The top 20 per cent of income earners in Australia will benefit most from the Turnbull government's tax plan, unveiled in Tuesday's budget.

Our Grattan Institute analysis shows most of the revenue reductions to government from the plan are the result of lower taxes on high-income earners.

Once the three-stage plan — including removing the 37 per cent tax bracket — is complete, $15 billion of the annual $25 billion cost of the plan will result from collecting less tax from the top 20 per cent of income earners. That is, people who currently have a taxable income of $87,000 a year or more.

The three-stage tax plan

Step 1: Low and Middle Income Tax Offset

Taxpayers earning between $20,200 and $125,000 receive a temporary tax offset for 2018-19 to 2021-22, in addition to the Low Income Tax Offset (LITO). Up to $530 as a lump sum at tax time.

Taxpayers earning between $20,200 and $125,000 receive a temporary tax offset for 2018-19 to 2021-22, in addition to the Low Income Tax Offset (LITO). Up to $530 as a lump sum at tax time. Step 2: Changes to tax thresholds and LITO

In 2018-19 the top threshold of the 32.5% tax bracket moves from $87,000 to $90,000, and then to $90,000 to $120,000, in 2022-23. The low and middle-income tax offset also ends. The top threshold of the 19% tax bracket increases from $37,000 to $41,000, and the LITO increases from $445 to $645.

In 2018-19 the top threshold of the 32.5% tax bracket moves from $87,000 to $90,000, and then to $90,000 to $120,000, in 2022-23. The low and middle-income tax offset also ends. The top threshold of the 19% tax bracket increases from $37,000 to $41,000, and the LITO increases from $445 to $645. Step 3: Cutting a tax bracket

In 2024-25 the top threshold for the 32.5% tax bracket increases to $200,000, eradicating the 37% bracket. Taxpayers earning more than $200,000 still pay 45%.

Australia's progressive tax system ensures that people with higher incomes pay higher average rates of personal income tax. Without changes to tax scales, bracket creep gradually increases average tax rates for all taxpayers. Middle-income earners are affected most in terms of higher average tax rates.

Although the plan itself doesn't make the tax system much less progressive, it will do little to unwind bracket creep's work in increasing the share of taxes on middle-income earners.

Bracket creep increases the average tax rates paid by all taxpayers when wages are rising — even if they don't move to a new tax bracket — because each taxpayer earns a bigger share of their income in their highest bracket.

Bracket creep hits middle-income earners particularly hard. Without changes to tax rates or brackets over time this means a bigger share of the tax collected comes from middle earners and less from higher income earners.

Even under the Turnbull plan, average tax rates are forecast to be higher for all taxpayers in 2027-28 than they are today — except for a few high-income earners who are less affected by bracket creep in the first place.

A taxpayer who earns $120,000-a-year today will pay an average tax rate of 29 per cent in 2027-28, unchanged from today. In contrast, average tax rates for middle-income earners will continue to rise.

The average tax rate for a taxpayer who earns $36,000-a-year today will increase by 6 percentage points (from 10 per cent to 16 per cent). As a result, the highest income taxpayers will bear a lower share of the total tax burden.

Most of the revenue reductions until 2021-22 under the Turnbull plan are a result of the Low and Middle Income Tax Offset. But once the plan is fully implemented in 2024-25, there are much bigger revenue reductions, because the top of the 32.5 cents-in-the-dollar tax bracket increases first to $120,000 and then to $200,000 (removing the 37 cent bracket). In 2028, these bracket changes account for $20 billion of the $25 billion in lower revenue to government.

The changes to the middle tax brackets account for majority of the cost of the PIT plan. ( Source: Grattan Institute )

Once the Turnbull plan is fully implemented, most of the reduction in revenue is retained by the top 20 per cent of income earners. In 2028, the reduction in tax collected from this group will account for $15 billion of the $25 billion cost of the plan.

Top 20 per cent of income earners account for 60 per cent of foregone revenue ( Source: Grattan Institute )

By 2024-25, the income tax cuts are much larger for high-income earners in absolute terms. People in the top 20 per cent will get an average tax cut of $4,600 a year, compared to $700 a year for someone in the second-lowest income quintile ($24,000-$48,000).

Top 20 per cent get biggest tax cuts. ( Source: Grattan Institute )

The Government claims its tax plan protects middle-income Australians from bracket creep. Certainly the plan reduces average tax rates in 2027-28 for all taxpayers compared to what they would be if there were no changes to rates or brackets over that period.

But middle-income earners are not spared from bracket creep under the Turnbull plan. The average tax rate for a taxpayer at the 50th percentile (the typical "middle-income earner") will still increase by 3 percentage points (from 15 per cent to 18 per cent) compared with 2017-18. Without further changes, average tax rates will be higher for most taxpayers.

The exception is the top 10 per cent of income earners. Average tax rates for those on the highest incomes are virtually unchanged under this plan.

Top 10 per cent spared effects of bracket creep but average tax rates for others rise. ( Source: Grattan Institute )

Once fully implemented, the Turnbull plan doesn't change the progressivity of the tax system much.

Overall, those on high incomes will pay a similar proportion of total tax revenues with or without the plan. But because of bracket creep in the meantime, high-income earners will be paying a lower proportion than today.

John Daley is chief executive of the Grattan Institute and Danielle Wood is the institute's budget policy program director