Policy Research Paper No 29

8/9/2019 Policy Research Paper No 29

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The Social Security Review

Background/Discussion Paper No.5

Issues in Assistance for FamiliesHorizontal and VerticalEquity Considerations

Social Security ReviewDepartment of Social Security

PO Box 1WODEN ACT 2606


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Issues in Assistance for FamiliesHorizontal and Vertical Equity

Considerations

Peter Whiteford

Research Paper No.29Research and Statistics BranchDevelopment DivisionDepartment of Social SecurityAugust 1986


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This series of background and discussion papers incorporateswork undertaken as part of the Social Security Review.

The papers are intended to provide background research andother information which will form the basis for discussion andconsideration of various available options for reforming thesocial security system.

The views expressed in these papers are those of individualauthors and are not necessarily those of the Social SecurityReview, the Department of Social Security or the Minister forSocial Security.


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The author of this paper is PETER WHITEFORD formerly of thePolicy Review and Co-ordination Branch of the DevelopmentDivision, and currently at the Social Welfare Research Centreat the University of New South Wales. An earlier version ofthis paper was presented at the Social Welfare Research Centrein November 1985.

This paper builds on previous work carried out in the

Development Division. I am particularly grateful for theassistance provided by Jim Moore. Ann Harding, Alan Jordan,Carol Oxley and Frankie Seymour have also contributedsignificantly. Special thanks also to Deborah Atkinson forword processing. Helpful comments have been received fromother officers of the Development Division. I alone amresponsible for any errors, and the views expressed are my own.

ISBN 0 642 51636


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ISSUES IN ASSISTANCE FOR FAMILIES -HORIZONTAL AND VERTICAL EQUITY CONSIDERATIONS

Peter Whiteford

SUMMARY

The Australian system of income support for families withchildren covers 2.5 million families with 4.3 million childrenand is therefore of crucial significance to the welfare ofAustralian families. This paper describes the main features offamily income support programs and identifies currentconcerns. The programs analysed include family allowances,which is the major form of income support for all families,income support arrangements for pensioners and beneficiarieswith children, and various forms of tax relief for taxpayerswith dependants.

The paper argues that tax and social security programs shouldnot be thought of as inherently different measures coveringdifferent groups, with social security being some sort ofresidual system. Social security payments like taxationallowances are simply policy instruments to achieve certaingoals. Common perceptions that social security increases are aburden to the community, while tax reductions are a benefit,disguise the essential similarity of the effects of theseprograms, and can lead to inappropriate policy conclusions. Inparticular, when tax cuts or increases in tax rebates are beingproposed, consideration should also be given to increases insocial security payments, so that people with children do notfall behind in relation to those without children.

The paper looks in detail at the example of family allowances.Until 1976 most taxpaying families received tax deductions orrebates for their children, as well as smaller child endowmentpayments. The lowest income groups, who paid no tax. onlybenefited from the small child endowment payments. Now incontrast, all payments are at the same level irrespective ofincome and the payment goes to the person with the majorresponsibility for caring for children - the mother. Thusrather than being a welfare measure that goes to the rich,family allowances can be considered as a general tax measure

that provides additional assistance to the neediest.The major concern that can be expressed with currentarrangements is with the level of support provided. The paperargues that by any standards, support for families in generaland for low income families in particular is inadequate.Assistance for average income families is low by internationalstandards. In 1978 Australia provided the fourth lowestrelative level of assistance for average families of 19 OECDcountries. In 1982. even after family allowances had beenincreased by 50 per cent, this ranking had dropped to secondlowest of 21 OECD countries.


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Concern with low income families has been prompted by theincreasing number of children for whom income-tested paymentsare made, increasing from 370,000 in 1976 to nearly 855.000 in1985. or from 8.6 per cent of children to 19.8 per cent. Whilesome of this increase comes from positive government actions toextend assistance to needy groups, there are now more than100.000 children in Australia whose parents have beenunemployed for than a year, and more than 300.000 childrenwhose parents have been reliant on sole parent pensions formore than a year.

Moreover, a wide range of Australian and international researchon the costs of children suggests that the allowances forchildren of pensioners and beneficiaries are relatively low.Currently, additional pension/benefit plus family allowancesfor one child amounts to 12 per cent of the married rate of

pension or benefit. Australian research suggests that theappropriate relative payment should be 16 per cent ($7 p.w.more), overseas research suggests the figure should be 20per cent ($14 p.w. more), while the OECD suggests a figure of29 per cent ($30 p.w. more). In addition, this researchsuggests that the direct costs of children at least doublebetween infancy and being a teenager. This increase in costsis recognised very imperfectly by the current structure offamily allowances.

Finally, analysis of trends over time in the real value offamily income security programs shows significant declines inassistance over the past decade. Family allowances are now29 per cent lower in real terms than in 1976. and despitesubstantial increases in the last three budgets, additionalpension/benefit is still 4 per cent lower than in 1976 andmother's/guardian's allowance is 19 per cent lower. As aconsequence of these and other trends, the real value of totalsocial security payments for all sole parent pensioners andpensioner/beneficiary couples with four or more children is nowless than in 1976. In contrast, the real value of theafter-tax incomes of most wage and salary earners is greaternow than in 1976, although with the exception of Family IncomeSupplement recipients the increases are smaller for largerfamilies. Thus, these trends would have tended to widen the

gaps between the incomes of families with and without childrenand in particular between the poorest families and the rest ofthe community.

The paper also discusses arguments for universality andselectivity in family assistance programs. The major argumentfor income-testing of family allowances and/or tax rebates isthat at times of tight budgetary restraints, this is the onlypractical means of increasing assistance for low incomefamilies. This argument has some force, but a number ofcontrary points can be made. First, the suggestion that familyallowances should be income-tested is based on the idea thatall payments from the Department of Social Security should berestricted to the poor. This overlooks the fact referred to


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earlier that in essence family allowances ace a general taxmeasure. Those families who lost their family allowanceentitlement would effectively have their tax burden increasedeven though there would appear to be no reason why only those

with children should pay more.

Finally, the paper asks whether or not current familyassistance programs are progressive (ie. provide greaterbenefit to lower income families). The findings include:

nearly 50 per cent of current spending on total familyincome support (on both universal and income-testedpayments) goes to the 20 per cent of families with thelowest incomes;

the benefits of family allowances are distributed over

the life-cycle, from periods when people do not havechildren to care for, to periods when they must meetthe additional costs of child rearing; and

both child payments and some forms of tax reliefincrease the disposable income of families withchildren. recognising the greater needs of thosefamilies at all income levels.


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ISSUES IN ASSISTANCE FOR FAMILIES

HORIZONTAL AND VERTICAL EQUITY CONSIDERATIONS

PETER WHITEFORD


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(ii)

"The effects of a tax depend upon what it is.not what it is meant to be ..."

R A MUSGRAVE, 1959. V.


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(iii)

CONTENTS

1.

2.

2.1.

2.2.

2.3.

3.

3.1.

3.2.

3.3.

4.

4.1.4.2.4.3.

5.

INTRODUCTION - THE SOCIAL SECURITY REVIEW

THE INTERACTION OF THE TAXATIONAND SOCIAL SECURITY SYSTEMS

Current provisions affecting familiesParallels and overlaps - the tax-transfersystem

Perceptions and presentational issues

OBJECTIVES OF FAMILY ASSISTANCE

Ability-to-pay and horizontal and verticalequity in the tax systemCriteria for evaluating social securitypoliciesPrivate choice and public support

CURRENT CONCERNS

Adequacy of paymentsFamily assistance and social changeUniversal or selective support

SUMMARY AND CONCLUSIONS - RESEARCH QUESTIONSIN FAMILY INCOME SUPPORT

BIBLIOGRAPHY

PAGE

1

4

4

8

17

22

22

2427

31

313643

48

52


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1. INTRODUCTION - THE SOCIAL SECURITY REVIEW

In November 1985 the Minister for Social Security, the Hon.Brian Howe M.P.. announced the establishment of a two-yearreview of aspects of the Australian social security system.This Review is to be conducted by Professor Bettina Cass,seconded from the Social Work Department of the University ofSydney, and by the Development Division of the Department ofSocial Security.

In a paper for a seminar on Income Distribution. Taxation andSocial Security: Issues of Current Concern held at the SocialWelfare Research Centre in November 1985. Professor Cassdiscussed the case for the review, pointing out the majoreconomic, social and demographic changes that have occurredover the past decade and which have significant implicationsfor the social security system. These changes include therapid increases in the rate and duration of unemployment,

changes in the distribution of unemployment, an increase in thenumber of sole parent families, the large increase in thenumber of families with children dependent on pension orbenefit, and changes in the composition of the population inpoverty as defined by the Henderson poverty line (Cass, 1986,pp. 6-10).

The Social Security Review is to examine the following areas:

Coverage: Is existing coverage appropriate? Are theboundaries of historically established categories ofeligibility still relevant? Are all socially recognised

needs included?Adequacy: Are existing payment levels adequate in view ofrecipients' varying needs and circumstances?

Targeting: Are existing programs targeted effectively?Is there a case for targeting new programs and additionalpayments more closely on the most vulnerable groups in thepopulation? What are the most equitable and efficientmeans of targeting income security programs? What are thesocial and economic costs of targeting mechanisms?

Redistribution of income: Does the income maintenance

system, in conjunction with other programs, facilitate moreequal access to income and opportunities?

Opportunities for employment, earning income and saving:What are the effects of income maintenance programs onpeople's aspirations and opportunities to becomeself-supporting?

Simplicity and access: Can the system be readilyunderstood and does it facilitate people's access to theirentitlement? Can it be administered fairly and effectively?

The mix of public and private income support for the agedand retired: What are the most equitable combinations ofinsurance-based retirement programs, private savings and

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income security measures which will provideand adequate support for aged peoplecircumstances?

comprehensivein various

Community awareness: Is there widespread understanding ofthe central role of the social security system inredistributing income and opportunities for participationin society? This is a particularly important issue, boundup with the necessity to scrutinise and reject the viewthat social security recipients constitute a separate anddistinct category from taxpayers. Not only is thereconsiderable overlap and continuity at any one time andover any single year between beneficiaries and taxpayers(bringing into question the distinction between the"supporters" and the "supported") but a longer viewilluminates continuities over the life-cycle (Cass. 1986.pp. 10-11).

The Review will focus on three main areas - income supportpolicies for families with children, social security policiesand workforce participation in relation to the unemployed, soleparents and disabled people, and the connections between socialsecurity and insurance-based income support measures for theaged, notably superannuation.

The key issues identified in the area of income support forfamilies include the income support needs of children in allfamilies (both single and two parent), the question of whetherand how increased assistance for children should be targetedtowards families within particular categories of need, and the

determination of the relative merits of cash payments andtaxation assistance in child income support. The Review willalso examine the most appropriate and adequate mix of supportfor families, taking into account income-tested payments forthe parent, the range of universal and targeted transfers forchildren. and the role of child maintenance payments inincreasing the overall adequacy of the income of sole parentfamilies. Finally, the question of beneficiaries' transitionto workforce participation will be explored, so as to identifyprograms which might facilitate such participation (Cass,1986. pp. 11-12).

The purpose of this paper is to provide a preliminary

discussion of issues relevant to the review of family incomesupport.

The first part of the paper describes the major features of thepersonal income tax and social security systems in Australia,discussing the parallels between the two systems and analysingtheir interaction.

The paper then discusses the traditional criteria of equity,efficiency and simplicity, concentrating on the issue ofhorizontal equity - the concern that people in likecircumstances should be treated alike - and discusses what this

implies for the treatment of families within the tax-transfersystem.

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The paper reviews a number of important measures - familyallowances, the dependent spouse rebate, and income-testedsocial security payments for families with children - andraises a number of often expressed concerns with thesearrangements. Major concerns with current programs include theinadequacy of assistance to low income families with children,the cost of providing universal assistance to familiesregardless of their income, questions of the relevance of theassumptions underlying these programs to contemporary familyarrangements, the effects of these programs on incentives towork. and the appropriateness of the structure of theseprograms. The paper concludes with a brief discussion ofissues that might be considered to require further research andanalysis in the review.

Some limitations of the scope of this paper should be noted.The paper concentrates on the role and objectives of certain ofthe structural features of the personal income taxation and

social security systems. Cash transfers paid by the Departmentof Veterans' Affairs are not discussed, nor are importantservices such as the provision of child care. The paper doesnot deal in detail with the complex and important issues ofsocial security assistance to sole parent families which willbe addressed as part of the review. In a paper dealing withhorizontal equity, it is virtually impossible to avoid theissue of the appropriate unit for taxation and social securitypurposes, but in this paper that important issue is approachedindirectly rather than explicitly. Finally, in discussing theconcept of "need", the paper concentrates on the relative needsof different types of families or income units rather than the

fundamental issue of determining needs in relation to someconcept of poverty.

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2. THE INTERACTION OF THE TAXATION AND SOCIAL SECURITY SYSTEMS

2.1 Current provisions affecting families

The activities of Government have a profound influence on thedistribution of income in Australian society.

Governments use a wide range of measures to influence thedistribution of income and economic well-being. An almostcertainly incomplete list of such policies would includecentralised wage fixing, tariff and other forms ofprotection. immigration controls. foreign investmentreview, business regulation, capital market controls, freetertiary education, a whole host of policies to supporthome ownership, agricultural policy, and attemptedequalisation between States in the standards of publicservices on the basis of the reports of the CommonwealthGrants Commission (Centre of Policy studies, 1985.

pp. 13-14).

The two key instruments of distributional policy, however, arethe taxation and social security systems. The taxation andsocial security systems are of particular significance, firstbecause of the scope of these two systems and the number ofpeople affected by them, and second, because taxation andsocial security policies are usually regarded as servingexplicit distributional goals. One of the most importantaspects of these distributional objectives is to promote thewell-being of families.

Directly and indirectly, the Government promotes the welfare ofall Australian families through a range of social security andtaxation measures. Programs specifically directed towardspersons with responsibility for children include:

The dependent spouse tax rebate (DSR) which is available totaxpayers with a financially dependent spouse, with ahigher rate being payable to persons with one or morechildren.

The sole parent rebate (SPR). for sole parent taxpayerswith dependent children.

Family allowances, a non-income-tested, non-taxable paymentto all families with eligible children.

Multiple birth payments, a non-income-tested, non-taxablesupplement to family allowances, payable to parents oftriplets and quadruplets (and higher multiples) until thechildren reach six years of age.

Handicapped child's allowance. a supplement to familyallowances paid to a parent or guardian of a mentally orphysically handicapped child or dependent student.

Double orphan's pension, which may be paid to a guardian orinstitution caring for an orphan.

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Additional pension or benefit for children. anincome-tested. non-taxable payment to social securitypensioners and beneficiaries with eligible children.

Family income supplement (FIS). an income-tested,

non-taxable payment similar to additional pension orbenefit for children but paid to low income, non-pensioneror non-beneficiary families with eligible children.

Sole parent pensions, which include supporting parent'sbenefit and Class A widow's pension for single persons withchildren.

Mother's/gauardian's allowance. an income-tested.non-taxable supplement for sole parent pensioners andbeneficiaries.

Additional allowances in respect of children of recipientsof zone rebates and remote area allowances, a tax rebateand social security payment respectively for persons livingin certain remote areas.

Details of these programs are summarised in Table 1.

Apart from these programs specifically directed towards personswith responsibility for children, there is a wide range ofadditional programs whose rationale or structure reflects otheraspects of family composition and which necessarily have amajor impact on the well-being of different types of families.These programs include:

Age and invalid pensions, which are paid either at the"standard" rate to single persons or the "married" rate toeach of an eligible couple. The single rate is 60 per centof the combined married rate in recognition of theeconomies of household sharing.

Wife's pension, which may be paid to the wife of an age orinvalid pensioner if she is not eligible for a pension inher own right.

Carer's pension, which is payable to people providing longterm care for a spouse or a near relative who is a severelyhandicapped age or invalid pensioner, when the carer is notin receipt of age or invalid pension in his or her ownright.

Class B widow's pension, which is payable to certain older"single" women who do not or no longer have dependentchildren.

Unemployment, sickness and special benefit, which is paidat the same rate as the combined rate of pension to personswith spouses. Benefit payments differ from those forpensioners, as beneficiaries generally receive the entire

amount in one hand, whereas payments for pensioners aresplit between the spouses.

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TABLE 1 : PROVISIONS FOR FAMILIES IN THE TAXATION AND SOCIAL SECURITY SYSTEMS

PROVISION

DependentSpouse Daughter/Housekeeper Rebate- w i t h c h i l d r e n- w i t h ou t c h i l d r e n

Sole Parent Rebate

Family Allowances

M u l t i p l e B i r t h

Payments

Additional Pensionf o r C h i l d r e n

Additional Benefitfor Children

Fam i ly IncomeSupplement

ELIGIBLE GROUP

Taxpayers w i th afin anci ally dependentspouse, w ith andwithou t dependentchildren.

Sole parent taxpayers.

Parent, guard ian orinstitu tion w i th custodyor care of chi ldren under16 years, dependentstudent 16 and 17 years,dependent student18 to 24 years indisadvantaged families.

Parents or guardian sw i t h t r i p l e t s,quadruplets or highermult ipl es aged under6 years.

Pensioners wit hdependent chi ldren .

Beneficiaries wit hdependent chi ldre n.

Low income, non-

p e n s i o n e r / n o n - b e n e f i c i a r yf a m i l i e s w i t h

dependent children .

LEVEL OF ASSISTANCE

( at May 1986)

$1,030 per year$ 830 per year

$ 780 per year

$ 22.80 per month - 1 c h i l d$ 55.35 per month - 2 c hildren$ 94.35 per month - 3 chil dren$133.35 per month - 4 c hil dren$ 45.55 per mo nth - each

a d d i t i o n a l c h i l d

$150 per month - triplets$200 per month - quadruplets

and higher

$ 16 per week per chil d

$ 16 per week per ch ild

$ 16 per week per chil d

NO OF RECIPIENTS

(at 30 June 1985)

756, 000 (a)

406,000(a)

112,000(a)

782,000 families883,000 f a m i l i e s386,000 families107,000 families

TOTAL

2,191,000 families

183(c)

5(c)

294,900 f a m i l i e s519,400 chi ldr en

117,900 fami lies259,800 children

26,400 families74,900 c hi ldr en

COST(1984-85)

$686m(a)$248m(a)

$ 77m (a)

$l,506m

$0.3m(c)

$350m

$185m

$41m

INCOME

TESTED

No (b)

No (b)

No(b)

No

No

Yes

Yes

Yes

TAXED

N.A.N.A.

N.A.

No

No

No

No

No


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TABLE 1 (CONT) :

N.A. : Not applicable, n.a. : Not avail ablea Numbers of rec ipi ents and costs of taxation rebates are for the 1983-84, not the 1984-85 year.b Mh il e these rebates are not income-tested on primary earner's or family's incomes there are income tests to establish the dependency of

spouses and chi ldre n.c Numbers of reci pie nts at January 1986 and estimated cost for 1985-86.d No tax is levied on the payment. However, the amount of any zone tax rebate a pensioner would otherwise receive is reduced by the

amount of remote area allowance received.

PROVISION

Sole ParentPensions

Mother's/Guardian'sAllowance

Handicapped C hild' sAllowance

Double Orphan'sPension

Remote AreaAllowance

ELIGIBLE GROUP

widowed, divorcedseparated and othersingle persons w ithdependent children .

Sole parent pensionersand beneficiaries.

Parents or guardia nsgi vi ng constant careto severely handicappedchildr en, or handicappedc h i l d r e n a n d i nf i n a n c i a l h a r d s h i p .

Guardian or institutioncaring for definedorphans.

Pensioners orbeneficiaries residentin specified areas of

Tax Zone A.

LEVEL OF ASSISTANCE

( at Hay 1986)

$102.10 per week

$ 12 per week

$ 85 per month - severelyhandicapped

$ 20 to $85 per month -handicapped

$ 55.70 per month

$ 3.50 per week per ch il din addition to entitlementsof $7 per week single and

$6 per week each married.

NO OF RECIPIENTS

(at 30 June 1985)

262,000 families

262,000 families

25,800 children

3,800 children

6,100 children

14.300

COST(1984-85)

$ 1 , 1 7 0 m

$124m

$27m

$4m

$3m

INCOME

TESTED

Yes

Yes

No

Yes

No

No

TAXED

Yes

No

No

No

N o (d )


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The disposable incomes of different sorts of families are alsovery significantly affected by the operation of social securityincome tests and by the income taxation rate scale. Table 2provides a summary of current income tests in the socialsecurity system, while Table 3 shows relevant details of thepersonal income tax rate scale, major tax rebates and Medicarearrangements.

When looking at the circumstances of social security recipientsand other low income groups, the most important component ofthe tax rate scale is the zero rate step. The zero rate step,also known as the tax threshold, has the obvious effect ofensuring that taxpayers do not actually pay tax on the first$4.595 of their income.(1) This figure is increased forcertain groups because of the availability of tax rebates.These rebates effectively return to taxpayers the tax paymentsfor which they would otherwise have been liable. For example,age pensioners are entitled to a pensioner rebate of $250 a

year, which at the current first rate of 25 cents in the dollarmeans that an additional $1,000 of taxable income is free fromtax. giving an effective tax threshold for pensioners of $5,595per year. The sole parent and dependent spouse rebates providehigher effective tax thresholds for eligible persons.

2.2 Parallels and overlaps - the tax-transfer system

This brief description of the income taxation and socialsecurity systems should make it apparent that there are anumber of structural features of the systems which paralleleach other. This is so in two ways.

First, the income tests on pensions and benefits are analogousto the income tax rate scale, in that both reduce the benefitto an individual of additional income. Both the tax rate scaleand income tests contain a zero rate step - the tax threshold,under which tax liabilities do not accumulate, and thepension/benefit free areas, under which social securitypayments are not reduced. Further, these zero rate steps arevaried for different family types - the tax threshold by theoperation of the rebates, and the pension free areas by thehigher free area for couples and the income disregard forchildren.

This sort of parallel arises because both income tests and thetax rate scale are generally designed to promote progressivity

income tests by reducing social security entitlements asother Income rises, and the rate scale by increasing taxliabilities as taxable income rises. The variation of taxes

(1) As part of its tax reform measures, the Government hasannounced that from 1 September 1986 the tax threshold will beincreased to $5.100 per year, and from the 1986-87 year thethreshold will be available only on a pro rata basis for

taxpayers joining the workforce on a full-time basis for thefirst time and those leaving Australia permanently.

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* From November 1986. the "free area" for pensioners will beincreased from $30 to $40 p.w. for singles and from $50 to$70 p.w. for couples; the "income disregard" for childrenwill be increased from $6 to $12 p.w.; and the separateincome test on rent assistance will be abolished.

** Set at $20 above the cut-out point for the married rate ofunemployment benefit and increases six monthly in line withindexation of that rate.

*** Subject to six monthly indexation.Page 9

TABLE 2 : SOCIAL SECURITY INCOME TESTS AT MAY 1986*

Category

Single pensioners

Sole parentpensioners, onechild

Pensioner couples

Pensioner couples,one child

Beneficiaries

FIS recipients

Persons receivingrent assistance

Non-Social SecurityIncome

$0 - $30 p.w.$30 p.w. and over

$0 - $36 p.w.$36 p.w. and over(For each additionalchild, add $6 p.w. tothe "free area" . )

$0 - $50$50 p.w. and over

$0 - $56 p.w.$56 p.w. and over(For each additionalchild, add $6 p.w. to"free area".)

$0 - $30 p.w.$30 - $70 p.w.$70 p.w. and over

$0 - $241 p.w.**$241 p.w. and over

$0 p.w. and over (Forpensioners this isincreased by $6 p.w.for each child. )

Reduction inAssistance

zero50 cents in the $1




zero50 cents in the $1$1 for $1


50 cents in the $1until assistanceextinguished

Persons receivingpensioner concessions(PHB card holders)

Singles

Couples

$0 - $65 p.w.***

$65 p.w. and over

$0 - $106 p.w.***

$106 p.w. and over

(For each child, add$20 p.w. to these limits

All benefitsreceivedAll benefits lost

All benefitsreceivedAll benefits lost


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and social security entitlements according to income iscommonly described as reflecting the objective of verticalequity - the concern that the more well-to-do should shouldergreater tax burdens than the less well-off, while those lessfortunately placed should receive greater assistance than the

well-to-do (Jackson. 1982. p.15).The second important aspect of the parallels between thetaxation and social security systems is the way in which theentitlements and liabilities of different types of family unitsare determined within the systems. This is shown in Table 4.For example, the standard rate pension available to a soleparent pensioner can be considered to parallel the standard taxthreshold available to a non-pensioner sole parent. Just as asole parent pensioner receives a special allowance (themother's/guardian's allowance), so too does a sole parenttaxpayer receive a special sole parent rebate. Just as apensioner can be eligible for an income-tested additional

payment for children, a non-pensioner can be eligible for anincome-tested income supplement for children. Both pensionersand non-pensioners are entitled to family allowances for theirchildren.

This is not to argue that these parallel features are inthemselves necessarily similar in all their importantcharacteristics. Rather. when comparing one type ofpensioner/beneficiary with another type ofpensioner/beneficiary family and one type ofnon-pensioner/beneficiary family with other types. it isapparent that there are some concerns common to both systems,

in that both provide what can be thought of as a basicentitlement for individuals and then add supplements in respectof persons in specified family situations.

This common concern that people with similar incomes anddiffering family responsibilities should be treated differentlyis generally known as horizontal equity. In fact. thisprinciple arises from the apparently contrasting objective ofensuring that people in like circumstances should be treatedalike. However, the contrast is more apparent than real, sincelike cannot be defined without necessarily defining what isunlike.

In the senses discussed above, the taxation and social securitysystems can be seen to be linked by the common objectives ofpromoting both vertical and horizontal equity. The links,however, are far greater than indicated just by the existenceof parallel features to achieve similar goals.

For example, it is a mistake to think of clients of the socialsecurity system as not being taxpayers, and thus of twodiscrete populations, with social security recipients beingsome sort of "burden" on taxpayers. In fact, in 1980-81 some580.000 persons, or more than 25 per cent of social securityrecipients and around 10 per cent of taxpayers, received

Australian Government pensions or benefits during that year andpaid more than $800 million in tax on both their social

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T A B L E 4 : P A R A L L E L S O C I A L S E C U R I T Y A M D T A X A T I O N M E A S U R E S F O R D I F F E R E N T T Y P E S O F I N C O M E U N I T S

security and private income. Those taxpayers who received somepension or benefit during the year therefore contributed about5 per cent of all revenue from personal income tax (Hardingand Whiteford. 1985a. pp.3-4). By 1983-84 this figure hadincreased to some 860.000 persons or 13.5 per cent of taxpayers(Harding and Whiteford. 1985b. p.2). Over the lifetime ofindividuals the degree of movement between the two systems islikely to be even greater.

This interaction between the tax and social security systemshas increased markedly since the mid-1970s, when most socialsecurity pensions and benefits became taxable. Many basic

rates of social security payments now exceed the general taxthreshold. This is because basic rates of most pensions and

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Income Uni t Type

I n d i v i d u a l s

Sole parents

Couples without c hildren(married or de facto)

Couples wi th chi ldren(married or de facto)

Pensioner or Benefici ary

Standard rate pensionStandard rate benefit

Standard rate sole parent'spension/benefit

Hothers/guardians allowanceFam ily allowancesAdd iti onal pension/benefitfor children

Married rate of pensi onor benefit

Harried rate of pension

or benefit

Fami ly allowances

Ad dit io nal pension/benefitfor chi ldren

Non-Pensioner/Beneficiary

Tax threshold

Tax thresholdSole parent rebateF a m i l y a l l o w a n c e sFam ily income supplement

Both working

- Tax thresholdfor both

Both working

- Tax threshold

for both

- Fa mi ly allowances

- F a m i l y i n co mesupplement

One working

- Tax thresholdDependentspouse rebate

One working

- Tax threshold

Dependentspouse rebate

- F a m i l yallowances

- F a m i l y i n co mesupplement


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benefits have been automatically indexed for inflation, but thethreshold has not. This situation has necessitated special taxmeasures, such as the pensioner and beneficiary tax rebates,which have been introduced and increased during the last fouryears to ensure that those who are largely dependent on

pensions and benefits do not have their already low incomesreduced by income tax. Another reason for increasing numbersof people being affected by the interaction between the tax andsocial security systems lies in the rapid growth in the numberof unemployment beneficiaries since the mid-1970s, many of whomhave spent part of the year as social security recipients andthe remainder of the year in work.

These overlaps have heightened other concerns common to boththe taxation and social security systems. As previously noted,social security income tests and income tax can be consideredanalogous, in that both reduce the benefit to individuals ofadditional effort to earn income.

There has been much discussion during the debate on tax reformlast year as to the desirability of reducing marginal rates ofincome tax in order to promote work incentives. But as Tables2 and 3 showed, there are a variety of social security incometests and tax measures, including income-tested tax measures,that can apply over the same (fairly low) income ranges.

In fact, once pensioners' and beneficiaries' incomes enter thetaxable range, the combined effect of liability for income taxand the reduction of pension or benefit through social securityincome tests can produce "effective marginal tax rates" far

higher than the current top rate of 60 per cent applied totaxpayers on the highest incomes. "Effective marginal taxrates" refer to the amount of income lost, through thewithdrawal of assistance by income test and/or the payment oftax, out of each additional dollar of private income.Pensioners and beneficiaries can face effective marginal taxrates (EMTRs) of 100 per cent or more over certain privateincome ranges, and attempts to increase their disposableincomes, eg. through part-time work, can leave them no betteroff or even worse off. These situations are often known as"poverty traps", in recognition of the possibility that peoplein these situations may have the desire to improve theirfinancial circumstances through work, but the rationality ofdoing so may not be evident, and that consequently people mayfeel "trapped" into dependency on financial support from theGovernment. That is, progressive policies can have unintendedconsequences for incentives to work or save.

Table 5 provides details of the effective marginal tax ratesfacing some illustrative social security families with children(at November 1985 pension and benefit rates). It should bereadily apparent from these examples that over wide, butrelatively low. income ranges, social security recipients canface EMTRs higher than those faced by any other groups in thecommunity.

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TABLE 5 ; EFFECTIVE MARGINAL TAX RATES (EMTR) FACING VARIOUS

FAMILY GROUPS UNDER NOVEMBER 1985 TAX AND SOCIAL SECURITY

ARRANGEMENTS

A. Sole parent with one dependent child

Non-DSS Income

($wk)

0.00 - 42.0042.00 - 58.93

58.93 - 237.80

237.80 - 240.38

240.38 - 299.31

299.31 - 315.06

315.06 - 321.80

321.80 - 375.00

375.00 - 538.46

538.46 - 673.08

673.08 and over

Total Pension

($/wk)

139.90

139.90 - 131.44

131.44 - 42.00

42.00 - 40.7140.71 - 11.2511.25 - 3.373.37 - 0.00

nilnil

nilnil

Disposable Income EMTR

($/wk) (%)

152.65 - 194.65

194.65 - 203.11

203.11 - 270.19

270.19 - 270.84

270.84 - 282.62

282.62 - 282.62

282.62 - 283.90

283.90 - 320.61

320.61 - 407.24

407.24 - 475.90

475.90 and over

05062.5*

7580100

813147

4961

* Plus loss of Fringe Benefits after $105

Page 14

Non-DSS Income

($wk)

0.00 - 36.00

36.00 - 64.93

64.93 - 231.80

231.80 - 240.38

240.38 - 269.88

269.88 - 283.80

283.80 - 284.09

284.09 - 375.00

375.00 - 538.46

538.46 - 673.08

673.08 and over

Total Pension

($/wk)

123.90123.90 - 109.44

109.44 - 26.0026.00 - 21.7121.71 - 6.966.96 - 0.000.00 - 0.00

nilnilnilnil

Disposable Income

($/wk)

129.15 - 165.15

165.15 - 179.61

179.61 - 242.19

242.19 - 244.34

244.34 - 250.24

250.24 - 250.24

250.24 - 250.38

250.38 - 313.11

313.11 - 399.74

399.74 - 468.40

468.40 and over

EMTR

(%)

0

5062.5*7580100

503147

4961

* Plus loss of Fringe Benefits after $85

B Sole parent with two dependent children


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C. Unemployment or sickness beneficiary couple* with onedependent child

Non-DSS Income

($wk)

0.00 - 16.09

16.09 - 20.00

20.00 - 59.36

59.36 - 70.00

70.00 - 208.30208.30 - 224.30

224.30 - 240.38

240.38 - 269.88

269.88 - 284.09

284.09 - 375.00

375.00 - 538.46

538.46 - 673.08

Total Benefit

($/wk)

179.30179.30

179.30 - 159.62

159.62 - 154.30

154.30 - 16.00

16.00 - 0.00

nilnilnilnilnilnil

673.08 and over nil

Disposable Income

($/wk)

184.55 - 200.64200.64 - 203.08

203.08 - 215.38

215.38 - 219.37

219.37 - 219.37

219.37 - 215.37

215.37 - 227.44

227.44 - 248.09

248.09 - 255.19

255.19 - 317.92

317.92 - 404.55

404.55 - 473.21

473.21 and over

EMTR

(%)

0

37.568.7562.5100

125253050

31474961

* Where the beneficiary is the only one of the couple earningprivate income.

Page 15

Non-DSS Income

($wk)

0.00 - 16.0916.09 - 20.0020.00 - 59.36

59.36 - 70.00

70.00 - 208.30208.30 - 240.30240.30 - 240.38

240.38 - 299.31

299.31 - 315.06

315.06 - 375.00

375.00 - 538.46

538.46 - 673.08

673.08 and over

Total Benefit

($/wk)

195.30195.30

195.30 - 175.62

175.62 - 170.30

170.30 - 32.00

32.00 - 0.00

nilnilnilnilnilnil

nil

Disposable Income

($/wk)

208.05224.14

226.58238.88242.87

242.87234.87

234.94276.18

284.06

325.42412.05

480.71

- 224.14- 226.58

- 238.88

- 242.87

- 242.87

- 234.87- 234.94

- 276.18

- 284.06

- 325.42

- 412.05

- 480.71

and over

EMTR

(%)

037.568.7562.5100

125253050314749

61

D. Unemployment or sickness beneficiary couple* with twodependent children


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E. Couple receiving Family Income Supplement (FIS). oneperson in employment, one dependent child

Page 16

Non-DSS Income

($wk)

0.00 - 167.60

167.60 - 229.00

229.00 - 240.38

240.38 - 261.00

261.00 - 269.88

269.88 - 284.09

284.09 - 375.00

375.00 - 538.46

538.46 - 673.08

673.08 and over

FIS

($/wk)

16.00

16.00

16.00 - 10.31

10.31 - 0.00

nilnilnilnilnilnil

Disposable Income

($/wk)

21.25 - 188.85

188.85 - 234.90

234.90 - 237.75

237.75 - 241.87

241.87 - 248.09

248.09 - 255.19

255.19 - 317.92

317.92 - 404.55

404.55 - 473.21

473.21 and over

EMTR

(%)

0

257580305031474961

F. Couple receiving FIS. one person in employment. twodependent children

Non-DSS Income

($wk)

0.00 - 167.60

167.60 - 229.00

229.00 - 240.38

240.38 - 293.00

293.00 - 299.31

299.31 - 315.06

315.06 - 375.00

375.00 - 538.46

538.46 - 673.08

673.08 and over

FIS

($/wk)

32.00

32.00

32.00 - 26.31

26.31 - 0.00

nilnilnilnilnilnil

Disposable Income

($/wk)

44.75 - 212.35

212.35 - 258.40

258.40 - 261.25

261.25 - 271.77

271.77 - 276.18

276.18 - 284.06

284.06 - 325.42

325.42 - 412.05412.05 - 480.71

480.71 and over

EMTR

(%)

0

257580305031474961


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It should be noted, however, that as part of its tax reformpackage the Government announced an increase in the taxthreshold, cuts in marginal tax rates and a range of socialsecurity measures specifically directed towards some of themost salient "poverty traps".

Moreover, there is certainly no unanimity of opinion on thepractical significance of high marginal tax rates uponincentives to work, either for high income taxpayers or lowincome social security recipients (see, O.E.C.D.. 1975; Brown,1980; Whiteford, 1981; Gruen. 1982). There are of course awide range of factors other than financial incentives affectingactual work behaviour. The policy issues involved are complex,and. as will be discussed, require the harmonisation ofconflicting objectives.

2.3 Perceptions and presentational issues

The interaction between the tax and social security systems hasnot only indirect effects on families' circumstances, but alsovery significant direct effects. As previously noted, socialsecurity initiatives affect many taxpayers, and tax initiativeshave direct consequences for many social security recipients.Large numbers of individuals and families have entitlementsunder both systems. Thus, the living standards of manytaxpayers are vitally affected by their receipt of either thedependent spouse or sole parent tax rebates and familyallowances. family income supplement or additionalpension/benefit for children paid through the social securitysystem. (1)

Indeed, many tax and social security measures can be regardedas interchangeable mechanisms for achieving policy objectives.Assistance to families with children can be provided throughtax rebates or deductions for taxpayers with children, orthrough cash transfers such as family allowances. Socialsecurity cash transfers can thus be thought of as equivalent to"tax credits" or "negative income taxes" (Musgrave. 1959, p.18).

This issue is important because just as many may perceivetaxpayers and social security recipients as being discretepopulations, many see taxation and social security instrumentsas being inherently different in their nature. Social securityoutlays are generally seen as representing a cost to taxpayersand as contributing to the size of the government sector. Incontrast, similar measures in the tax system (e.g. thedependent spouse rebate, the sole parent rebate) are often notregarded as a cost to anyone and tend to be seen as reducingthe size of government.

But both cash transfers and assistance through reductions intax liabilities involve calls on revenue and have similarimplications for the budget deficit or surplus. Except for

(1) See Section 4.1 for details of recent trends in thedistributional impact of these programs.

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administrative costs, neither cash transfers nor tax assistanceadd to or detract from the size of the public sector in thesense of involving the government itself in using up realresources (in the same way that building roads, hospitals orships does). Rather. the two systems simply redistribute

disposable income between individuals and families. Socialsecurity expenditures ultimately are spent by privateindividuals for private purposes, in the same way allowed forby tax concessions.(1)

Perceptions of social security outlays as a cost, while taxconcessions are perceived as costless, are misleading andunfortunate, since it may mean that tax concessions are subjectto less scrutiny than social security outlays, irrespective ofthe actual merits and efficiency of direct expenditures incomparison with taxation instruments.

In fact, it can be argued that in considering the goals ofincome distribution and economic efficiency. taxation andsocial security policies should be seen as integrally relatedinstruments. Since their interaction affects the way in whichincomes and standards of living are distributed throughout thecommunity, it is necessary when considering policy changes toeither system to examine both together, so that the combinedeffects of change can be exposed and any unintendedconseguences of change avoided. Thus, while the tax or socialsecurity systems are frequently considered in isolation,exclusive concentration upon only one system may frustratebroader equity and distributional objectives.

This point has been made by the Taxation Review Committee(1975. p.11):

Throughout and repeatedly in the terms of reference [of theCommittee] the phrase 'taxation system' is used. This wayof regarding a collection of administratively distincttaxes is of fundamental importance. In a complex moderneconomy where government expenditure is at a high level itis impossible to raise all the revenue needed from any

(1) It should be emphasised, however, that while cash transfersand tax concessions do not strictly add to the size of thepublic sector, they do represent a constraint on governmentchoices. The revenues not collected or rebated because of taxconcessions and the moneys redistributed through cash transfersare (generally) not available for the government's otherobjectives. Whether family allowances, for example, are paidas a cash transfer or a tax rebate or whether the DSR iscashed-out or unchanged does not affect the size of the budgetdeficit - it is still money forgone. If governments wish toincrease assistance for certain groups. then whether thatassistance is provided in the form of cash payments or taxrebates will make little difference to its budgetary impact.If the budget deficit is not to be increased, it would still benecessary to either increase taxes elsewhere or reduce other

expenditures.

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single tax. Each tax will have its own distinct merits anddefects when judged by the various criteria commonlyapplied to taxation. When several taxes are used they haveto be seen as supplementing each other and theirinteractions - and sometimes their conflicts - have to be

reckoned with. Whatever their individual characteristicsit is their combined impact that must primarily concern thepolicy maker. The complete set has therefore to be lookedat as an integrated whole, even though before this can bedone it is necessary to examine the parts that have to belinked together.

... where tax stops and expenditure starts is oftenunclear. A tax concession to a particular area of spendingin the private sector can as well be looked upon as anexpenditure of revenue as a failure to collect it, and itis often an issue of importance to tax policy whether suchconcealed subsidies should not better be given overtly.Still more important is the point that cash transfers toindividuals, the whole class of social service payments ofevery kind, are inextricably bound up with the equity ofthe taxation system. ... some consideration of cashgrants, taxable or otherwise, is essential in the design ofan optimal tax system.

In summary, rather than having two separate systems whichaffect the distribution of disposable incomes and the labourforce behaviour of the Australian population. in certainrespects, we have a single tax-transfer system. Thedistinction made between the two systems is convenient for

analytical purposes, but when considering distributionalpolicies, tax and social security should be seen as two sidesof the one coin.

It must be said that these propositions are necessarilyarguable. As Musgrave notes in a somewhat different context:"All these views may be held, and none can be proved correct"(1959. p. 65). Some examples may show, however, that the viewsadopted in this paper provide a consistent approach to theissues involved.

The first example is provided by the recent debate about thepossible introduction of a broad-based consumption tax (BBCT).The draft White Paper on Tax Reform illustrated possiblemechanisms for compensating social security recipients for theregressive effects of any indirect taxes. Indexation and aboveindexation increases in social security payments would haveinvolved additional expenditure by the Department of SocialSecurity of nearly $1 billion in a full year (Department of theTreasury, 1985, p.159). But any such additional expenditureswould have generally represented only the return to low incomegroups of the extra indirect taxes that they would have beenpaying if a BBCT had been introduced. Other groups in thecommunity would have received their compensation in the form ofincome tax cuts. The effect would have been the same, but the

appearance would have been very different.

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Second, the Australian social security system provides throughthe Family Income Supplement (FIS) program cash payments of upto $16 per week per child for low-income families not inreceipt of pension or benefit payments. The United Kingdomalso has a FIS program, currently paid out through the social

security system. In the recent Green Paper on reform of the UKsocial security system, it was recommended that this FISpayment should be replaced by a tax credit paid throughemployers (Atkinson, 1985, p.334).

Similarly. the New Zealand Department of Social Welfarecurrently provides an income-tested payment for children in lowand middle income working families called Family Care which,because of the high level of payment and the low rate of taper,can be loosely considered a "long FIS". In its recentstatement on taxation and benefit reform, the New ZealandGovernment announced that from 1 October 1986 thisincome-tested "social welfare" payment, similar payments forchildren of beneficiaries and a tax rebate system for familieswould all be replaced by a single, income-tested, refundabletax credit system to be administered by the Inland Revenue[Taxation] Department, and where possible this new FamilySupport program would be paid by reducing Pay-As-You-Earn(PAYE) deductions (Whiteford and Whitecross, 1986).

In each of these cases, it is possible to see taxation andsocial security programs that mirror each other. But inessence a program is not different because it is paid now by aSocial Security or Welfare Department, and in the future by theTax Office. For individuals who remain recipients, there is no

difference in their disposable incomes if they receive $5 aweek in a social security cheque or $5 a week through lower taxliabilities. Nor in terms of effective marginal tax rates isthere any essential difference between an income test on asocial security payment for children and an income test on atax rebate for children.

Nonetheless, there can be important differences between theadministrative implications of providing a payment through theTax Office or through a Social Security Department, and the twoadministrative systems can direct assistance to differentrecipients, with consequent differing distributional effects.Further, providing an income-tested payment as a tax creditthrough employers may be presented as a reduction in the sizeof the public sector, since some of the administrative costsmay be transferred to the private sector.

A third example, which also illustrates the differences betweenthe targeting capabilities of tax and social securityadministrations, is provided by the recent history of generalassistance for children in Australia. Assistance through thepersonal income tax system for each child was provided in theform of concessional deductions (which were of greater benefitto high income earners) up to 1974-75. The first crucial steptowards the current system was made in 1975-76. when tax

rebates (which were of equal money value to all but very lowincome taxpayers with dependent children) were introduced.

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Throughout this period, cash assistance for families withchildren was also provided through child endowment paid by theDepartment of Social Security. In 1976, both cash rebates andchild endowment were replaced with the current system of family

allowances.

The two main advantages of providing assistance through cashpayments instead of through tax reductions were that paymentscould be made to all families with children, not just to thosewith incomes high enough to benefit from the tax rebates, andassistance could be directed to mothers. Because of the changefrom tax rebates to family allowances, both taxation revenuesand government outlays increased by some $700 million in1976-77. While most taxpayers with children continued toreceive about the same amount of assistance as they had priorto the family allowances reform, it was estimated at the time

that some 300,000 families (with 800.000 children) whoseincomes had been insufficient to take full or any advantage ofthe tax rebates, received greatly increased assistance fortheir children.(1)

Since their introduction, family allowances have beencriticised as "middle class welfare" because they are a cashpayment from the Department of Social Security, but are neitherincome-tested nor taxed. Indeed, around 80 per cent of therecipients of family allowances are not in receipt of any otherpayment from the Department of Social Security. This couldindicate either that family allowances are not well targeted tothe poor, or that they are not intended to be reserved for the

poor. In fact, while family allowances are counted asexpenditures by the Department of Social Security, they canstill properly be viewed as serving equity objectives basic tothe income taxation system. This view is supported both by thehistory of family allowances and arguments in taxationliterature that exemptions for family composition are essentialto the structure of any tax which bases itself on the principleof ability-to-pay and by the practice of most other countries.The Australian income tax system itself still recognises thisprinciple of horizontal equity through the dependent spouserebate and the sole parent rebate.

Family allowances now provide the major instrument for reducingthe effective income tax burden on all families with children,in recognition of the fact that at any income level familieswith children have a lower capacity to pay tax than similarfamilies or individuals without children. In addition, familyallowances also uniquely offer a means of providing greaterassistance according to the number of children in the family.In contrast with other tax measures they also provide equalassistance to families with low incomes who pay little or notax. Thus, rather than being a welfare measure that goes to therich, family allowances can be considered as a general taxationmeasure which also provides additional assistance to theneediest.

(1) Some other families whose children had income also receivedincreased assistance for these children because the separatenet income test applied to the child tax rebates was notapplied to family allowances.

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3. OBJECTIVES OF FAMILY ASSISTANCE

3.1 Ability-to-pay and horizontal and vertical equity in thetax system

A key objective of the tax system is to collect the revenuerequired to fund public sector activity. But a furtherand critical objective is that the distribution of the taxburden should be equitable - everyone should pay their "fairshare". (1)

How the term "fair share" should be defined, however, issubject to debate. Two strands of thought can be distinguished:

the benefit principle, under which taxpayers shouldcontribute in line with the benefits they receive from

public services; and

the "ability-to-pay" principle, under which a giventotal revenue is required and each taxpayer is askedto contribute in line with his or her "ability-to-pay"(a further definitional problem).

There are advantages and disadvantages to each alternative, andneither approach is easy to implement in practice. The benefitprinciple implicitly assumes that a proper state ofdistribution already exists, and on this basis will allocatetax burdens according to the incidence of public benefits. Assuch, the benefit principle fails to recognise taxation as ameans of financing transfers or as serving redistributionalobjectives.

As noted by Allan:

The benefit rule cannot provide a universal rule oftaxation if we accept that the government has to supportthe poor. There will always be some people who would earnnothing in a free market and many more would earn amountswhich would be considered inadequate on humanitariangrounds. These people have to be given income and thismust be paid for by taxation (of those who have higher

incomes) according to some other principle than that ofbenefit.

It can be argued that the rich derive benefits fromredistribution...but the point here is that the benefitsaccruing to the poor as a result of redistribution cannot,by definition, be subjected to taxation (1971. p.107). (2)

(1) Apart from equity, the two major qualities sought in taxsystems are simplicity and efficiency. For discussions ofthese concerns, see Taxation Review Committee (1975,pp. 15-17) and Department of the Treasury (1985. pp. 14-17).

(2) This is not to say that social security benefits should notbe taxable, but simply that low income groups cannotreasonably be expected to pay taxes in line with thebenefits they receive.

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The alternative principle, that people should contribute to thecost of government in line with their ability-to-pay.complements the principle of helping those in need, which isoften seen as the basis of the social security system. In this

sense as well, the taxation and social security systems can beconsidered as one integrated system providing for incomeredistribution. As someone's financial position worsens theycan depend more on the community for help, and as theirfinances improve their contributions to the community in theform of taxes should increase. Just as the social securitysystem structures benefits according to the needs ofrecipients, the ability-to-pay "principle requires that equalamounts of tax should be paid by taxpayers with equalabilities-to-pay (horizontal equity) and requires differentamounts of taxes when abilities-to-pay differ (vertical equity).

There are therefore three major issues associated with theability-to-pay principle. These are:

How should ability-to-pay be defined?

By how much should the amount of tax vary asability-to-pay varies?

When do people have equal abilities-to-pay?

These three concerns are very closely interrelated:

The 1966 Canadian Royal Commission on Taxation, for example,

argued that ability-to-pay should be measured in terms of gainsin "discretionary economic power". That is. some part of eachperson's income must be spent to provide food, clothing,medical expenses and other necessities including the basiccosts of working. The discretionary economic power of theindividual is that which is available to spend or save aftermeeting these non-discretionary expenses. This implies thatover some basic level of exemptions (the tax threshold), allreal resources (eg. including capital gains, employment fringebenefits, etc) should be subject to tax.

The vertical equity concern that the amount of tax should vary

as ability-to-pay varies is usually taken to support aprogressive rate structure above this basic threshold.Similarly, it has been argued that horizontal equity can beachieved when individuals and families with the same gains indiscretionary economic power pay the same amount of tax. Sincelarger families generally have greater requirements fornecessities, it follows that the level of exemptions should bestructured to reflect family needs, eg. there should beallowances for children and other dependants. Likewise, sincetwo income couples at any given income level will have higherwork costs than single income couples, it follows that, forexample, two income couples should have the benefit of twothresholds.

The distinction commonly made between horizontal and verticalequity is useful for analytical purposes, but the reality isthat they are inseparable parts of the one principle of equaltreatment. For example, it is commonly argued that vertical

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equity is frustrated by the lack of capital gains taxes. But,similarly, horizontal equity may also be considered to requirecapital gains taxes, since taxpayers whose resources areconcentrated in assessable income (eg. wage and salary earners)are treated more harshly for tax purposes than those with the

same overall level of resources concentrated in capital gains.

The ability-to-pay principle in the tax system is recognised inthe social security system by the "needs" principle. Asalready discussed, features of the tax system which seek torecognise horizontal equity such as dependant rebates areparalleled in the social security system by allowances fordependants, such as wife's pension, additional pension andbenefit and mother's/guardian's allowances. Features of taxsystems which seek to recognise vertical equity such asprogressive personal income tax rate structures are paralleledin the social security system by income tests.

Vertical and horizontal equity, therefore, can be considered ascomplementary aspects of a fair tax-transfer system in thatboth are required if the principle of ability-to-pay is to berecognised. In this sense, it can be argued that recognitionfor dependants, either children or spouses, should not beregarded as a concession or departure from normal taxationpractice (i.e. a "tax expenditure"), but as a basic componentof an equitable tax system (Ingles et al, 1982).

3.2 Criteria for assessing social security policies

As noted previously, it is convenient to make some distinctions

between taxation and social security policies for analyticalpurposes. Nevertheless, just as an evaluation of taxationpolicies requires consideration of the objectives of thosepolicies, an assessment of social security policies requires aconsideration of fundamental goals. A number of criteria havebeen suggested for evaluating alternative social securityarrangements (Harmor. 1971. Jackson. 1982; Whiteford andStanton. 1983). These criteria include:

Adequacy - is the current or proposed level ofincome support sufficient to allow individuals andfamilies to achieve an adequate standard of living?Adequacy may be judged by reference to a poverty lineor relative to other standards of living in thecommunity. An example of the first type of standardis the Henderson poverty line. An example of thesecond type of standard is provided by theGovernment's commitment to raise the single rate ofpension to 25 per cent of Average Weekly Earnings.

Equity - A concern with horizontal equity impliesthat people in like circumstances should be treatedalike. In practice this is taken to support differenttreatment of people with the same income but differingcalls on that income, particularly differing family

responsibilities. Vertical equity is the concern thatthose who are more well-to do should shoulder greaterburdens than the less well-off, or that the poorshould receive greater assistance than those

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better-off. In practice this implies varying socialsecurity payments according to income and/or capacityto earn income.

Incentive Effects - What effects do programs have on

work, savings and investment, family size andcomposition or family formation and dissolution,economic growth and national productivity?

Efficiency - There are four basic concepts ofefficiency - target efficiency, technical efficiency,administrative efficiency and economic efficiency.Concern with target efficiency, which is usually takenas the most important of these issues, leads to theconsideration of what proportion of the benefits of aprogram go to the non-poor as well as the poor(vertical efficiency), and what proportion of the pooror other target groups actually receive the intendedbenefits (horizontal efficiency).

Stigma - What degree of stigma is associated withthe source, form or administration of social securityprograms, and what effect does this have on take-up ofbenefits?

Cost - What are the total expenditures at all-levelsof government, taking into account savings in otherprograms, tax clawbacks, and costs due to changed workeffort or other behavioural changes in the population?

Political Support - What is the nature and extent ofapproval for a given program?

These criteria are reflections of varying but interrelatedobjectives. For example, most people would probably agree thatit would be desirable to have social security programs thatprovided adequate support for the poor, that treated differentindividuals equitably, that did not have unfavourable effectson incentives for self-provision. that were efficientlydesigned and as low cost as possible, that attracted widespreadpolitical support and did not stigmatise recipients. The factthat no existing social security program in Australia orelsewhere could claim to attract universal commendation inrelation to all these criteria is a consequence of twofactors. First. different people will interpret theseobjectives in different ways and will give differing prioritiesto specific objectives according to their own views of whatwill maximise the welfare of the community. Second, theseobjectives overlap and interact, and the achievement of any onegoal may either entail the achievement of others or mayconflict with these other objectives. For example, on the onehand, very high levels of payments and very high withdrawalrates in income tests to achieve adequacy, vertical equity orvertical efficiency may conflict with concerns aboutincentives. On the other hand, adequacy and equity are in

practice inseparable, since the achievement of an equallyadequate standard of living for all social security recipientsimplies that horizontal equity is satisfied. In this sense the

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distinction commonly made between horizontal and verticalequity is also no more than a convenient distinction foranalytical purposes.

Consideration of these criteria requires some method of

analysis by which the achievement of objectives can beevaluated. For example, the framework of labour supply theoryin economics provides a method for analysing the effect of higheffective marginal tax rates on incentives to work. Povertylines are usually derived in order to judge the adequacy ofpensions and benefits. One type of measure for assessing theextent to which horizontal equity concerns are satisfied isprovided by equivalence scales.

Equivalence scales or ratios are measures of the relativeincomes required by different types of families to attain asimilar standard of living. These scales are usually expressedas a set of numbers - some arbitrarily chosen household type istaken as the base and its value is set equal to 1.0. Otherhousehold types are then expressed as proportions of thisbase. For example, if the benchmark is taken to be a marriedcouple without children, then to determine that the figure foran individual is 0.60 implies that a single person requiresonly 60 per cent of the income of a couple to be as well off asthey are. Similarly, if the figure for a couple with twochildren is estimated to be 1.40, say, then that family willrequire 140 per cent of the income of a couple without childrento attain the same standard of living. It follows thatindividuals with annual incomes of $6,000, say. couples withoutchildren and with incomes of $10.000 and couples with two

children and incomes of $14,000 should all on average be ableto attain a similar standard of living.

Equivalence scales are necessary as complements to povertylines in analysing income distribution data. As well, becausethe relativities in rates of pensions and benefits and in therelationship between the tax treatment of different familytypes directly affect the disposable incomes of differentfamilies, equivalence scales can be very useful tools inevaluating the extent to which existing policies satisfy theobjectives of adequacy, horizontal and vertical equity and thelike.

This is most clear in relation to the criterion of horizontalequity, for an equivalence scale is simply a practical attemptto define like circumstances. Since an equivalence scale mayalso be used to rank families in the distribution of income itis also a guide to vertical equity, e.g. a couple with twochildren and an income of $6.000, say, is likely to be actuallypoorer than a single person with an income of $4,000. andanalysis of income data should reflect this. Again a judgementabout the adequacy of pension and benefit rates can scarcely bemade without relating the differing levels of payment todiffering needs of families of different size and composition.It is also axiomatic that work incentives and incentives to

form or dissolve families will be affected by the relativitiesin the rates of pension and benefit. For example, the

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Commission of Inquiry into Poverty, while arguing that it wouldbe preferable to treat each adult as a separate income unit forsocial security purposes, concluded that such a system wouldresult in inadequate pensions for people who live alone. As aresult "what some would call a positive incentive to live in

social groups would become in practice a ruthless compulsion"(1975, p.24). It should also be clear that the financial costof any income security scheme will be directly affected bydecisions about the relative payments to be made to differenttypes of families. Finally, the political acceptability of thesocial security system and of proposals to reform it willdepend on public perceptions of how fairly the system treatsdifferent kinds of families. Some of the most significantdebates in social security in recent years have concernedassistance to families, the appropriate income unit for incomesecurity purposes and the appropriateness of assistance forsole parents. All these involve making judgements aboutrelative family needs.

Equivalence scales can be derived in a number of ways - eitherby specification of nutritional and other budgetaryrequirements by experts, by surveys of the attitudes ofdifferent types of families to their requirements, or by avariety of methods of econometric analysis applied to data onhousehold incomes and expenditures. None of the methods can beregarded as entirely satisfactory (Whiteford, 1985) and thereis no agreement as to what are the most suitable estimates foruse in the Australian context. Some applications ofequivalence scales are discussed in Section 4.3 and someresearch questions in this area are suggested in Section 5.

3.3 Private choice and public support

It should not be surprising. however, that there isconsiderable debate about the relevance of the concept ofhorizontal equity and the importance of equivalence scales.Arguments about choice form an important element in many ofthese debates about tax-transfer policies and the priority tobe given to horizontal equity. In fact, choice is afundamental issue. It can be argued that the size, compositionand activities of families are expressions of their "revealedpreferences", and it is these preferences that should be takeninto account when comparing the needs or abilities-to-pay of

different family types. According to Pollak and Wales:

Thus, in a perfect contraceptive society, if a familychooses to have three children and $12.000 when it couldhave had two children and $12,000 then a revealedpreference argument implies that the family prefers thealternative it chose (1979. p.219).

On this basis, it can be argued that no allowances at all needbe made for the costs of children in either the income tax orthe social security system. For example, the Centre of PolicyStudies notes that "while it is certainly true that the

presence of dependants does indeed reduce ability to pay, it isdebateable whether this should be regarded as a reason for

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reducing tax liability any more than should the buying of aboat which likewise reduces the ability to pay Since thedecision to have children, however, is usually one of choice,it is arguable whether the tax system should recognise suchcosts" (1985. p.26).

As the comparison of children to boats suggests, it iscustomary (and can be useful) in certain sorts of economicanalysis to think of children as "durable goods". McCloskeypoints out that this idea can be translated as follows: "Achild is costly to acquire initially, lasts for a long time,gives flows of pleasure during that time, is expensive tomaintain and repair, has an imperfect second-hand market ...Likewise, a durable good, such as a refrigerator ..." (1983,p.503) - or a boat. The main behavioural assumption of thisapproach is that children are planned - that parents makelong-term decisions about their housing, their life style andits material components, the way they spend their time, and thenumber of children they want to have, in a rational andoptimising way. and then to the best of their ability attemptto fulfil those plans.

It should be noted that this line of argument is relevant notonly to children. The Centre of Policy Studies, for example,also states that "there seems to be no convincing rationale forallowing a rebate to married couples without dependants, simplybecause one of the couple chooses not to work" (1985. p.27.emphasis added). This argument can potentially be extendedeven further to argue, for example, that people may choose tobe sole parents or may choose to be unemployed.

A further modification is to argue that low income mayconstrain choice, but high income groups have the freedom tochoose and are therefore undeserving of assistance. Thissuggests that horizontal equity concerns may stop or at leastbecome weaker above a certain income level. If this is so. thepractical problem is to decide what that level of income is.As the Centre of Policy Studies notes: "It can be argued thatonce income reaches a certain level, all income above thatlevel becomes 'discretionary' and it is largely a matter ofchoice as to how it is spent. Above this level, the amountspent on children will vary according to the standard of livingtheir parents are able to choose and need not therefore besubjected to tax relief. On this basis. tax relief forchildren would be provided only to those with very lowincomes" (1985. p.26).

It it is worth noting that the claim that spending can becomediscretionary at a low level of income is simply an assertion.Nor is it recognised that non-discretionary spending presumablyvaries with family composition. Moreover, the Centre of PolicyStudies makes no suggestion as to how discretionary andnon-discretionary incomes could be determined in practice.

There are. of course, alternative views about these issues and

the proper basis of tax-transfer policies. Cass, Keens andWyndhara (1983, p.17). for example, identify an alternativeapproach to policies for children, in which children are seen

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as a social investment and national resource, thereby providingjustification for public expenditure on their care anddevelopment. Parker (1978) also provides a discussion of thisapproach.

The distinction between alternative approaches may ultimatelybe regarded as a matter of personal preferences and values.Nevertheless it can be very seriously questioned whether or towhat degree the issue of choice is actually relevant to familypolicies.

One major problem with the revealed preferences argument is theassumption that children, for example, are purely objects ofchoice. Many children are unplanned and not only in relationto timing. Children are irreversible. Before deciding to havechildren, people may make judgements about their incomes andopportunities for periods of up to twenty years ahead. Thereis considerable uncertainty involved in these judgements andparents' information may be faulty. Economic conditions canchange, particularly for persons who become unemployed orbecome sole parents or invalids. The incomes of the poor aretypically subject to fluctuations. Indeed, poverty can bedefined as a condition of constraint on choices - in the caseof low income families, the assumption of free choice istherefore simply inappropriate.

Yet. even in regard to higher income groups it can be arguedthat there is a false dichotomy in the belief that choice is arelevant concern, for this implies that the alternatives arenot choices. The concern underlying this argument appears to

be that it is unfair for people who do not have children toprovide support for people who do have children, with aconsequent increase in their tax liabilities. But just asthere are differing circumstances in which people haveresponsibility for children, there are a number of obviousreasons why, at any point in time, people are not responsiblefor children. People may have had children who are no longerdependent, the family may be in the early stages of formationand will have children later, or they have delayed havingchildren but plan to do so in the future, or they wish to havechildren and cannot, or they plan not to have children.

In the first three circumstances, the provision of generalassistance for children can hardly be regarded as unfair, sincethese families will benefit in the future or already havebenefited from such assistance themselves. Consequently, itcan also be argued that for these groups it is inappropriate toregard family assistance as some sort of subsidy for childbirth(1). since the provision of assistance to all families amounts

(1) The view that cash transfers are subsidies for children isarguable in any case, since the amount of assistance isusually much lower than the costs of raising children. Anexample of a fairly unambiguous subsidy for children is.

however, provided in the French tax-transfer system, wherethe disposable income of a "typical" married couple familywith two children exceeds their pre-tax. pre-transferearnings by nearly 1O per cent. See OECD. 1983. p.34.

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to a redistribution of resources over the life cycle ratherthan a simple redistribution between individuals. While, as inall cases of redistribution over the life cycle, an individualmay or may not have chosen to have saved a similar amount if

the choice was free, it is incorrect to say that there are nooffsetting benefits for those persons currently withoutchildren.

Even when looking at the circumstances of people who will neverhave children, the relevance of the issue of choice is notclear-cut. In fact, some people may choose not to havechildren in exactly the same way that other people choose tohave children. That is, the judgements involved are not onlyabout the direct expenses of raising children, but also aboutthe activities preferred by the adults involved, and theirlong-term decisions about lifestyles and the ways in which they

wish to spend their time. Moreover, it is once again incorrectto overlook the benefits accruing to persons who never havechildren because other people have children. Put simply,nearly all of the public services that those without childrenwill enjoy in retirement will be funded from taxes on thegeneration then of working age. i.e. other people's children.

Most importantly, there is a crucial difference between havingchildren and buying boats. As Muellbauer notes. "veryfundamentally, children are individuals too. This means thatthe real consumption levels of children should themselves bepart of the measurement of the overall distribution of income,irrespective of whether they are a positive part of their

parent's standard of living" (in Diamond, 1978. pp. 337 - 338).

Similar arguments can be advanced in the case of thetax-transfer treatment of sole parent families and familieswith and without dependent spouses.

The crucial issue once again is the degree of constraintimposed on whatever choices are involved with having dependentchildren or being dependent spouses or sole, parents. The'choices' are of course inter-related - generally thedependency of spouses or sole parents accompanies the presenceof children. This might seem to suggest that public support

for dependent spouses through the taxation system should belimited to those with dependent children. However, thisconclusion should be qualified, since a large proportion ofdependent spouses without children are likely to be older womenwhose lack of work experience and labour market disadvantagesare a direct result of the former presence of children.Indeed, this is one of the rationales for the Class B widow'spension, which provides assistance to older women who do not orno longer have dependent children. In addition. whenconsidering public policies for dependent and working spouses,account needs to be taken of factors such as the costs of childcare, the costs of working, and the contribution of all familymembers to their joint standard of living. How these factors

balance out is not at all clear. Overall, it would appearunrealistic to treat all children or dependent spouses purelyas an economic burden, but it is also unrealistic to treateither purely as if they were objects of choice withouteffective costs.

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4 CURRENT CONCERNS

4.1 Adequacy of Payments

Once it is accepted that public income support for families is

appropriate, a range of further issues arise. In recent yearsthere has been a variety of concerns about the adequacy ofpayments for children provided through the tax and socialsecurity systems. It is difficult to make definitivestatements about the adequacy of tax-social securityarrangements, since the measurement of adequacy like themeasurement of poverty is at least in theory a controversialmatter. Nevertheless, there are some obvious points that canbe made, since all the indicators point in the same direction.

Concern with adequacy has two components - concern with thesituation of families generally and concern about theparticular circumstances of low income families with children.

The most important general program for families is familyallowances. Current rates of family allowance range between$22.80 per month for the first child and $45.55 per month forfifth and subsequent children. While it is arguable whetherthe family allowances program should meet the full costsassociated with raising children, it is clear that these levelsof payments do not provide anything like such assistance. Ineffect, the family allowance program provides no more than apayment of between 25 cents and 50 cents for each meal that achild has in a week.

Assistance for children of parents with average earnings isalso low by international standards. In 1978 in Australia thelevel of assistance for dependent children of a taxpayer whowas an "average production worker" was the fourth lowest of 19of the OECD countries. This is shown in Table 6.

Concern with the situation of low income families has beenprompted by the increasing number of children whose parents arereliant on social security payments. As Table 7 shows, between1976 and 1985 the number of children for whom income-testedpayments were made more than doubled from nearly 370,000 tonearly 855,000, increasing from 8.6 per

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