The Liberals’ taxing challenge

Posted on November 16, 2015 in Governance Debates – News/Politics/Politics Insider
Nov. 12, 2015.   Jeffrey Simpson

When Stephen Harper pondered the 2006 election – the one he would win with a minority government – he searched for a tax reduction that would catch voters’ imagination.

Prime Minister Paul Martin had cut taxes, but the public did not seem to have noticed. What Mr. Harper’s Conservatives needed was a tax cut – they wanted lower taxes and smaller government, after all – that Canadians would see, feel and appreciate. So was born the two-point reduction in what was then the goods and services tax. The Conservatives introduced it with much fanfare, dropping the tax in stages to 5 per cent from 7 per cent.

Almost every economist would have counselled against cutting the GST, because consumption taxes (with offsets for low-income people) dampen spending, whereas personal- and business-tax reductions encourage saving and therefore investment. Report after report from the Organization for Economic Co-operation and Development has recommended this way of proceeding.

But Mr. Harper was after votes, not sound economic policy. He won the 2006 election and cut the GST, and that cut has become so politically sacrosanct that neither of the opposition parties in the recent election would touch it.

The NDP offered a tax cut and new spending, paid for, or so the party thought, by higher corporate taxes on big companies. The Liberals offered an even bigger tax cut for the “middle class,” coupled with big spending increases, paid for in part by higher taxes on people earning more than $200,000 through the creation of a new 33-per-cent tax bracket.

This new bracket, when combined with provincial taxes, will push marginal tax rates for upper-income earners to more than 50 per cent (in some cases well above 50 per cent) in six provinces with well more than half of the Canadian population.

The change is supposed to bring an additional $3-billion to the federal treasury – money central to the Liberal fiscal plan, which calls for deficits in the first three years followed in year four by a balanced budget. This new tax, if it achieves its revenue-raising objective, will bring in half as much as a one-point increase from the GST.

The new government will make its tax changes quickly, but it will be probably three or four years before a serious analysis can be offered about the impact of the 50-per-cent-plus marginal tax rate for upper-income earners.

What can be predicted, because it has already started, is a boom time for accountants, tax lawyers and financial planners as clients, from family doctors to business executives, rush to seek advice on arranging their affairs to avoid or minimize the impact of the high rates.

The Liberals are convinced that most of these efforts will fail. Human ingenuity being what it is, and the tax code being as complicated as it is, we can only wait to see whether ingenuity defeats the government’s intentions.

We will also find out what impact such a high marginal rate has on mobility (a brain drain?) and on work incentives for those whose incomes hover around $200,000; more work for more income might be a declining incentive once the new tax bracket is reached.

The Liberals, had they been willing, could have proposed raising the GST back to 7 per cent, and had plenty of money to pay for their middle-class tax cut, offsets for low-income earners and spending in whatever configuration they chose.

Economists would have cheered, but not likely the voters. Instead, the Liberals targeted upper-income earners, while the NDP aimed at big corporations, both politically easier targets than consumers.

So there is no chance any time soon that the government will reverse the very bad Conservative government GST decision, which appears now to be carved in political stone. Nor does it appear likely that the Liberals will unwind the multiplicity of little tax credits the Tories littered throughout the tax system in the ceaseless search for votes from targeted groups.

However, maybe in a year or two when the Liberals’ campaign promises have been fulfilled, they might consider what is sorely needed: a group outside government examining the Canadian tax system that is now shot full with distortions. The group’s aim should be fourfold: simplification, fairness, economic competitiveness and growth.

It has been a long time since such an examination was done, and one is needed now.

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