by Nick Stewart
As the election approaches and attention inevitably moves towards tax (and who is promising what), I have noticed an uptick in questions about bracket creep.
As buying power falls, wages typically rise responsively to compensate for more expensive living costs. What you saw in your payslip ten years ago is likely not the number you see today, and that is merely a reflection of inflation over a period of time.
Prices go up, wages go up. Seems balanced.
Except.
If wages go up and income tax is not adjusted accordingly for inflation, you end up with people in a higher tax bracket than appropriate given the actual buying power of their money. You may have more on paper, but moving to a higher tax bracket can mean the value of your take-home pay is less or the same.
This is what is referred to as bracket creep, or fiscal drag. You end up paying more tax than you otherwise would, which quietly eats away at the buying power of your earnings.
It can reduce the incentive for people to work harder or for longer hours. Us Kiwis like to follow the humble adage of “do the mahi, get the treats.” We understand that hard work, quite literally, pays off. But if folks are working harder with no tangible reward, what incentive is there for them to keep advancing in responsibility, skill or hours? Pride of a job well done does not line the pockets quite so well as dollars earned (and kept), especially for those with a hefty non-deductible home mortgage on their shoulders.
This also applies to the unemployed or under-employed. It can take away the incentive to re-enter the workforce at all. Again, why work hard just to go nowhere?
Bracket creep is bad news for the economy because these issues can drive down growth and limit long-term tax revenue potential. It undermines the public’s trust in their institutions, and often leads to creative accounting methods to avoid paying higher income tax rates.
At the moment, the tax brackets are:
· $0-$14K: 10.5%
· $14K-$48K: 17.5%
· $48K-$70K: 30%
· $70K-180K: 33%
· $180K and over: 39%
For over 130 years New Zealand has seen this form of progressive tax structure, where those with higher levels of income paid a higher rate of tax on their personal earnings, although it is only of late that the steepness of the curve has captured so many earners. Within living memory, an individual on $60k was deemed ‘rich’. Much was made at the time of the colourful political jibes during the early 2000’s, as the upper bracket was debated.
In their second quarter job market update, TradeMe reported that, for the first time, New Zealanders are earning an average of just over $70K – with the regions on the rise, including Hawke’s Bay. Employers are working hard to make salary offerings competitive, even as job listings overall fell during the same period.[i]
This puts those earning around that average (just barely) into the second highest tax bracket. With NZ’s progressive tax scale, that means anything they earn over that $70K will be taxed accordingly at 33%.
In a recent Rate Indexation release, the Taxpayer’s Union recommended inflation adjusted brackets which included shifting the 30% threshold to cover $63K-$91K – which, if we think of the TradeMe figures, would put mid-range earners at less risk of creeping into the next bracket (and could therefore incentivise climbing the income ladder). [ii]
It does not make sense for costs and wages to climb while tax brackets remain unchanged, since the current system was implemented in 2010... barring the more recent addition of the 39% bracket under Labour.
2010, for reference, was the year the first iPad was released.[iii] Imagine if Apple had stopped there, as successive Governments have regarding our income tax.
If you are worried about bracket creep impacting your future earnings, there are some options open to you. While uncommon in NZ, one possible route is salary sacrificing. If your salary would put you at a tax disadvantage, are you able to swap part of your cash pay for benefits instead? Think childcare benefits, higher KiwiSaver contributions, gym membership, car parking, travel allowance, insurance cover; things that will reduce the draw on your take-home pay, without actually bumping up the taxable dollar amount. This is best done under advisement from a tax accountant or financial adviser. The last thing you want is to save some today, only to hand it back at tax time.
As with most fiscal matters, knowledge is power. If you know how tax creep will impact your buying power then you can start to work around it. That may look like picking up a side gig or cutting down on spending if possible.
As we roll into our seventh year of the Canny View column, I believe our regular readers may know where I’m going with this... You need a plan.
There are limited ways to control bracket creep at an individual level. It’s a policy issue (which we may see more on as the election gears up later this year). Focus on what you can control – get a solid plan in place for your financial future, which takes into account your situation today. Sitting down with a trusted fiduciary to discuss the best options for your goals, lifestyle and timeframe is a great place to start.
Don’t let that creep get you down.
· Nick Stewart (Ngāi Tahu, Ngāti Huirapa, Ngāti Māmoe, Ngāti Waitaha) is a Financial Adviser and CEO at Stewart Group, a Hawke's Bay-based CEFEX & BCorp certified financial planning and advisory firm. Stewart Group provides personal fiduciary services, Wealth Management, Risk Insurance & KiwiSaver scheme solutions. Article no. 314.
· The information provided, or any opinions expressed in this article, are of a general nature only and should not be construed or relied on as a recommendation to invest in a financial product or class of financial products. You should seek financial advice specific to your circumstances from a Financial Adviser before making any financial decisions. A disclosure statement can be obtained free of charge by calling 0800 878 961 or visit our website, www.stewartgroup.co.nz
[i] https://www.trademe.co.nz/c/jobs/news/average-salary-in-aotearoa-cracks-70-000-for-the-first-time
[ii] https://www.taxpayers.org.nz/bracket_creep
[iii]https://en.wikipedia.org/wiki/2010#:~:text=From%20top%20left%2C%20clockwise%3A%20the,explosion%20and%20subsequent%20oil%20spill
