Trudeau tax changes not about fairness or performance enhancement

The new Trudeau government is planning to make good on its promise to raise personal income taxes on the top one per cent of Canadian income-earners in order to fund a personal income tax decrease on the middle class.

According to Statistics Canada, to be in the top one per cent in 2013, a tax-filer needed to have a total income of at least $222,000, while to be in the top 10 per cent they required $89,200. The Liberal plan calls for a new 33 per cent federal marginal tax rate on Canadians who earn more than $200,000—up from the previous top rate of 29 per cent—and a reduction in the rate from 22 per cent to 20.5 per cent for those earning between $44,702 and $89,401.

There are two reasons why this strategy should be revisited.

First, while the top one per cent earn about 10 per cent of the Canadian income distribution, they currently provide about 20 per cent of personal income tax revenue. This suggests that the Canadian income tax system is already quite progressive in terms of the top one per cent paying more than its share of income. Raising this rate is not about greater fairness but simply getting the top one per cent to pay more.

Moreover, in 2014, of 25,453,210 Canadian tax-filers, a total of 16,792,270 or about two thirds of Canadian tax filers, reported a total income less than $45,000. Two-thirds of Canadian tax-filers—the bottom two-thirds—will see no tax relief at all from this tax cut. If this were truly about a more just society, it would be fairer (and efficiency enhancing) if the Trudeau government simply brought in a broad-based income tax reduction for all tax-filers.

Second, there is no guarantee that raising taxes on the top one per cent will generate the necessary tax revenue to replace the revenue decline from middle-class incomes.

Economist Jack Mintz has already noted that with the Trudeau four-point tax hike, Canada will go from having the seventh highest to the third highest top tax rate in the OECD. Those who recall the hump-shaped Laffer Curve relationship between tax rates and government revenue will note that raising tax rates increases revenues at lower tax rates—but as rates rise, a work disincentive effect kicks in as well as a stronger incentive to tax plan that erodes revenues. In other words, there is rate of taxation that maximizes revenues. At the seventh highest rate in the OECD, we are likely already at the revenue maximizing rate range.

Moreover, higher rates may encourage entrepreneurial high-income earners to migrate to lower-tax jurisdictions, depriving the economy of their skills. As a case in point, in 2012 Quebec created a new income top tax bracket for people earning at least $100,000, raising their rate to 25.75 from 24 per cent. It’s likely no coincidence that in Statistics Canada’s recent report on high-income tax-filers, Quebec in 2013 was the only province to report a fall in the number of top one per cent of tax-filers, from 43,360 in 2012 to 40,825 in 2013.

In the end, tax systems and tax rates are important ingredients in international economic competitiveness. It would be a shame if our recent progress on more internationally competitive corporate tax rates was neutered by poorly thought out personal income tax changes that resulted in the loss of more entrepreneurial high-income earners while doing little for the personal income tax situation of the vast majority of Canadians.

When it comes to either equity or efficiency, this tax plan is not geared to enhancing performance.