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  • PAYG withholding gap 2014-15

    This information is for historical purposes only

    The pay as you go (PAYG) withholding gap is an estimate of the difference between the tax that should have been withheld by employers from salary and wages paid to their employees according to the law (theoretical PAYG withholding), and the actual amounts of income tax withholding from salary and wages received by us for a defined period, typically a financial year.

    Under the Taxation Administration Act 1953, employers have an obligation to collect tax from payments made to employees and remit that tax to the ATO. Employers must register with us under the PAYG withholding scheme to do this.

    PAYG withholding provides an effective way for most people to meet their annual income tax obligations. The withholding system also ensures we collect a more stable, secure source of revenue throughout the year. This revenue supports a range of community services.

    Key facts on PAYG withholding for 2014–15 financial year include:

    • there were about 880,000 employers
    • $166 billion PAYG withholding was paid by employers to the ATO
    • 95% of PAYG withholding was paid to us on time.

    Note: Businesses can use our Employee/contractor decision tool to determine if a worker is an employee or contractor for tax and super purposes.

    Find out about:

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    Measuring the gap

    We use a top-down approach to estimate the PAYG withholding gap, using data from the Australian Bureau of Statistics (ABS), Treasury and the ATO. This compares the following for a financial year:

    • total individuals income tax withholding minus non-salary and wages withholding, as reported to us on an accruals basis
    • theoretical PAYG withholding from salary and wages calculated using external economic data.

    External data is used to estimate total salary and wages paid. We then apply an average rate of withholding to determine the theoretical total liability.

    We use ATO data to determine the total PAYG withholding revenue, both voluntarily and as a result of direct ATO intervention.

    The difference between the theoretical liability and actual ATO collections gives us the estimate for the PAYG withholding gap.

    We have also for the first time included an estimate of the impact of the black economy in our PAYG withholding calculation. This inclusion has increased the reliability rating to medium reliability as we are now giving a full and holistic view of wages and employment.

    Not all the PAYG withholding gap is lost revenue. While an employer may not deduct the correct amount, employee taxpayers will be required to pay additional tax upon lodging their income tax return and correctly reporting their income.

    Trends and latest findings

    The tax gap estimate in percentage terms for PAYG withholding is relatively low.

    There is generally a high level of voluntary compliance in the PAYG withholding system. We estimate that employers are paying about 95% of the PAYG withholding they are required to without intervention from us.

    The gap typically ranges from approximately 2% to 4% of the total value of PAYG withholding and has seen significant revisions in the past which are due to external data changes.

    In 2014–15 the net gap was $3.1 billion, equating to 1.9% of the total theoretical value. In 2013–14, the net gap was $4.4 billion (2.7% of total theoretical value).

    Overall we observe that the PAYG withholding net gap (including non-pursuable debt) has been shrinking. As there are margins of error due to limitations in the methodology, caution needs to be taken when looking at individual year results. We note that the ABS data indication of weak wage growth flows through to the gap measurement.

    The measurement differences between the PAYG withholding data and the Compensation of Employees data continue to lead to revisions of the gap estimate. We continue to monitor this and engage with the ABS to understand the drivers of this change. Some potential causes include ongoing suppressed wage growth reflected in the national accounts, reductions in small employers in the market and shifts from traditional employees to other work arrangements.

    Australia’s PAYG withholding gap is slightly higher than similar estimates made by the United Kingdom's pay as you earn (PAYE) gap of 1.1% for 2014–15. The UK has also seen a considerable decline in their PAYE gap over recent years.

    The following table shows the PAYG withholding revenue reported, adjustments, and gross and net PAYG withholding gap estimates for the period 2009–10 to 2014–15.

    PAYG withholding gap ($ millions), 2009–10 to 2014–15(a)(b)

    Gap

    2009–10

    2010–11

    2011–12

    2012–13

    2013–14

    2014–15

    Theoretical PAYG withholding

    120,757

    131,992

    145,341

    151,014

    157,982

    165,980

    Impact of the black economy

    1,519

    1,660

    1,824

    1,888

    1,974

    2,077

    Adjusted theoretical PAYG withholding

    122,277

    133,652

    147,165

    152,901

    159,957

    168,057

    PAYG reported and paid

    117,741

    129,275

    142,015

    149,281

    156,409

    165,511

    Gross gap

    5,420

    6,193

    7,112

    5,963

    5,718

    5,420

    Adjustments

    884

    912

    1,050

    1,488

    1,357

    2,290

    Net gap

    4,536

    5,281

    6,062

    4,475

    4,360

    3,130

    Gross gap (%)

    4.4%

    4.6%

    4.8%

    3.9%

    3.6%

    3.2%

    Net gap (%)

    3.7%

    4.0%

    4.1

    2.9%

    2.7%

    1.9%

    (a) Changes from previously published estimates occur for a variety of reasons, including improvements in methodology, revisions to data and additional information becoming available. The black economy estimate increases previously published results by between $1.5 billion and $2.1 billion per year.
    (b) Due to data lag, estimates for tax years 2015–16 and 2016–17 are not yet available.

    The graph below shows the trend in tax reported and the net PAYG withholding gap over the same period.

    Amount reported and net gap – PAYG withholding, 2009–10 to 2014–15

    This graph provides a visual representation of the trend of PAYG withholding reported and net gap. This information is provided in the table listed earlier in this document.

    Data sources: ABS, Treasury and ATO data.

    PAYG withholding gross and net gap percentages

    This graph provides a visual representation of the trend of gross and net gaps as a percentage. This information is provided in the table listed earlier in this document.

    ATO action to reduce the gap

    A range of taxpayer behaviours can affect the gap. These can arise through employers failing to notify or withhold PAYG withholding. The main events contributing to this risk include employers:

    • under-reporting PAYG withholding
    • failing to report or pay withholding on time
    • incorrectly treating employees as contractors.

    These risk events are largely driven by:

    • businesses maintaining cash flow through avoidance of tax and super obligations
    • competitive pressures
    • employees seeking to reduce their taxable income (for example, to reduce child support payments)
    • disengagement or lack of care to comply.

    We focus our efforts in two main areas:

    • helping employers to get things right
    • correcting those who do not.

    We assist employers to get it right and promote a level playing field by:

    • producing online help and assistance products to encourage voluntary compliance
    • demonstrating our tools and calculators in all interaction with clients
    • conducting information sessions via seminars, webinars and visits to professional bodies, associations and industry groups.

    Our targeted engagement activities focus on those at the highest risk of non-compliance. We educate employers that have made a mistake to encourage full re-engagement with the tax system. Indications are that compliance improves in following years.

    This includes conducting reviews and audits of employers at high risk of incorrectly treating employees as contractors.

    Methodology

    The PAYG withholding gap is an estimate of the difference between the tax that should have been withheld by employers from salary and wages paid to employees according to the law (theoretical PAYG withholding), and the actual amounts of income tax withholding from salary and wages received.

    We use a top-down approach to estimate the PAYG withholding gap, which compares total individuals income tax withholding minus non-salary and wages withholding and theoretical PAYG withholding from salary and wages calculated using external economic data.

    The gap estimate is made on the basis of the law as applicable for the relevant income year. New or recent law changes will not be reflected in gap estimates.

    Here we outline the methodology we have selected to estimate the PAYG withholding gap. We detail our assumption, limitations, data sources and reliability rating as assessed by our independent expert panel.

    Selecting the methodology

    Actual PAYG withholding revenue is calculated on an accrual basis, matching revenue to the income year in which the liability occurred, rather than to the income year in which the revenue is received.

    In selecting a methodology we researched and considered the full range of options available including ‘top-down’ and ‘bottom-up’ methods.

    We adopt a top-down methodology largely based on available data from the ATO, Treasury and ABS. This is considered the most suitable given the broad-based nature of the population.

    Applying the methodology

    We undertake a five-step process to estimate the PAYG withholding gross gap, as described in detail below.

    Steps to estimate the PAYG withholding liability

    Steps to estimate the PAYG withholding liability The five steps to estimate the PAYG withholding liability are:  Step 1: Estimate salary and wages subject to withholding (including an adjustment for the black economy) Step 2: Multiply Step 1 by average rate of withholding to determine theoretical PAYG withholding Step 3: Calculate PAYG withholding received, subtracting exclusions and non-applicable amounts Step 4: Subtract Step 3 from Step 2 to determine the PAYG withholding net gap Step 5: Add compliance outcomes to Step 4 to determine the PAYG withholding gross gap.

    Step 1: Estimate salary and wages subject to withholding

    We start with external data on compensation of employees – salary and wages published by the ABS in its quarterly and annual national accounts. We adjust the data in the following manner:

    • We apply an uplift factor of 1.2% to account for the black economy. In arriving at this uplift factor, we considered comparable international uplifts and conducted an analysis of the large amount of data from our interactions with employers and our compliance activities that focus on the black economy.
    • We subtract benefits and payments not subject to withholding. This includes payments in kind (fringe benefits tax), salary sacrifice into superannuation, employee share schemes, and defence exempt income.
    • The resulting amount is assumed to represent salary and wages subject to withholding.

    Step 2: Calculate the theoretical PAYG withholding amount

    We multiply the amount calculated in Step 1 by the average rate of withholding to calculate the withholding amount that should be reported and remitted to us.

    The average rate of tax withheld is calculated from tax return data for each year. It is the amount of tax withheld, in respect of salary and wage income, over the total salary and wages type income.

    This provides us with the theoretical PAYG withholding amount that should be reported and remitted.

    Step 3: Calculate PAYG withholding received by the ATO

    Total PAYG withholding received is calculated from ATO systems data. It is calculated on an accrual basis. Non-resident dividends, interest and royalty withholding tax amounts are excluded.

    Next, we subtract other non-applicable amounts, namely non-salary and wage withholding amounts. These include personal services income for sole traders, tax withheld where an Australian business number (ABN) is not quoted, voluntary agreements, benefits and pensions. We are then left with PAYG withholding received minus excluded amounts.

    Step 4: Calculate the PAYG withholding net gap

    We subtract PAYG withholding received (calculated in Step 3) from the theoretical PAYG withholding amount (calculated in Step 2) and add non-pursuable debt amounts (PAYGW liabilities which have been written-off after being deemed as irrecoverable at law or not economical to pursue) to determine the net gap.

    Step 5: Calculate the PAYG withholding gross gap

    Add compliance outcomes and taxpayer self-adjustments to the PAYG net gap to determine the PAYG withholding gross gap.

    Some of the key assumptions of the methodology are as follows:

    • when we remove identified income not subject to withholding from ABS Australian National Accounts data, the resulting amount represents salary and wages subject to withholding
    • the average rate of withholding we apply to this data is appropriate.

    This table displays the five-step PAYG withholding gap estimates (in dollar values) from 2009–10 to 2014–15

    This table displays the five-step PAYG withholding gap estimates (in dollar values) from 2009–10 to 2014–15
    Summary of estimation process ($ millions)

    Step

    2009–10

    2010–11

    2011–12

    2012–13

    2013–14

    2014–15

    Step 1

    Salary and wages

    550,539

    598,779

    642,684

    664,689

    687,325

    701,408

    Black economy uplift (1.2%)

    6,606

    7,185

    7,712

    7,976

    8,248

    8,417

    Earning not subject to withholding

    25,473

    27,420

    28,219

    26,552

    27,400

    28,884

    Salary and wages subject to withholding (A)

    531,672

    578,544

    622,177

    646,113

    668,173

    680,941

    Step 2

    Average rate of withholding (B)

    23.0%

    23.1%

    23.7%

    23.7%

    23.9%

    24.7%

    Multiply (A) and (B) to calculate theoretical liability (C)

    122,277

    133,652

    147,165

    152,901

    159,957

    168,057

    Step 3

    Total PAYG withholding received

    119,302

    130,001

    142,866

    150,210

    157,406

    166,843

    Subtract excluded amounts

    1,082

    1,178

    1,307

    1,356

    1,404

    1,624

    PAYG withholding received minus excluded amounts (D)

    118,220

    128,823

    141,559

    148,854

    156,002

    165,219

    Step 4

    Non-pursuable debt (E)

    479

    452

    456

    428

    406

    292

    (C) minus (D) plus (E) to equal net gap (F)

    4,536

    5,281

    6,062

    4,475

    4,360

    3,130

    Step 5

    Add compliance outcomes and taxpayer self-adjustments to net gap (F)

    884

    912

    1,050

    1,488

    1,357

    2,290

    Equals gross gap

    5,420

    6,193

    7,112

    5,963

    5,718

    5,420

    Limitations

    Our data for salary and wages from tax returns does not have the same definition as the salary and wages series produced by the ABS. While we make adjustments to increase consistency, there are some items in the ABS data series we cannot quantify. The main variances are as follows:

    • Individuals earning under the tax-free threshold are not required to lodge a return. While a significant number of people earning income under the threshold do lodge tax returns (469,000 for the 2009–10 income year), we will be missing some wage and salary data which will affect the average tax rate we apply.
    • We do not have data on changes in provisions for future entitlements, such as long service leave.
    • While we have tax expenditure statement estimates for tax-exempt Australian Defence Force payments and allowances, this does not include the value of food, clothing and travel.
    • We are uncertain about the number of individuals that are under voluntary withholding agreements or labour hire arrangements where they are classified as employees.

    We use Australian National Accounts data to estimate theoretical salary and wages amounts. There are limitations with this approach which means that there will be a margin of error with the data. The limitations include the following:

    • Sampling and non-sampling errors.
    • National accounts data is often subject to revision which can vary historical trend results. Material revisions to this data will result in changes to the estimated PAYG withholding gap.
    • The value of income tax concessions cannot be determined directly from ABS national accounts data. These values are estimated by Treasury in the tax expenditure statement. This only identifies major exemptions and exceptions and the list is not exhaustive.

    Definitions

    Top-down approach

    Top-down approaches use externally-provided aggregated data sources to estimate the size of the tax base, from which we estimate theoretical tax liability. The difference between the theoretical tax liability and the amount we receive is the estimated tax gap. A top-down approach is typically used for indirect taxes.

    Bottom-up approach

    Bottom-up approaches involve a detailed examination of data sources, such as tax returns, audit results, risk registers or third-party data-matching information. We then extrapolate the results to establish the extent of non-compliance across the whole population, from which we estimate the tax gap. This approach generally involves applying statistical techniques to estimate the incidence and value of non-compliance. A bottom-up approach is typically used for direct taxes.

    Compensation of Employees

    ABS Series 524 National Accounts is used to calculate salary and wages amounts. Compensation of Employees is defined by 2008 System of National Accounts as '... the total remuneration, in cash or in kind, payable by an enterprise to an employee in return for work done by the latter during the accounting period'.

    The Compensation of Employees consists of two main components:

    • wages and salaries (including paid in cash and in kind)
    • employer’s social contributions.

    The ABS produces a salary and wages (cash or in kind) series and an employers’ social contributions series as a part of the Compensation of Employees (National Accounts). Salary and wages include:

    • all cash payments (including penalty payments), all leave payments, supplementary allowances, bonuses, commissions, tips and gratuities, and payments remitted to a third party (such as income taxes)
    • the cost of goods and services provided by the employer to the employee or household (fringe benefits)
    • fringe benefits taxes
    • payments to defence force personnel, including the value of food, clothing and travel
    • changes in provisions for future entitlements, such as long service leave
    • payments to non-residents.

    Data sources

    To estimate the PAYG withholding gap we use a combination of ATO data and external data, such as:

    • ABS Compensation of Employees series and salary and wages (cash or in kind) series from the Australian System of National Accounts
    • ATO data relating to actual salary and wages withholding
    • Treasury tax expenditures statements relating to income not subject to withholding.

    See also:

    Reliability assessment

    The PAYG withholding gap estimates are assessed to be of medium reliability. Data used to estimate the theoretical tax liability is largely based on external data sources and incorporates a factor for the black economy.

    However, there are some ongoing issues with Compensation of Employees data in recent years. This has been raised with the ABS by the ATO and Treasury.

    We continue to refine our work on the PAYG withholding gap in future.

      Last modified: 26 Oct 2018QC 53164