Monday, July 3, 2006

Reforming Canada's tax system: Personal income taxes

This past weekend, just as Canadians were marking a 1 percent cut in the Goods and Services Tax, we also got a not-so pleasant surprise: A one-half percent rise in the lowest income tax tier to 15.5%. Because we have a progressive tax system, every working Canadian rich or poor was hit by this -- and it will mean an average of $170 per Canadian more will go into federal coffers.

The Conservatives claim this was a tax cut from last fall's "mini-budget" as the House of Commons never passed the budget into law. The budget may not have been passed, true, but the Harperites voted against a Ways and Means Motion that the Liberals, NDP and Bloc supported that cut the rate from 16% to 15% -- and a W & M motion gives the government the authority to raise or lower taxes even if the budget itself hasn't passed. So to say the tax cut wasn't passed is actually a lie.

To add insult to injury, the Basic Exemption was also cut by $400, which means we start paying taxes at an even lower level of income -- a patently ridiculous $8649.

Not to mention the Harper government also has given us a whole bunch of new tax credits that while sounding large on the surface amount to a hill of beans. A five hundred dollar sports equipment credit, for example, is really only $77.50 since the credit is applied at the lowest tax rate. Similar credits are being doled out for public transit paseses, the cost of books at university, and equipment and clothing allowances for work. Peanuts compared to the stated amounts.

Incredible for a party that once championed the flat tax which, in its purest form, works on the presumption that deductions suck. (Alberta does have a flat tax per se; but it's really more of a flat rate, based on the federal definition of taxable income and even then is subject to the same barrage of non-refundable credits that also exist federally before arriving at the final total.)

I could write a lengthy essay about what I think should be done, but I prefer to keep it short and simple. While in the long run, I think a flat tax would make the most sense, I also believe in the short term it is simply not sustainable as long as we have a debt we still need to finance.

So here's what I would do. Seven bold, radical steps.

First, I would raise the exemption substantially -- to $20,000. The spousal amount, which is currently much less than the personal amount, would also go to $20,000. This would eliminate the "marriage penalty" that favours two income families over single parents and stay at home mothers and put all families on a level playing field. It would also ensure many working families don't pay taxes at all -- even before a much more enhanced child tax benefit which will be discussed in a later post.

Second, there would be only three tax rates (from the current four), they'd be lower than the rates that exist right now, and the income thresholds much higher. One jumps into the second tier at 22% after hitting just $36,413 something, which is nuts. Instead I'd set the first rate at 10% on incomes up to $100,000; 15% for earnings from $100,001 to $200,000; and 20% on anything over $200,000.

Third, and to recover much of the revenues that would otherwise be lost by the lower rates, I would get rid of some of the more frivolous deductions that exist out there. Some of the ones introduced this year are just some examples; but I'd make corresponding changes on the business side and get rid of such things as the deduction for a reserved parking space. Tax shelters, such as labour sponsored investment funds, would also be subject to review to see if they're meeting their policy objectives. If they aren't, they'll no longer be sheltered. Of course, RRSPs and company pension plan contributions would still be deductible.

Fourth, to help students, I would roll together the education and "book" amounts, then hike it again, substantially -- to $1000 per month for full time students and $500 for part time. If a student wants to transfer his or her deduction for tuition plus the monthly allowances to a parent, grandparent or spouse, I'd double the maximum transfer to $10,000. A student could also now choose to transfer the deduction to a sibling, if he or she has claimed him or her as the "equivalent to spouse" for that year as the law currently allows one to do. (If, of course, a student wanted to keep the excess for themselves for another year, he or she could still do so.)

Fifth, all deductions and allowances that would survive (including the child care deduction, the northern residents allowance and the disability amount) would be indexed for inflation every year. Some of the amounts haven't changed since 1985 -- the cost of living, of course, has gone up substantially. I'd also set the amounts at a more reasonable level with indexing to take place from that point. So among other things, the northern deduction would double to $30 a day right away; the maximum deduction for child care expenses would go from the current levels of $4,000 to 10,000 (which vary depending on a child's age and whether he or she is disabled) to $8,000 to 20,000; and the disability amount would go all the way up from the current $6800 or so to a far more appropriate $20,000 -- the same as what I suggest the exemption should be.

Sixth, a couple may file a joint return if it would be more tax advantageous to do so. In case of tax evasion, however, strict rules would be put in place so only the evading partner -- not both -- would be held liable.

Seventh, indexing which is currently based on the consumer price index (CPI) should instead be an average of CPI and average labour wage rate increases, since labour contracts tend to outpace inflation. This would protect workers who aren't part of unions as well as pensioners who actually see their lifestyle fall behind those who are so lucky.

In short, the goal is to keep it short and simple -- KISS. In my opinion there is little reason why the form shouldn't be much longer than two pages. But a maximum of four would be far more reasonable than the average of 20 that a Canadian must file every year just for the federal taxes -- let alone what the provinces pile on.

What do you think? Do you have some better ideas? Feel free to leave your comments.

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