State GST payments: How a tiny Canberra bureaucracy decides where Australia’s $103b GST pool flows

There’s a shocking insight awaiting Tasmanians deep in the complex formula used to dish out GST across Australia.

Hobart is not a real city.

Or at least not a “major city” in the eyes of the Commonwealth Grants Commission, the Canberra bureaucracy which distributes the $103 billion GST pool each year.

All Tasmanians are considered to live in a regional area, even residents with multimillion-dollar homes on the banks of Hobart’s Derwent River.

Their funding needs are instead assessed based on their distance from Melbourne.

On the opposite side of the country, residents of far northern WA face a similar geographic head-scratcher.

When the commission determines how much cash should flow to schools in the remote Kimberley town of Kununurra, it uses a formula which assumes the kids live much closer to Perth than they actually do.

With the wave of a mathematical magic wand, a thousand kilometres simply vanish from existence.

The upshot is that Tasmania gets higher compensation for population spread than WA does, even though the Apple Isle is 30 times smaller.

These are the manoeuvrings of the so-called “needs-based” GST formula, which is intended to ensure every person in the country can access the same standard of government services.

That’s the theory. In practice, the commission’s calculus degenerated into something “manifestly unfair”, according to former finance minister Mathias Cormann.

Mr Cormann was writing in a recent submission to the Productivity Commission’s review of the Turnbull Government’s 2018 introduction of a floor on GST payments.

It’s a decision that has been heavily criticised by some commentators but the move helped avoid extreme outcomes resulting from the Grants Commission’s method.

Under the old rules, WA would have been given just $600 per head this financial year. Tasmanians would get 10 times more.

The new rules introduced in 2018 lifted WA to $2563 per capita, still the lowest in the country. Tasmania is left unchanged. From next financial year, WA will have the same payment per person as either New South Wales or Victoria.

With the Productivity Commission reviewing the rules, a fresh fight between State treasurers is brewing.

WA is fighting to keep the agreement intact. Tasmania is calling for the 2018 reforms to be “revoked”. New South Wales wants each State to get an equal share for each person, with Federal top ups for poorer States.

Bizarre calls

Australia’s system of supporting financially weaker States dates back almost a century and follows a bitter 1930’s fight over trade policy. Taxes on imports, export bans and subsidies for industry benefited some States at the expense of others.

The Grants Commission was created to help balance the ledger.

Yet in the decades since, political intervention and insufficient data have forced some peculiar carve outs.

These have meant the agency’s central principle of ensuring all States have the same ability to fund services often fell short.

The most famous example is pokie machines, which — despite a negative impact on society — are the only form of revenue totally immune from redistribution.

Tasmania sought an exemption of its own in 2024.

The State will get $240 million of Federal funding for a new stadium at Macquarie Point in Hobart but discovered about 98 per cent of the cash would effectively be lost through the Grants Commission’s redistribution policy.

Treasurer Jim Chalmers intervened to give Tasmania a special deal and exclude the stadium money from the Grants Commission’s formula.

The swift resolution contrasts with WA’s decade-long battle to fix the system.

Almost every extra dollar of State revenue created by the mining boom was syphoned elsewhere by the Grants Commission.

“Almost 90 per cent of WA’s iron ore, lithium and nickel royalties were redistributed to other States,” WA said in its submission to the Productivity Commission review.

“New South Wales, Victoria and Queensland effectively received more of our iron ore, lithium and nickel royalties than we did.”

That was not an aberration. It is the central principle of how the Grants Commission system was intended to work: ensuring no State has more capacity to fund services than any other.

In an ironic twist, when the iron ore price collapsed below $US50 a tonne, WA’s share of the GST only increased marginally.

Mr Cormann’s submission to the GST review said the formula had become “so extreme, so volatile, and so manifestly unfair to one jurisdiction in particular” it had threatened the core principle of achieving fairness between States.

“This outcome was unprecedented in the history of the Australian Federation,” he wrote.

The Albanese Government has pledged to keep the arrangement unchanged.

But there’s a catch.

Almost 90 per cent of WA’s iron ore, lithium and nickel royalties were redistributed to other States.

So as to avoid making any State worse off, both major parties used Federal cash to underwrite the deal, which will cost $6.6b in the year ahead.

That policy expires in 2030 and State treasurers are panicked because it will mean their GST payments drop.

“If (that guarantee) lapses, States and Territories, other than WA, will face an unsustainable fiscal cliff that was not intended, resulting in a significant deterioration in services or State finances,” the Northern Territory’s submission warns.

The Grants Commission said its funding recommendations were independent, guided both by law and terms of reference set annually by the Commonwealth Treasurer “which require the advice to be based on the objective of horizontal fiscal equalisation”.

Its review submission highlights that Australia has a system that is effective, transparent and highly-regarded internationally.

“Pursuing horizontal fiscal equalisation is not an exact science,” the Grants Commission wrote.

“It depends on the availability of appropriate data and requires . . . estimates, trade-offs and judgements.

“(Our) approach is to recommend a distribution of the GST that would minimise, as far as possible, differences in the fiscal capacities of the states to provide services.”

Slow going

The principle of making all States equal adds a hurdle for economic development by making tough reforms harder.

New South Wales made this case in its submission to the Productivity Commission review. The State said the GST formula forced heavier reliance on stamp duty instead of less damaging taxes, like land tax.

That’s because the Grants Commission judges States based on their “capacity” to raise revenue, rather than the actual amount raised.

States which move to cut bad taxes such as payroll or stamp duty lose revenue while still being assessed to have the same “capacity”.

The Productivity Commission’s previous GST review in 2017 similarly rung the alarm — warning the principle of perfectly equalising services across states discouraged economic development.

“NSW and Victoria, which have restricted coal-seam gas exploration, benefit from … Queensland’s gas royalties,” that report said.

States which ban industries are assessed as having zero capacity to raise revenue — even though the minerals or petroleum may still be present, the Productivity Commission said.