Is the Canadian tax system fair? The short answer is no. Just look at the difference between the taxes working people pay versus the tax on capital i.e. accumulated wealth. A resident of Alberta, B.C. or Saskatchewan can earn up to about $63,000 in investment income (see my assumptions and calculations at the bottom of the page) and pay no income tax. In other provinces the amount is somewhat lower; in Ontario you could earn about $55,000 in investment income without paying any income tax.
A person in Alberta working full-time at the minimum wage will make roughly $31,400 and would pay $2,766 in income tax. To further this comparison, according to Statscan, the average salary in 2019 in Canada was $52,600. The tax on this income would be $8,046; if we put in a 10 percent RSP contribution ($5,260 and probably not doable for most), the tax falls to $6,515.
To this some people will say, so what? Maybe the person with the big nest egg ran a small business, with long hours and a lot of stress before they were finally able to cash out. Or maybe they just earned a very good income when they were working and so they already paid a lot of taxes. Or maybe they didn't earn all that much but they saved by living extremely frugally and now they are being rewarded.
These are valid arguments. We want people to start businesses. We want to reward success. We don't want to punish savers. But would having somewhat higher rates on capital disincentivize these behaviours? I don't think it would. And a perception of fairness and of a shared burden is important to the overall legitimacy of the tax system.
But the real issue is that taxes on the lower end of working income are too high. Adding in EI and CPP (which aren't the same as income taxes but still reduce the persons current ability to spend) means that roughly 15 percent of the paycheque of a person making minimum wage is being deducted. This is more than a lot of businesses pay. For example, in 2016, the last year of aggregated data I could find, the Big 5 banks paid about 12.5 percent in income tax. I don't think many people would characterize that as fair, either.
The tax breaks on investment income / corporate earnings still reflect the trickle-down sham we've been fed since Ronald Reagan and Margaret Thatcher first implemented it in the 1980s. This theory, also known as supply-side economics, claims that if you reduce taxes on the wealthy and on corporations, the benefits will trickle down to lower and middle-income earners as the people getting the tax savings use their windfall to buy more stuff or invest more in their businesses. This extra spending and investment is supposed to grow the economy so much that you could - so the theory argues - actually end up with more tax revenue after cutting taxes. Sounds wonderful, right?
Campaigning against Reagan in the 1980 GOP primaries, George H.W. Bush famously referred to this as "voodoo economics" and he was entirely correct. It has never worked the way its proponents said it would. Countless studies have shown that the trickle never comes because wealthy people don't spend enough of their savings. For one thing, there are only so many things anyone can buy. As Charlie Sheen asks in the movie Wall Street, "How many yachts can you water ski behind?" And with long-term demand stagnant, companies aren't investing enough in expanding their businesses. Instead they have ploughed their tax savings into dividends, stock buybacks and executive compensation, all of which primarily benefit the same people who got the tax cut, which are the people that own a lot of stocks. Since they can't really grow, companies instead have also used their tax breaks to buy labour-saving technology. But that also reduces aggregate demand because unemployed and underemployed people can't buy all the goods they would if they were fully utilized. And so our economy is trapped in long-term stagnation. Meanwhile, we have massive inequality, a crumbling infrastructure and huge debts for provinces and states.
What we need is trickle-up economics. Significantly cutting the taxes of working people making less than $50,000 will do much more to boost the economy because those people are likely to immediately spend all their savings. The Nobel laureate Paul Krugman has a simple formulation: my income comes from your spending and vice versa. Those making the minimum wage are likely forgoing things that they would like to buy because they can't afford them - an occasional fancy dinner out, a real vacation or a trip to the dentist. Giving them more to spend will dramatically increase aggregate demand and this will cause businesses to invest more. The result is a virtuous circle as opposed to the vicious one we are stuck in.
Because we would be cutting the taxes of millions of people, it's unlikely the cuts would pay for themselves unless we also raise taxes on businesses and the wealthy. Since all our politicians are deathly afraid of these two groups (well, the liberals are afraid of them; the conservatives just continue to deny reality, which seems to be their go-to on pretty much everything these days), that is unlikely to happen and so this would probably marginally increase the Federal deficit. But so what? We've been running deficits more or less for decades, and they aren't nearly as scary as people think. Over time those deficits would be slowly inflated away. It's not voodoo, it's just a tax regime that actually works.
Assumptions and calculations:
Portfolio size: $2 million, with 600K sheltered in RSP/TFSA and an overall 60-40 split between equities and fixed income. The 600K I assumed was all held in fixed income.
Returns: Assumed a long-term holder of mostly dividend paying stocks who only sells 1.25 percent of overall portfolio in a year. Assumed an overall dividend return of 2.7 percent, most of which is eligible dividends. A portion was assumed to be in US stocks or ETFs that had non-eligible dividends. The fixed income return was based on a 5 year ladder portfolio of GICs with an overall interest rate of 2.25 percent.
The rounded amounts are $32,500 in total dividends, $12,500 in capital gains and $18,000 in interest income ($13,500 in sheltered accounts) which totals $63,000.
All taxes were calculated for a single person with no dependents and no other deductions or income, with estimates for EI and CPP deductions based on CRA rates.
Comments