Using beer to explain tax and equality

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The political focus in Australia is on the Abbott Goverment’s budget which was released on Tuesday this week, and the Governments Treasurer Joe Hockey was yesterday quoted saying  “You can spend just over $3 on a middy of beer, so that’s two middies of beer to go to the doctor” in reference to a reduction in Medicare benefits many Australian’s receive.

Is it right to bring beer into the debate? It has triggered social media sharing of an article which went viral on email chains several years ago.

This morning I read the article titled ‘The Tax System Explained in Beer by David R. Kamerschen, Ph.D. – Professor of Economics.’. Kamerschen however denies writing this article and the original author is unknown. Article http://www.ijreview.com/2014/05/138011-tax-system-explained-beer-2/ Statement from Kamerschen http://davidk.myweb.uga.edu/

 

The story starts off with a share of the beer tab divided up the same way the population pay taxes

“The first four men (the poorest) would pay nothing. The fifth would pay $1. The sixth would pay $3. The seventh would pay $7. The eighth would pay $12. The ninth would pay $18. The tenth man (the richest) would pay $59.”

The anonymous author then struggles to equate equality over a population within the global ‘sweet spot’ taxation rates on incomes.

In Australia, assuming we are using the whole population and not just talking a luxury item such as beer which would also be restricted to 18+.

If each of people at the bar (5 men and 5 women) accounts for 10% of the population each, their share of a $100 beer tab (the hypothetical tax on their income) would be as follows;

The first 7 people (the poorest) earn less than $18,200 and pay nothing, the 8th person would pay $20.80, the 9th $33.55 and the 10th (the richest) would pay $45.70.

If the bar tab was reduced to by $20 / 20% to $80 for each day I have calculated the split to be as follows

The first 7 people still pay nothing, the 8th person would pay $14.25 (saving $6.55 / 31%), the 9th $25.00 (saving $8.55 / 25%)  and the 10th $40.75 (saving $4.95 / 11%)

 

But how have I worked this out?

Rather than taxing the income earners a higher percentage on each dollar they earn, I did what a smart government would do and adjusted the income level thresholds for each tax rate.

For 2013-2014 tax year Australian income earners pay tax depending on their income level as follows;

For the first $18,200 any Australian resident earns they pay no tax, for every dollar they earn between $18,200 and $37,000 they pay 19 cents tax, for every dollar between $37,001 and $80,000 they pay 32.5 cents tax, for every dollar between $80,000 and $180,000 they pay 37 cents tax, and for every dollar over $180,001 they pay 45 cents tax.

The tax brackets are cumulative, A resident earning over $180,001 still receives their first $18,200 tax free, but as each of their dollars are taxed in the intermediate brackets they pay $54,547 tax in addition to the 45 cents taxed on every extra dollar they make over $180,001. To summarise someone earning exactly $180,001 would pay 30.3% ($54,547) tax on their income.

About two thirds of the Australian population either do not earn an income or are below the taxable income threshold of $18,200 (Half of which are either under 14 or over 65) – The remaining third of the population earn various incomes above the threshold.

In the story of the bar tab, we split the population into 10% groups represented by 1 person each, just 3 people at the bar are income earners who pay a taxable income. For my modelling I used the 2011-2012 ATO statistics on taxable incomes, and I have calculated an average wage for each of them as follows;

Persons 1-6 earn no taxable income, Person 7 earns $6,000 a year (tax free), Person 8 earns $37,000 ($3,572 / 10% tax on their income), Person 9 earns $50,000 ($7,797 / 16% tax on their income), and Person 10 earns $75,000 a year ($15,922 / 21% tax on their income).

Using the above taxes paid and distributing across a $100 bar tab, we come up with the first figures;

“The first 7 people (the poorest) earn less than $18,200 and pay nothing, the 8th person would pay $20.80, the 9th $33.55 and the 10th (the richest) would pay $45.70.”

The tax revenue of the 10 people (3 tax payers) was $27,291 – in our hypothetical bar tab situation ($100), be now only need to collect 80% of this. We need to now raise $21,832 a year in tax… but who gets the tax cut?

I go back to the tax rates paid in Australia, not changing the cents per dollar but rather focusing on adjusting the thresholds for each bracket – to do this properly we need to perform a balancing act looking at various factors like the cost of living, government benefits and where the taxable income earners fall into a bell curve. I have made some rough estimates to outline the strategy to achieve this.

The current tax brackets previous stated are as follows;

“For the first $18,200 any Australian resident earns they pay no tax, for every dollar they earn between $18,200 and $37,000 they pay 19 cents tax, for every dollar between $37,001 and $80,000 they pay 32.5 cents tax, for every dollar between $80,000 and $180,000 they pay 37 cents tax, and for every dollar over $180,001 they pay 45 cents tax.”

An estimated proposal would be as follows; (Grant me at least a +/- 0.3% tolerance for working with round numbers)

For the first $24,500 any Australian resident earns they pay no tax, for every dollar they earn between $24,500 and $40,000 they pay 19 cents tax, for every dollar between $40,001 and $90,000 they pay 32.5 cents tax, for every dollar between $90,000 and $200,000 they pay 37 cents tax, and for every dollar over $200,001 they pay 45 cents tax.

There is no change for persons 1-7 and they still pay no taxes. Person 8 who earns $37,000 now pays $2,375 / 6% tax on their income, Person 9 who earns $50,000 now pays $5,624 / 11% tax, and Person 10 who earns $75,000 now pays $13,749 / 21% tax. A total tax revenue of $21,748 (Just $84 / 0.3% shy of the target).

Each person’s share of the tax revenue makes me arrive at the following statement.

“The first 7 people still pay nothing, the 8th person would pay $14.25 (saving $6.55 / 31%), the 9th $25.00 (saving $8.55 / 25%) and the 10th $40.75 (saving $4.95 / 11%)”

Fair share of the $80 bar tab? I think so.

Further food for thought: In the original article it was 10 men, I corrected using Australia’s almost 50/50 population of Females and Males, however in the scenario due to the unfair distribution of incomes in Australia they would likely be distributed as follows. Persons 1-7 have a 57% chance of being female, Person 8 has 40% chance of being female, Person 9 has 36% chance of being female and Person 10 has just 30% chance of being female.

 

We still have a long way to go to achieve equality!

 

 

 

 

 

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