A LOW TAX PLAN BUT DEFINITLY NOT GOOD TAX POLICY
“We have a low-tax plan for jobs and growth and the resolve to stay the course. The Next Phase of Canada’s Economic Action Plan will preserve this country’s advantage in the global economy.” (Minister of Finance, August 2011: http://www.fin.gc.ca/n11/11-069-eng.asp).
There is no doubt that the Government has lowered taxes since coming to Office in 2006. Most notable was the lowering of the GST by two points in 2006 and 2007. This reduced government revenues by about $13 billion annually. The government has also lowered corporate and personal income taxes. Since 2006, the corporate tax rate has been cut from 21 percent to 16 percent in the 2011 budget and is scheduled to go to 15 percent in 2012. These reductions will cost the treasury roughly $15 billion annually.
In the case of personal income taxes, the government has reduced the lowest tax rate by 1 percentage point, increased the basic personal amount and increased the lowest two tax brackets. However, it has also chosen to provide special tax “preferences” for specific groups. These include the splitting of pension income for seniors and special preferences to support participation in sports activities, arts and cultural activities, and groups such as volunteer fireman. In the 2011 election, campaign they promised to provide special tax preferences for families with children over eighteen. These cost in the order of $1.5 billion a year.
On this basis, the government is quite correct to claim that they have introduced a low tax plan. What the government cannot claim is that this plan constitutes good tax policy. It has tried to pick losers and winners. In addition, it has not matched the fiscal cost of these tax reductions (about $42 billion by 2012-13) with corresponding spending reductions, such that the Government is now facing a structural deficit, which will only increase over time with the aging of the population.
How could this low tax plan be turned into good tax policy? First, the current plan has only slightly reduced the high effective marginal tax rates imbedded in the personal income tax structure, which seriously inhibit labor force participation. Without getting into detail, what is required is a lowering of the marginal tax rates. This could be expensive. Lowering all rates by 1 percentage point could cost $5 billion annually. Getting rid of all the special tax preferences introduced over the past five years would be a start.
Second, the government should restore the two points to the GST bringing back the $13 billion that was lost. This would more than pay for the cut in tax rates for all Canadians but would also allow a larger reduction in the corporate tax rate than is currently planned.
With these changes, the tax system would now have lower personal and corporate tax rates offset by higher GST. These changes would be revenue neutral, although not neural in terms of their affect on economic growth. This new tax structure would provide greater support to labor force growth, savings and investment, and productivity growth. This, in turn, would provide stronger revenue growth. The International Monetary Fund (IMF), in its latest Fiscal Monitor, stated “some of the adverse impact of fiscal consolidation on economic growth can be alleviated through reforms that shift part of the burden of taxation from labor to consumption”.
But why stop there. The current personal and corporate tax systems have become overly complex and inefficient. The first income tax act introduced in 1917, as the Income War Tax Act, had 11 pages. To day, the Income Tax Act has 2008 pages including regulations and commentary. It needs to be simplified.
There have been few attempts at tax simplification and for good reason. They come at a significant political cost, because it would mean eliminating special preferences for groups, individuals, industries, and sectors – preferences that can no longer be justified. The pay off, however, would be substantial in financial and economic terms. A reasonable estimate would be annual savings of about $5 billion. These new resources could be used to lower personal and corporate tax rates even further,
Regrettably, it is highly unlikely that this government will make any of these changes. It would take a government with a lot of “political leadership and courage” to quote Mr. Flaherty to undertake such reforms.