The CHAIRMAN - I now welcome Ms Claire Thomas and Mr Brett Rowse. The Taxation and Revenue Policy Branch of Treasury is responsible for development and implementation of tax and revenue policy in Victoria, including the preparation of forecasts of income from taxes, fees and fines and the achievement of budget outcomes. The areas of expertise of Ms Thomas and Mr Rowse include developments in the commonwealth grants system and tax reform, particularly developments since the recent excise decisions of the High Court of Australia. Ms Thomas, would you like to speak first?

Ms THOMAS - I will speak for both of us, but Brett is available particularly for questions on the intergovernmental relations side of things.

I have been asked to speak about the implications of the recent High Court decision on section 90 of the constitution for, in particular, tax reform and our federal imbalance. I must say this is a very timely seminar in that obviously tax reform is not only an important topic of conversation at present but tomorrow there is a meeting of the Council of Australian Governments at which the Prime Minister, the premiers and chief ministers will be sharing their views about tax reform and reform of federal and state finances.

I shall talk a little about the High Court's recent decision in relation to section 90 of the Australian constitution. That decision led to the states and territories collectively abandoning some 17 per cent of their tax revenues. It was indeed a significant decision; it was by a narrow majority of the court and had it gone the other way the states might now be contemplating broadening their consumption tax bases and perhaps quitting some of those taxes which Professor Norman has mentioned as particularly distortional and inequitable. However, that was not the case, and instead the states are now in a more mendicant position than ever before.

I have prepared a few slides to give some history of the development of the states' tax bases because I think it helps to throw things into perspective.

Slides shown.

The first slide shows the changes in the composition of state taxes over the period since 1970. We started with a very narrow range of taxes on three bases - motor vehicles, stamp duties on various transactions and taxes on property which included land tax and, at that time, probate duty. Since that time the states' tax bases have expanded to encompass a number of other taxes. They include, firstly, payroll tax which was transferred from the commonwealth in 1971. Subsequently financial institutions taxes were also transferred from the commonwealth during the 1980s and 1990s. Gambling taxes have also grown somewhat over the period in Victoria with the introduction of electronic gaming machines and the new casino - and that would be most evident in recent years.

However, the biggest growth of all has been in our business franchise fees on liquor, tobacco and petroleum products. In 1971, franchise fees applied to liquor only and represented just 3 per cent of total taxation revenue. A decade later business franchise fees had also been imposed on tobacco and petroleum products and had grown to 9 per cent of our total revenue. This slide relates to Victoria but gives a picture that is common to all states. One decade later in 1991 franchise fees represented around 12 to 13 per cent and by 1996-97, some 17 per cent of our total tax revenues.

The next slide traces the trends in four major tax bases over that time and illustrates how tax reliance on labour and property have declined over that period while at the same time reliance on transactions taxes and franchise fees has grown. The next slide shows that these trends have occurred against a backdrop of the states receiving a declining share of commonwealth revenues. It shows that a decade ago commonwealth payments to the states represented about 8 per cent of the economy. Today, they represent less than 6 per cent. State taxes have had to grow to fill in the gap and, as I have noted, franchise fees were the fastest growing of the states' taxes which had evolved to fill that gap. Today they are gone.

The next slide indicates that, as you all know, section 90 bars the states and territories from the collection of duties of customs and of excise. In the past state franchise fees have been challenged a number of times. However, up until the last challenge those fees survived partly on the ground that the court concluded that the fees were of a regulatory nature. You will see how we quickly found that tobacco franchise fees grew from just 2.5 per cent of the wholesale sales value of tobacco to 100 per cent in the mid-1990s. At that rate the High Court concluded by a narrow majority that those fees were clearly no longer a regulatory fee but were a tax on goods and were therefore invalid under the constitution.

The case concerned only tobacco; however, states and territories were advised by their Solicitors-General that this left sufficient doubt about the constitutional validity of the other franchise fees that there was little choice but to cease collecting them also. That has occurred, and in the current financial year all states and territories are repealing their franchise fees legislation.

The next slide shows the size of the loss for all the states and territories. Some $5 billion was lost as a result of that case. The slide gives you a distribution among the three bases with tobacco obviously the largest revenue raiser, followed by petroleum and liquor, the smaller of the three.

The next slide points out that under temporary safety net arrangements the commonwealth has agreed to and has put in place replacement taxes on each of those bases and is returning the revenues gained from that to the states. I stress that these arrangements are only temporary. They will not be sustainable and there is a clear commitment by the commonwealth, states and territories to find a more permanent revenue replacement solution.

The next slide illustrates the point that Professor Norman made that we already had a very high degree of fiscal imbalance; the states raised a very small proportion of total revenue but were responsible for almost half of total expenditure. Since the loss of franchise fees that situation has become even worse. The states now raise just 21 per cent of revenue and are responsible for 40 per cent of expenditure. They, therefore, raise only half of what is needed to meet the states' expenditure responsibilities.

The next slide illustrates how severe that imbalance is compared with other federal systems. Canada and Germany are also illustrated. In both of those federations the subnational governments raise around 90 per cent of the revenue they need for their expenditure responsibilities. In Australia, before the High Court case, about 60 per cent was raised; now, around 50 per cent of the revenues required for expenditure responsibilities is raised.

The next slide illustrates how big a slice has gone from our tax pie. It also illustrates that the taxes the states and territories are left with are predominantly taxes on business inputs and on narrowly based transactions, particularly mobile capital transactions. These are relatively insecure state tax bases into the future as capital becomes more mobile. In the loss of business franchise fees the states have lost their only pseudo-consumption taxes, if you like. This highlights the importance, in the forthcoming dialogue on reform of national taxes, of including reform to the states' taxes in national tax reform and of addressing the problem of the federal imbalance at the same time because that imbalance will only worsen unless it is addressed at the same time as national tax reform.

The CHAIRMAN - Thank you for your presentation, which I am sure everyone has fully appreciated.

Witnesses withdrew.