Chapter 14

The Cash Economy/Tax Evasion

14.1 In clause (3)(f) of the terms of reference the Committee was instructed to inquire and report on the effects of the Government's ANTS proposals in respect of:

The potential for tax avoidance and evasion, including an examination of the effects on the cash economy, and the potential input of electronic commerce on the future viability of a GST. [1]

14.2 The Government has estimated that over the three years from 2000-2001an additional $3.5 billion in income tax revenue will be generated through the combined impact of a number of measures. These measures, which include the GST, the alignment of business tax payments, establishment of the Australian Business Number (ABN) and the new withholding arrangements, are expected to provide greater fairness, transparency and certainty, resulting in increased compliance. [2] The Treasury, in the ANTS document, has made projections for the likely recovery of revenue from the cash economy, on the assumption that there will be 95 per cent compliance with the GST - the estimated benefit has then been based on Treasury's figure of $18 billion for the size of the cash economy. [3]

14.3 The introduction of the ABN system is expected to make it more difficult for those operating in the cash economy to avoid their tax responsibilities. It is claimed to prevent people moving into the cash economy by opting out of employment relationships and avoiding withholding taxes. [4]. However, the Committee is concerned that the ABN should not be used to facilitate the significant erosion of the income tax base that is currently occurring through employees reclassifying themselves as independent contractors. A joint delegation from the building industry of a major employer and CFMEU described the serious tax avoidance currently occurring in the building industry and expressed concern that the ABN legislation as proposed could worsen an already serious situation estimated to cost around $1billion per annum and growing.

14.4 The Government hopes through its projected changes to the business income tax system to apply closer scrutiny of the tax-driven activities of high-wealth individuals, tax manoeuvring of international groups and artificial end-of-year planning. Further information on this matter is set out in the RBT discussion paper.

14.5 The ACTU suggested that the problems of the taxation system could be solved by a progressive tax system which taxed all income, regardless of its source. An additional and essential feature would be to close off opportunities, now available particularly to the wealthy, for tax minimisation, evasion and special concessions. [5] The Corporate Tax Association of Australia stressed that tax evasion could only be eliminated if the Taxation Office were given the necessary resources to deal with the problem. [6]

14.6 The Deputy Director of the Centre for Labour Research at the University of Adelaide (Mr Spoehr) appearing for the Community and Public Sector Union in South Australia, agreed with that general approach and commented:

We believe Australia's tax system should be built upon a progressive base. Tax reform should be more centrally focused on closing loopholes and distortions in the corporate tax system to minimise tax evasion. Taxes on wealth, combined with a progressive income tax system, are the pillars of a fair tax system. [7]

14.7 On several occasions evidence given to the Committee referred to the difficulty of assessing the true extent of the cash economy in Australia. During the appearances by the Treasury representatives and Professor Neil Warren, questions by the Committee produced estimates ranging from $5 billion to $18 billion. [8] Perhaps the most accurate comment, however, came from a quote drawn from a document released by the Treasurer:

Any estimate of additional GST revenue from the black economy must be truly speculative.

Treasury representatives agreed that:

… we do not know precisely the size of the black economy. I do not think anyone claims that. [9]

14.8 Professor Warren acknowledged the impossibility of estimating the true size of the cash economy. He was convinced, however, that any calculation of the impact of the New Tax System must include some estimate of the likely extent of additional revenue to be gained from that sector:

There are issues in relation to black economy compliance costs. They are assumptions that you make as a matter of course. The Treasurer would be remiss, I think, not to factor something in there for the potential benefits of taking off that input taxing from state governments - similarly with the black economy, not just in relation to the GST but in relation to the ABN and the whole compliance push the tax office will be embarking on.

So I do not agree with the `in principle'; you can always debate the magnitude rather than the `in principle' of what they are doing. I am not versed enough to be able to say, `Yes, they are right,' or `No, they are not right.' I would simply say that I would put it in there too. Fightback had it. The draft white paper had factored in the black economy and other benefits. So as a matter of course you should acknowledge and take into account those factors, but what the magnitude is I cannot really say whether they are right or wrong. But I would put them in and leave to it their judgment whether those magnitudes are appropriate.

14.9 Because of the uncertainties about the amount of revenue the Government will actually be able to collect from present cash economy participants, the Australian Catholic Social Justice Council was dubious about reliance on such revenue:

… we also have concerns about a package which possibly over-relies on revenue from the hidden or cash economy … [10]

14.10 The Committee queried whether some guidance could be drawn from the HES statistics. It was suggested that indications of consistent dissaving by individuals could be a pointer to the extent of the cash economy. While participants in the cash economy would not be reporting all of their income, they would not be particularly reluctant to report their expenditure. [11] The Business Coalition for Tax Reform pointed out in evidence that the cash economy is not reported in the statistics - it must be recognised by gaps in the statistics. The Coalition noted that it is very difficult to obtain solid evidence of cash economy activity, even though many people have met up with it in their day to day experience. [12]

14.11 During Professor Warren's evidence there was a discussion on whether it was reasonable to expect the introduction of a GST to eliminate the cash economy. It was suggested that reports from Europe indicated that the cash economy had, in fact, grown since the introduction of a GST. Professor Warren commented that the situation in Europe owed more to other factors than to the presence of a GST. As an example, he referred to the deregulated labour market in Europe, which allows migrant workers to travel freely without passports and with no central means of tracking their movements or their earnings. Australia, he said, would be different because of our clear boundaries and the operation of the ABN system:

… if you do not have an ABN and you want to supply somebody with an Australian business number, they then apply a withholding tax to the payments and send it off to the ATO. The strength of the ABN is that if you want to stay in the black economy you have to stay in it in its entirety. You cannot interface at any stage with any state or federal bureaucracy, because as soon as you do you will be asked for an ABN. If you deal with any business, you will be hit with a withholding tax.

The other side is that the compliance cost for business is probably going to be quite significant as a consequence. [13]

14.12 Professor Warren brought to the Committee's attention, anecdotal evidence on a form of `institutionalised' cash economy which is operating in Australia. He described a situation where some task with a very low hourly-rate, is being carried out for cash - the alternative being, that if required to pay tax, the workers would choose to simply stop work and apply for the dole. In the present highly competitive labour market, it is unlikely that they could command a higher pay rate. [14]

14.13 In a submission to the Committee, Professor Quiggin sought to clarify the nature of the cash economy (or, as he termed it, the hidden economy). He referred to estimates which commonly set the value of the cash economy at 5-10% of GDP. [15]

14.14 Professor Quiggin explained that the bulk of this sector is not made up of people working completely outside the tax system - he noted that the Tax File Number system had caught most of that group. He said the great majority of those in the cash economy are self-employed and small business people, who claim all of their expenses but keep some part of their income as unreported cash sales. Professor Quiggin noted that the introduction of the GST would not change this situation.

14.15 Similarly, he said, the switch from income taxes to indirect taxes will not change an evader's ability to avoid paying tax. Nor will it stop the consumers who connive with service providers by accepting a discount in exchange for unrecorded cash payment.

14.16 The Business Coalition for Tax Reform (BCTR) was more hopeful. In its evidence, BCTR predicted that the GST would help the Taxation Office in its attempts to detect those using the cash economy:

The proposals in `A New Tax System', however, are very likely to reveal to the tax authorities a sizeable portion of the cash economy. That is because of the nature of the GST and the proposal to link GST returns with income tax returns, the improved reporting requirements associated with the Australian business number proposal and the uniform nature of the proposed pay as you go system. Those factors combine to give good reason to think that there will be a degree of the black economy which is taxed under the proposals in `A New Tax System' which currently fall through the net. [16]

14.17 BCTR considered that the extent of the cash economy is larger than estimated by Treasury. The Coalition went through a process of estimating the total size of that sector, then halved the result. Even this conservative figure was above the Treasury estimate. BCTR referred also to the experience of New Zealand:

… their experience is that the introduction of a comprehensive goods and services tax and the mechanisms associated with that even in New Zealand exposed a much greater black economy than they have anticipated. Of course, the proposals in `A New Tax System' go much beyond the proposals adopted in New Zealand because of the whole system of the integration of the income tax and the GST returns, the Australian business number proposal and so on. [17]

14.18 The ACTU was sceptical that the introduction of the New Tax System would be successful in reducing access to the cash economy:

Let me just say that, in terms of the alleged benefits of reaping the windfall from the black economy, our paper points out … that these so-called gains that you get have not been obvious in countries that have introduced the GST. In fact, it is often an incentive to the black economy rather than the reverse. [18]

14.19 The group Australian Options queried whether it was necessary to so drastically change the system of taxation, rather than revise the present system:

In approaching tax reform for Australia, I think we need to remind ourselves, and definitely the parliament needs to remind itself, that as an economy, as a nation, we have never been richer, and it is within that context that we need to consider tax reform. We need to look at the areas that have been abandoned and which were key elements of a progressive taxation system rather than say, `Okay, we are having difficulty in collecting this tax' or `Somebody does not want to pay their tax, so we need to concoct some other system.'

14.20 The President of the National Taxation and Accountants Association (Mr Regan) said:

If I am a restaurateur and I am currently putting $1,000 in my pocket just dealing with other people, dealing with the black economy, now I am going to put $1,100 in my pocket. If I want to cheat the tax system, all I need to do is buy my paintings through the boardroom of the business and I am going to start getting input credits that I would not get before.

The bottom line is that tax evasion in Australia - whether it be through prostitution, drug money or sophisticated transfer pricing - is done through very orchestrated, controlled operations. These organisations will gleefully smile. Look at the experience in England particularly, and it is documented experience; look at the experience in Italy; look at the experience in Israel - all of them have shown that the black hole cash economy simply grows. In all fairness to the ATO, they just do not have the resources and the wherewithal to control that. That is why it is already out of control.

14.21 Mr Regan expressed concern about the draconian nature of the 'catch-all' anti-avoidance provision in the proposed GST legislation. He noted that the provision gave to the Taxation Office quite extraordinary powers:

… when I look at the anti-avoidance provisions I see … the wish list of Australian Taxation Office. It wants the ultimate interference on small business. It wants to tell you that, if you have entered into a transaction, you did not enter into it, or if you did not enter into it, you did. Subsection 165-55 simply is legislation that is out of control. If we are to have businesses that feel comfortable to make decisions, to employ staff and to invest capital, you cannot have a position where the tax department, unintentionally or intentionally, is going to disrupt business. That subsection needs to be rewritten and the government needs to work with organisations such as us and other bodies to make sure that it will not have unintended consequences. [19]

Footnotes

[1] See terms of reference at p.v

[2] ANTS, pp.33 and 150.

[3] Evidence, p.14.

[4] ANTS, p.150.

[5] Evidence, p. 682.

[6] Evidence, p. 430.

[7] Evidence, p.1043.

[8] Evidence, pp.15 and 94.

[9] Evidence, p.16.

[10] Evidence: Committee Hansard, 5 March 1999, p.1765.

[11] Evidence: Committee Hansard, 17 December 1998, p. 94.

[12] Evidence: Committee Hansard, 3February 1999, p.627.

[13] Evidence: Committee Hansard, 17 December 1998, p. 102.

[14] Evidence: Committee Hansard, 17 December 1998, p. 103.

[15] Supplementary Submissions, Vol.1, pp.6-7.

[16] Evidence, p.627.

[17] Evidence, p.628.

[18] Evidence, p.682.

[19] Evidence, p. 1827.