Taxation is never far from the news, and it made headlines last week when entrepreneur Dick Smith announced that he was shocked to discover he had made a $5 million donation to charity, and as a result paid no tax for the year.
Dick reckons it's morally wrong that wealthy people can avoid paying income tax using a range of sophisticated devices, allowing people such as he and his wife Pip to go through life paying no tax whatsoever. He feels so strongly about this that he wrote to the prime minister asking for the rules to be urgently changed.
What planet is he living on? For starters, most things they buy would be subject to a 10 per cent goods and services tax, while the fuel for his car and his plane both pay a high excise tax. I don't know if he is still in business, but if he is, I'm sure his business is being slugged by payroll tax, which is not only unfair but also a tax on employment. If he has a holiday home it's odds-on that he will be paying a substantial land tax bill, not to mention rates. Of course if he wants to have a beer or sip a scotch while he's watching the sun go down, he's also contributing by way of further excise.
The high cost of buying or building a home is always making headlines, but there's not much focus on the fact that the taxes on the building component can be over 20 per cent of the house cost.
So his argument seems to boil down to whether people should be allowed to make donations to minimise their tax. That raises the question of who handles money best: private organisations or the government. Governments are notorious for being over time and over budget on their projects, and most reasonable people are loath to give them any more money to waste than what they are forced to pay.
Let's think about a hypothetical wealthy couple. They have just sold a property for $12 million, which will trigger a capital gain of $6 million. This will drop to $3 million after the discount is calculated.
If they were in the highest tax bracket, the CGT on that $3 million would be $1.41 million.
Now they have a choice: they can simply pay the tax and keep the remaining $10.6 million, or they could contribute $3 million as a tax-deductible donation to a public ancillary fund, such as Australian Philanthropic Services, and be left with $9 million.
The great thing about using a fund such as APS is that the donor gets the tax deduction to the fund straight away, but the fund only needs to distribute 4 per cent of its balance each year. If the fund does better than 4 per cent a year, which most of them do, it would have a growing balance that provides a donation of around $120,000 a year indexed, in perpetuity.
You could say it's a no-brainer to pay the tax and be better off financially, but some people want to contribute to the common good.
Thanks to their philanthropic nature they may decide that making a large donation now gives themselves and their descendants the ability to help people for generations to come.
They could involve their children, giving them great experience in investment, ongoing involvement in their chosen charities during their own lifetime, and a similar legacy to leave to their grandchildren.
The point of the story is that it's always cheaper to pay your tax than to minimise it by making tax-deductible contributions for philanthropic purposes. It's really a matter of how you believe your money is best used.
- Noel Whittaker is the author of Retirement Made Simple and numerous other books on personal finance. Email: email@example.com
- This advice is general in nature and readers should seek their own professional advice before making any financial decisions.