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6. Capital income taxation

Summary

The capital income of individuals is taxed in many different ways around the world. In recent years, there has been a particular focus on the method of integration of the corporate and personal levels of taxation. Many European countries have tended to move away from full imputation, to systems where dividends are taxed at lower rates at the personal level.

Australia is one of only a small number of OECD-30 countries that have a dividend imputation system (where the credit depends on company tax paid). Unlike most of the other OECD countries with an imputation system, Australia’s system refunds excess imputation credits eliminating the double taxation of dividends. Most OECD countries use a credit system (where the credit does not depend on company tax paid) or have a modified classical system with a reduced rate on dividends to relieve the double taxation of dividend income.

Australia has the third lowest top overall tax rate of the OECD-10 on dividend income, taking account of tax at both the company and the shareholder level.

Australia has the second lowest overall tax rate of the OECD-10 on dividend income for an individual earning the average wage, taking account of tax at both the company and the shareholder level.

All of the OECD-10 countries, including Australia, provide some form of concessional treatment for capital gains.

Australia has the third highest top capital gains tax rate for shares held between one and two years, and the second highest top capital gains tax rate for shares held for ten years, of the OECD-10. Two countries in the OECD-10 exempt capital gains on shares (New Zealand and Switzerland) while four countries provide a capital gains allowance (Canada, Ireland, Japan and the United Kingdom).

Most countries in the OECD-10 have a lower tax rate on interest income compared with the tax rate on wage and salary income. In many cases, this is because social security contributions do not apply to capital income.

Australia has the highest top marginal personal tax rate on interest income of the OECD-10, and is around 11 percentage points above the OECD-10 average (37.1 per cent). A number of the comparator countries also provide exemptions for certain interest income.

This chapter also examines the extent of the difference between tax rates on wages and salaries and the tax rates on corporate income. Of the 30 OECD countries, only one, the Slovak Republic, has aligned its top marginal personal tax rate and full statutory corporate tax rate.

Australia’s difference (18.5 percentage points) is only slightly above the OECD-30 average (17.8 percentage points). Australia has the fourth highest difference across the OECD-10 and is around four percentage points above the OECD-10 average (14.9 percentage points).

6.1 Introduction

The accumulation and efficient allocation of capital is pivotal to the growth of every economy. As such, the taxation of capital income raises important issues concerning its effect on incentives to save and invest, on resource allocation, on risk taking and on entrepreneurship.

This chapter examines the taxation of domestically-sourced capital income of domestic individual taxpayers amongst the OECD-10. It considers taxes paid on:

  • dividend income — including the integration of the personal and corporate tax systems;
  • capital gains; and
  • interest income.

Taxes on property (rent), royalties and capital deductions such as depreciation and interest expense are not covered, while the taxation of retirement savings and foreign source income are covered in Chapters 7 and 10.

Despite the importance of capital taxation, most cross-country analysis is focused on corporate taxation. Given the limited comparative information available on capital income taxes at the personal level, this chapter is largely based on OECD estimates of the top tax rate applying to the three types of capital income noted above. While this provides an interesting comparison, it has three key limitations:

  • the actual tax rate faced by the investor is likely to be lower because most countries have preferential tax arrangements applying to specific types of capital income;
  • the estimate ignores the taxation of lower income individuals; and
  • the estimate does not represent the true tax burden faced by the investor, because the effective rate of tax may be significantly different.

Estimates of effective marginal tax rates (EMTRs) for investments are potentially more useful. EMTRs measure the tax burden faced by an individual investor as the fraction of the pre-tax rate of return on a new investment that is collected as tax. Such measures are complex and comparative studies are generally limited to investments made by companies in physical assets and exclude taxation at the shareholder level (see Chapter 5). As a result EMTRs are not presented.

This chapter also examines the extent of the difference between tax rates on wages and salaries (Chapter 4), and the tax rates on corporate income (Chapter 5).

 

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