Estimating Net Effects of Tax System Complexity in Australia

This research considers the net effects of the tax system complexity in Australia, at the federal government level. The net effects of tax system complexity have been defined as both the short- and long-term effects of tax operating costs on the Gross Domestic Product (GDP). Since annual estimates of tax compliance costs from empirical studies are not available, an alternative method to estimate tax compliance costs must first be provided.A state space and Kalman filter model was employed to estimate a series of annual percentage changes in tax system complexity. A series of annual tax compliance costs can then be generated based on tax compliance survey results for 1995 (Evans et al. 1997) and the assumption that tax system complexity fundamentally explains why tax compliance costs change over time. A vector error-correction model (VECM) was constructed to analyse the net effects of tax system complexity given that VECM can estimate short- and long-term relationships simultaneously.A series of tax compliance costs for the period between financial years 196566 and 201112, was generated. The simulated data show that tax system complexity is highly persistent. Tax operating costs were found to have a negative effect on the gross domestic product (GDP) in the long run. It was estimated that a 1% increase in real tax operating costs can lead to a 0.122% decrease in real GDP in the long run. The short-term relationships tax operating costs and the GDP were simulated based on the VECM. An initial decline in the GDP in response to an increased tax operating costs was evident and was followed by a steady recovery. Approximately seven years after the initial shock, the increase in tax operating costs can contribute to the GDP growth, but this positive relationship slowly dissolved over time. Finally, it was found that tax revenue had a slow diminishing tendency, which suggests that existing tax laws eventually become ineffective in raising revenue