5 The incidence of tax and spending by age group

This section examines the impact that population ageing and changes in labour force participation rates, in isolation, are expected to have on the incidence of tax and government spending across age groups. Here the unit of analysis is consistently the individual, using the allocation framework set out in Figure 4 above. Figure 12 shows the incidence of direct tax by age-group for 2010 and 2060. Direct tax includes tax liabilities on market income, taxable working-age benefits and New Zealand Superannuation.

The distribution is strongly influenced by the earnings profile of individuals over the life cycle. People in younger and older age groups typically earn relatively low incomes, have lower labour force participation rates, and correspondingly pay less direct tax in absolute terms than the core working age population. This is reflected in the graph for the year 2010 in Figure 12. As the population ages, people over the age of 65 pay a higher proportion of total direct tax. This is due mainly to a greater number paying tax on NZS. The labour market participation rates for this group are also expected to rise. However if they continue to earn relatively low market incomes, as currently observed, this will only be a small proportion of their expected tax liabilities.

The proportion of direct taxes paid by those aged 25 to 64 is expected to decrease over time, corresponding to the decrease of this age-group as a share of the total population, as indicated by Figure 2. While their labour force participation rates are projected to increase over the next 50 years, which will have a positive revenue impact, demographic changes will dominate this increase.[19]

Figure 12 - Distribution of Direct Tax by Age Group: 2010 and 2060

Figure 13 shows the distribution of indirect tax by age-group. Indirect tax includes GST, excises and customs duties on tobacco, alcohol and fuel. The age incidence of indirect tax is expected to change slightly, with those aged 65 and over being expected to pay a slightly higher proportion of total indirect tax. However, should the consumption patterns of this age-group change due to higher labour force participation and higher incomes, they may pay a higher proportion of the total indirect tax than suggested by Figure 13.

Figure 13 - Distribution of Indirect Tax by Age Group: 2010 and 2060

The distribution of cash-benefits, which include receipts of working-age benefits, Working for Families, housing subsidies and NZS is shown in Figure 14. Between the ages of 16 and 64, individuals receive working-age transfers and Working for Families. Transfers for those over the age of 65 are mainly NZS payments, though these individuals are also eligible for some second- and third-tier benefits such as the Accommodation Supplement. The incidence of welfare payments for the core working-age is similar across time, affected only by the decreasing share of this age-group as a proportion of the total population. In addition, there is an increase in the absolute amount of spending received by older individuals which is directly correlated to the extent of ageing in the population and entitlements to NZS.

Figure 14 - Distribution of Income Support Spending by Age Group: 2010 and 2060

The distributions of education and health expenditure follow expected patterns, as shown in Figures 15 and 16. Education expenditure is predominantly devoted to people of primary and secondary school ages, and tertiary students. The decrease in the amount spent on individuals in these age groups over time reflects changes in the demographic profile rather than any change to policy settings. Similarly, a significant amount of health expenditure is currently devoted to people in older age groups. Their share of total health spending is expected to increase from 31% in 2010 to 51% in 2060. In particular, the near tripling of the health spending on those aged 80 and over corresponds to an increase of this age group as a percentage of the population from its current level.[20]

Figure 15 - Distribution of Education Spending by Age Group: 2010 and 2060

Figure 16 - Distribution of Health Spending by Age Group: 2010 and 2060

Figure 17 shows the net fiscal impact of tax and spending by age-group. This is measured by the aggregate amount of direct and indirect tax paid by each age-group less the spending received by way of income support, health and education. This shows that population ageing and changes in labour force participation lead to a distribution of tax and spending more heavily skewed towards older age groups. These age groups form a higher proportion of the total population over time, and so it would be expected that correspondingly they would benefit from a larger share of net government spending. Individuals of core working-age groups are expected to form a smaller proportion of the total population over time and pay a relatively lower share of the total tax under current policy settings. There are also expected to be fewer people under the age of 14.

Figure 17 also gives an indication of the aggregate annual fiscal gap arising from tax and spending items included in this model. The fiscal gap between tax payments and spending on items included here increases in absolute terms from approximately $8 billion in 2010 to $15 billion as a consequence of population ageing and changes in rates of labour force participation expected in 2060. While there are other taxes and spending categories not included in this model, such as corporate taxes and spending on justice, infrastructure, culture and heritage, the findings align closely with the current and expected fiscal situation of general revenue and spending trends in the long term.[21]

Figure 17 - Net Fiscal Impact by Age Group: 2010 and 2060

In view of the increase in the net fiscal deficit, shown in Figure 17, it may be thought that the inequality comparisons presented above could be misleading, to the extent that policy changes will in practice have to be made, or a higher deficit could have distributional implications. In view of the considerable number of possible changes, it was decided to examine the implications simply of adjusting income tax thresholds in line with inflation, rather than wage changes (which are expected to be higher as a result of productivity change). Hence, in the present context instead of holding thresholds constant, they were reduced to reflect fiscal drag from the base year. This resulted in the income tax thresholds being reduced from 0; 14,000; 48,000 and 70,000 in 2010 to 0; 4,982; 17,082 and 24,911 in the year 2060. This was found to produce a reduction in the net fiscal deficit to $5.5b in 2060, which is lower than the 2010 figure. Importantly, the Gini measure of inequality of income per adult equivalent person, using the individual as the unit of analysis, becomes 0.276 in 2060, compared with the value of 0.281 reported above. This reduction, arising from the increased progressivity of the income tax structure as a result of fiscal drag over 50 years, is clearly very small and has no substantive effect on the earlier inequality comparisons.