v Commonwealth (1981) 146 CLR 559

Deputy Commissioner of Taxation v State Bank of New South Wales (1992) 174 CLR 219

Ha v New South Wales (1997) 189 CLR 465

Hematite Petroleum Pty Ltd v Victoria (1983) 151 CLR 599

New South Wales v Commonwealth (1908) 7 CLR 179

Pape v Federal Commissioner of Taxation (2009) 238 CLR 1

Pye v Renshaw (1951) 84 CLR 58

South Australia v Commonwealth (The First Uniform Tax Case) (1942) 65 CLR 373

South Australia v Commonwealth (1992) 174 CLR 235

Victoria v Commonwealth (Federal Roads Case) (1926) 38 CLR 399

Victoria v Commonwealth (The Second Uniform Tax Case) (1957) 99 CLR 575

Victoria v Commonwealth (The Payroll Tax Case) (1971) 122 CLR 353

Victoria v Commonwealth (AAP Case) (1975) 134 CLR 338

Williams v Commonwealth of Australia (2012) 288 ALR 410

W R Moran Pty Ltd v Deputy Commissioner of Taxation (NSW) (1940) 63 CLR 338

Legislation

Commonwealth Constitution ss 51(i), (ii), (iii), (iv), (xii), (xxxi), (xxxix) 61, 81-96, 99, 101, 102, 107, 108, 109

Other

Council of Australian Governments, Intergovernmental Agreement on Federal Financial Relations, July 2011

Scott Bennett and Richard Webb, ‘Specific Purpose Payments and the Australian Federal System’ Research Paper No 17 2007-8, Australian Parliamentary Library Website, http://www.aph.gov.au/About_Parliament/Parliamentary_Departments/Parliamentary_Library/pubs/rp/RP0708/08rp17  at 22 December 2012.

Alan Fenna, ‘Intergovernmental Grants and Accountability in Australian Federalism’ Commissioned Paper for COAG Seminar on Specific Purpose Payments, 30 March 2012,
http://www.coagreformcouncil.gov.au/excellence/docs/events/Think_piece_Fenna_2012.pdf at 22 December 2012

Gareth Griffith, ‘The High Court’s Decision in the School Chaplains Case: Findings and Implications’ (2012) 14 E-brief: New South Wales Parliamentary Research Service at
http://www.parliament.nsw.gov.au/prod/parlment/publications.nsf/key/TheHighCourt'sdecisionintheSchoolChaplainscase:findingsandimplications/$File/Williams+v+the+Commonwealth.pdf at 21 December 2012

Denis James, ‘Federal and State Taxation: A Comparison of the Australian, German and Canadian Systems’ (1997-98) Current Issues Brief 5, Australian Parliamentary Library Website, http://www.aph.gov.au/About_Parliament/Parliamentary_Departments/Parliamentary_Library/Publications_Archive/CIB/CIB9798/98cib05#END at 5 December 2012.

Cliff Walsh, ‘Reform of Commonwealth-State Relations ‘No Representation Without Taxation’’ Federalism Research Centre Discussion Papers No 2, August 1991

Newspaper Articles

‘The Way Towards a Reshaped Future’ The Australian (Australia National), 24 February 1994, pg 9

Speeches

Chief Justice Robert French AC, ‘Tax and the Constitution’ Speech delivered at the Taxation Institute’s 27th National Convention, D G Hill Memorial Lecture, Canberra, 14 March 2012