Bracket creep means you keep less income. Indexation would end the stealth tax

Indexation would end the stealth tax of bracket creep 

In Australia, bracket creep has become a silent but significant burden on taxpayers, eroding real take-home pay and fuelling the growth of government revenue without explicit consent.  

Bracket creep occurs when inflation pushes nominal wages into higher tax brackets, even though real incomes may not have increased. For example, consider somebody earning just under $135,000 who receives a pay rise of 2.5% that merely compensates her for inflation over the year. She previously had to pay 30 cents of tax on every extra dollar she earns but now has to pay 37 cents. The nominal income boost she received to compensate her for the cost of living increase is taxed at a higher marginal tax rate than before, even though she is not better off in real terms. Her average tax rate is higher and she is worse off in real terms.    

Axing this hidden tax would not only give relief to taxpayers but allow for real reform that would allow political parties to fulfil their promises to lower taxes. 

This could be done by indexing income tax thresholds to inflation, such as the Consumer Price Index (CPI). If the threshold for the 37% marginal tax rate were inflation-adjusted to $138,375, she would not end up paying 37% in tax on her additional earnings.  

Because tax thresholds are fixed in nominal terms, inflation gradually pushes more of each pay rise into higher tax brackets. For example, if an individual’s salary increases by 2-3% to keep pace with inflation, but the tax brackets remain unchanged, a larger portion of their income is taxed at a higher rate.  

Over time, this results in an automatic increase in the average tax rate, even though the taxpayer’s real income — their purchasing power — has not improved. 

This process is how bracket creep effectively acts as a hidden tax, silently increasing the government’s revenue without the need for explicit tax rate hikes. As a result, the tax-to-GDP ratio rises, enabling the government to finance an ever-expanding public sector.  

While this may seem beneficial for funding public services, it comes at the cost of reduced disposable income for households and adverse implications for productivity.  

When taxpayers have less money to spend or invest, consumer demand and private sector growth are stifled, ultimately harming the broader economy. 

Bracket creep does not affect all taxpayers equally. Research by the Centre for Independent Studies highlights that, while higher-income individuals pay more in absolute tax dollars, bracket creep disproportionately raises tax rates for those in the early stages of their careers or on lower incomes. 

For younger workers, nominal wage increases — often intended merely to keep pace with cost-of-living pressures — can push them into higher tax brackets faster. This means that even modest pay rises, which do not reflect real income growth, can result in a higher tax burden. 

Governments occasionally attempt to address bracket creep by announcing tax cuts every few years. But these measures only provide temporary relief. Indeed, the Parliamentary Budget Office found that the effects of the Stage 3 tax cuts would be offset by bracket creep by the end of the decade. By linking thresholds to inflation, tax rates would only increase when real incomes grow, rather than automatically rising due to nominal wage increases that merely match inflation. This would ensure that taxpayers are not penalised for wage increases that merely match cost-of-living increases and that the tax system remains fair and transparent. 

Indexation would provide greater certainty for taxpayers and policymakers alike. Households could better plan their finances without fearing that inflation would erode their take-home pay, while governments would have to justify the increases in the tax burden that bracket creep brings about covertly.  

This shift would foster a more honest and productive debate about tax policy, focusing on real reforms rather than the occasional giving back of additional taxes raised through bracket creep in politically-timed tax cuts. 

Indexing tax thresholds would not only end bracket creep but could be a key part of broader tax reform.  

For example, indexation could be combined with measures to simplify the tax system, reduce marginal tax rates, or provide targeted relief for low- and middle-income earners.  

This would enhance economic efficiency, promote workforce participation, and support long-term growth. 

It’s time for Australia to take this simple yet transformative step toward a fairer and more sustainable tax system. 

 

Gene Tunny is an Adjunct Fellow at the Centre for Independent Studies and the founder of Adept Economics.