Proceedings of the Standing Senate Committee on
National Finance
Issue No. 16 - Evidence - October 25, 2016
OTTAWA, Tuesday, October 25, 2016
The Standing Senate Committee on National Finance met this day at 9:30 a.m. to study Bill C-2, An Act to amend the Income Tax Act.
Senator Larry W. Smith (Chair) in the chair.
[English]
The Chair: Good morning, colleagues. Welcome to the Standing Senate Committee on National Finance. Colleagues and members of the viewing public, the mandate of this committee is to examine matters relating to federal estimates generally as well as government finance.
[Translation]
This morning, we are beginning our study of Bill C-2, An Act to amend the Income Tax Act.
[English]
My name is Larry Smith, senator from Quebec, and I chair the committee. I will briefly introduce the other members of our committee: Senator André Pratte; Senator Joseph Day, former chair of this committee; Senator Richard Neufeld from northern B.C.; the most distinguished Senator Percy Mockler from New Brunswick; Senator Nicole Eaton from Toronto, Ontario; Senator Beth Marshall, former Auditor General of Newfoundland.
Today, to comment on Bill C-2, An Act to amend the Income Tax Act, we have invited three specialists of social, economic and financial issues.
[Translation]
First, we have with us the Parliamentary Budget Officer, Jean-Denis Fréchette.
[English]
Later we will also hear from the Canadian Labour Congress, Angella MacEwen, Senior Economist, Social and Economic Policy Department. I have an excerpt on Angella and it reads: In general, Ms. MacEwen has been a major advocate for the working poor and inequality for women in the workforce. She has done significant work around the area of minimum wage. Ms. MacEwen will support wage redistribution and higher taxation at the wealthy end of the tax scale. Ms. MacEwen has cited the work "So-called 'Middle Class' Tax Cut Leaves Out Most Canadians," by Andrew Jackson.
We will also have, straight from Vancouver, Charles Lammam, Director, Fiscal Studies from Fraser Institute. Mr. Lammam is an expert on tax policy and fiscal studies. He will not be in favour of raising taxes and would favour an entire rewrite of the Income Tax Act. He advocates higher taxes discourage economic growth and prosperity.
Maybe we can start with an introduction.
[Translation]
Mr. Fréchette, can you give us a brief overview of Bill C-2?
Jean-Denis Fréchette, Parliamentary Budget Officer, Office of the Parliamentary Budget Officer: It would be my pleasure.
[English]
The Chair: We will start with you.
[Translation]
Mr. Fréchette: Thank you, Mr. Chair and honourable senators, for inviting me to appear before the committee to discuss Bill C-2, An Act to amend the Income Tax Act.
[English]
I'm really happy to be here, and I am also happy to have Angella sitting on my left. I don't imagine how Mr. Lammam, from the Fraser Institute, is on the left of Ms. MacEwen, at least here in Ottawa.
Although the Office of the Parliamentary Budget Officer did not publish specific reports on Bill C-2 as a whole, we do have some reports that analyze certain specific elements of the bill. I would like to present to your committee some highlights of those reports, which I hope will be helpful in your review of this important legislation.
[Translation]
The document that was provided to you is bilingual, with the other language appearing either on the same page or on the back of the page.
[English]
The first slide is on the fiscal impact of the announced personal income tax changes. Bill C-2 would add a new 33 per cent tax rate for individuals with a taxable income of over $200,000, which is estimated to affect about 340,000 individuals in 2016. It would also reduce the second bracket from 22 per cent to 20.5 per cent. In 2016, an estimated 7.5 million individuals with taxable income fall within the second tax bracket.
The estimated revenue gains from introducing a new tax rate of 33 per cent on taxable income over $200,000 falls short of covering the estimated loss in revenues from reducing the personal income tax rate on the second bracket. As you can see on the table, the shortfall is about $8.9 billion from 2015-16 to 2020-21, or about $1.7 billion annually on average.
In our report, we estimated that the new tax bracket would increase taxes payable by $5,255 for persons with incomes over $200,000 and would reduce taxes payable by $226 for persons with income in the second bracket.
The next slide is on the TFSA. Who benefits from the TFSA? What about the change to the $10,000 annual TFSA contribution limit, which is the situation for 2016, but it will be changed back by Bill C-2 to $5,500 per year?
The TFSA is regressive. Higher wealth and older households receive relatively higher benefits for a very good reason: older households with more wealth can contribute to the limit of the TFSA. The TFSA program would have roughly doubled in four years' time as a share of the economy from 0.7 of GDP in 2015-16 to 0.13 per cent in 2019-20. In other words, this will be reversed, and that's what you see on the next slide with the incremental fiscal impact of last year's budget changes to the TFSA program. The figures that you can see on that table show that will reverse the situation, so instead of incremental fiscal impact of $80 million in 2015-16, this will go back to the normal situation that prevailed in 2014-15.
Next are the bar graphs. When my colleagues and I appeared in June, we presented to your committee what I assume, Mr. Chair, was your favourite PBO report.
[Translation]
I assume that, of course, because we produced the report at your request. In the report, entitled Fiscal Analysis of a Targeted Tax Credit for Taxpayers in the Second Bracket, the PBO presents four options for the redistribution of tax revenues to taxpayers in the second tax bracket.
I included two graphs from the report that we discussed when we met back in June. The first illustrates how taxpayers are distributed within the second tax bracket. It shows that the number of taxpayers is not evenly or uniformly distributed by income. In fact, it declines, which is why the bars on the left of the graph are taller, becoming smaller on the right side of the graph. In that sense, the graph is quite telling because it shows how hard it is to target a benefit to a specific category of taxpayers, if that is indeed the objective.
The second graph summarizes the four options we came up with for you. As the title indicates, they are merely four options among others.
[English]
Thank you, Mr. Chair. I would be happy to answer your questions.
The Chair: Thank you very much. Ms. MacEwen.
Angella MacEwen, Senior Economist, Social and Economic Policy Department, Canadian Labour Congress: Thank you very having me here today. I'm here on behalf of the 3.3 million members of the Canadian Labour Congress, and I want to thank you for this opportunity to present our views on Bill C-2.
The CLC brings together national and international unions along with provincial and territorial federations of labour and 130 district labour councils whose members work in virtually all sectors of the Canadian economy, in all occupations and in all parts of Canada.
Personally, I think it's important to analyze these changes in terms of whether or not they will increase fairness and reduce inequality, as you might have gathered from the introduction that Senator Smith gave of me. In the case of Bill C-2, I find that the result is mixed.
The first part of this bill deals with the proposed middle class tax cut. This proposal reduces personal income tax rates on income earned between $45,000 and $90,000 a year and then increases tax rates on income earned over $200,000 a year. This definition of the middle class leaves out most workers, since most workers don't make enough money to benefit.
Data from the Canada Revenue Agency shows us that only one in three individual tax filers had taxable income over $45,000 a year in 2013, so already we're at the top third of tax filers when we're at $45,000 a year. Because of how our tax system is structured, the maximum benefit of $670 per year is only available to people who earn more than $90,000, so we're already off that chart that the Parliamentary Budget Officer showed you, and so the maximum benefit is available to people between $90,000 and $200,000. This is arguably a group that doesn't need it and certainly wouldn't be the middle class.
On top of this, we know that tax cuts are the least effective form of government spending in terms of reducing inequality or stimulating the economy.
Another way to evaluate this proposed middle class tax cut is on its stated purpose. During the last election, the promise was made to lower taxes for the middle class and to pay for that by raising taxes on the wealthiest. The government bill does not fulfill the spirit of this promise. As I just argued, the tax cut as designed does not benefit middle-income earners, and the government has since admitted that the increase at the top end will fall at least $1 billion short of paying for what is really an upper middle class tax cut. The Parliamentary Budget Officer said it will be more than $1 billion short, maybe $1.7 billion short.
I took the opportunity, and I used the Parliamentary Budget Officer's online budgeting tool, the Ready Reckoner, to come up with some straightforward options that would be available that would meet the spirit of this promise.
One option is to amend the GST tax credit. We could increase the phase-out threshold of the GST credit. It's now around $35,000 a year. You could move that up to $40,000 a year and add $50 to the adult benefit and $50 to the dependant benefit. That would cost of about $1.2 billion per year, so that would be within the cost that we would raise from the upper threshold.
For a family of four, this would increase their annual credit by about $200 per year. It would extend the full benefit of the credit to families whose income falls between $35,000 and $40,000 a year and extend a partial benefit to families with income up to $61,000 a year, as the phase-out right now ends at $52,000 a year. Therefore, that arguably benefits more people in the middle class.
Another option would have been simply to lower the first tax bracket from 15 per cent to 14.5 per cent, which would cost about $1.8 billion and would reduce tax owing by a maximum of $200 a year. You could lower that first rate by more if you increased the third and fourth income tax brackets by a little bit to compensate, because when you lower the first income tax bracket it benefits everyone. You could increase those brackets to get some of that back and lower it by more to target it more to middle-income earners.
On the second part of Bill C-2 regarding The Tax-Free Savings Account, we think that reversing the previous government's changes is a positive decision. Returning the annual contribution limit to $5,500 recognizes that very few Canadians had the resources to take advantage of this higher limit. In fact, only about 8 per cent of the eligible Canadians had reached the maximum contribution limit during the first four years of the program.
We find that there are low-income Canadians who have money in their TFSAs but often these are seniors moving it from one type of investment to another, so you're not increasing or encouraging more saving, or parents who are saving for their children who are in university, which is good but not necessarily targeted to the middle class there.
The Chair: Thank you very much, Ms. MacEwen.
Moving to Mr. Lammam from the Fraser Institute.
Charles Lammam, Director, Fiscal Studies, Fraser Institute: Thank you, chair. Thank you to the committee for the opportunity to contribute my thoughts on Bill C-2. I hope you find my comments helpful and informative as you deliberate on these important public policy issues.
I'm the director of fiscal studies at the Fraser Institute. A little bit about the Fraser Institute: It's an independent, non-partisan economic policy think-tank. The mission of the institute is to measure the impact of government policies and to communicate to average Canadians how those policies affect their lives and the lives of future generations.
My research focuses on economic policies generally but tax and fiscal policies in particular. Earlier this year, I co-authored a study entitled Canada's Rising Personal Tax Rates and Falling Tax Competitiveness. Much of my remarks will draw on the findings of that research, which is available on our website.
I should note that my comments today reflect only my own opinions and observations of the research that we have conducted. I do not speak for anyone else at the Fraser Institute.
I want to first start by saying that a competitive tax system is critical to fostering a positive economic climate. Empirical evidence from around the world shows that taxes can influence whether people engage in economically productive activities such as working hard, expanding their skills, investing and being entrepreneurial. By discouraging these productive economic activities, high and increasing tax rates, particularly on highly skilled individuals, such as the rate increase being proposed in Bill C-2, ultimately diminish economic growth and prosperity, things that governments across Canada are looking to encourage.
Indeed, because high and increasing tax rates adversely affect economic incentives, governments often receive less revenue from tax rate increases than expected. This particular bill is no different.
Personal taxes are particularly important when it comes to building and fostering a knowledge-based economy and attracting and retaining highly skilled workers such as entrepreneurs, lawyers, business professionals, engineers and computer scientists — again, things that governments want to do. The new top federal marginal rate proposed by Bill C-2 as well as recent tax rate increases in many Canadian provinces, harm our ability to attract and retain skilled workers and in fact discourage Canadians from realizing their full potential.
Critically, the new top federal rate of 33 per cent is being layered on top of several tax increases by provincial governments on highly skilled workers. Just as one example, as a result of both the federal and provincial tax hikes, the combined top federal-provincial statutory marginal rate in Ontario has increased from about 46 per cent in 2009 to just under 54 per cent this year. That's more than a 7 percentage point swing in the span of just a few years.
According to the latest available data, Ontario's top combined marginal rate is now the seventh highest among 34 industrialized countries. Canada's income tax competitiveness is further eroded by the fact that Canada's top rates often apply to lower levels of income. This is a very important point. It's not just the rates that matter but also the income levels at which they apply.
More broadly, due to recent tax hikes, the top combined rate now is over 50 per cent in 6 of 10 provinces. If we just consider that for a moment, it means that in most Canadian provinces, including Canada's two largest, highly skilled workers can lose more than half of each additional dollar earned in labour income to personal income taxes.
It's not just the top rate that's uncompetitive in Canada. In most provinces, a Canadian making $50,000 of Canadian labour income faces a higher statutory rate than in most U.S. states. This is despite the reduction in the federal rate from 22 to 20.5 per cent. In other words, Bill C-2 does little to address uncompetitive tax rates, even for middle-income Canadians.
To put it plainly, Bill C-2 will reduce Canada's overall tax competitiveness and ultimately undermine economic growth and prosperity.
It's worth noting that past federal governments, both Liberal and Conservative, had the knowledge of the importance of a competitive personal income tax system. For example, the economic plan of Paul Martin in 2005 called for lower personal taxes to "provide greater rewards and incentives for middle- and high-income Canadians to work, save and invest; and to encourage more Canadians to invest in their skills and to remain in Canada where their talents will help build a stronger, more prosperous economy." Just a few years later, Stephen Harper's Conservative government made a similar point in its own economic plan. Unfortunately, since then we've seen marginal tax rates on highly skilled workers become less and not more competitive.
Those are my initial remarks. Thank you very much.
The Chair: Thank you very much, Mr. Lammam. Welcome to Senator Grant Mitchell, Senator Diane Bellemare and Senator Andreychuk.
Senator Marshall: I have questions for all of our witnesses, so I'll start with the Parliamentary Budget Officer. I know you said in your opening remarks that you didn't analyze the entire bill. I know that your report focused on the second band and the top band.
Even though you didn't look at the entire bill, are you able to tell us which group benefits the most? The reason I'm asking that is because not only did the tax rate change but the bands have also changed. Are you able to tell us which group benefits the most from the tax cut?
Mr. Fréchette: Thank you for the question. Yes, we did two scenarios, and Ms. MacEwen alluded to the first bracket. The first scenario was only about Bill C-2, which is the reduction of the second bracket. What we found out, as I mentioned, is that, of course, in the second bracket, 7 million people will benefit but not equally — that's the graph I showed you before — but also those in the upper bracket. As a result, 30 per cent of all taxpayers will benefit from the reduction only of the second bracket.
In our scenario, if you begin with the first bracket, of course you will have more taxpayers who will benefit, which is 60 per cent. At 50 per cent, you begin to have benefits for the taxpayers, which of course will benefit higher earners also.
Senator Marshall: Okay. What about the band that's in the category from, say, $126,000 to $140,000? Were your able to split it out there between different bands?
Mr. Fréchette: We just focused on the second bracket of what is proposed under Bill C-2.
Senator Marshall: What salary is smack in the middle? Can you tell us half of taxpayers who filed are below this taxable dollar amount and the other 50 per cent are higher? Are you able to tell us that?
Mr. Fréchette: No. We looked at the bracket, and those are the scenarios we did in the second report for the chair and for Parliament as a whole. We provided four scenarios, among many others.
What we showed at that time is that it's very difficult to target one specific group. The chair talked about the middle class as being around $55,000 or $56,000, and we said PBO doesn't use the middle class definition; we use low end and middle income as a definition. It's very difficult, as you can see by the graph, to target that group of $56,000 just because the distribution is among people all through that second bracket. Those at the higher level, at the end of the second bracket, will benefit a little bit more than the ones at the lower level.
Senator Marshall: I looked at the two reports you did, the one for Senator Smith and the one for an MP whose name I can't remember. You included something — I looked at the numbers — called the induced behavioural responses from the affected taxpayers, which as an accountant is something new to me. You actually made adjustments in your chart. Could you elaborate on that and explain that to us?
Mr. Fréchette: The requester was Senator Smith, but I would note that we do it for all parliamentarians. Our reports are published for all parliamentarians.
Senator Marshall: Thank you.
Mr. Fréchette: When you talk about the behaviour, people do not like to pay taxes, and I think Mr. Lammam mentioned that. You have elasticity of taxable income at one point. When people pay more taxes, they try to avoid paying those taxes. We took into consideration in our analysis the impact of that. Of course, higher earners have more capacity with qualified people working for them to reduce their taxable income in one way or another.
We published a report yesterday on the revenues of the government for 2015-16, and we noticed that there was probably some impact of this announcement of increasing the tax rate to 33 per cent. Revenues from personal income tax increased a little bit because of that.
Senator Marshall: What about the lower end? There is also an impact on behaviour at the lower end too.
Mr. Fréchette: It is, but because they earn less money, it's more difficult for them to arrange to pay lower taxes. The impact of behavior is a little bit less than the higher earners.
Mr. Lammam: On these two points, I wanted to expand on the behavioral impact of the tax rate. It's certainly the case that higher income earners are more likely to respond to changes in tax rates in the way that was described in terms of tax planning, shifting income to avoid the higher rate. That's something that most economists agree on. The debate is to what extent it affects behaviour.
It's interesting that when the government initially proposed its tax plan — the new rate on top earners and the reduction for middle-income Canadians — the idea was that this would be a wash in terms of revenue impact. The extra revenue from the higher tax would offset the lost revenue from the lower tax. The government didn't appropriately account for this behavioral response, and even in its budget acknowledged this and said the net cost would be closer to $1.3 billion because higher income earners will pare back their labour effort and will adjust their tax affairs accordingly. The PBO estimates I believe $1.6 billion being the net cost because of this behavioural impact, and others have estimated it to be even higher still. It's really important to note that this is acknowledging that taxes do in fact change people's behaviour. Oftentimes there are unintended consequences from these tax hikes.
Going back to the earlier point about the effect, while there is an effect on personal taxes as a result of Bill C-2, it's important to also look holistically at the government's tax plans. When you look at all the various changes that have either been announced and implemented or will be announced, it's really important to know that middle-income Canadians will actually be paying more tax.
If you think through changes to the Canada Pension Plan, for example, that will require Canadians to pay higher payroll tax and account for the elimination of the income splitting for couples from the previous government and the elimination of various other tax credits, middle-income Canadians are actually going to be paying more in taxes when all of these changes come into effect.
Critically, lower-income Canadians, those under $45,000 of income, will see no benefit from the personal tax reduction because the rate applies to just those between $45,000 and $90,000. They don't see any of that reduction, but they will see their tax bill increase as a result of higher CPP payroll taxes, as well as elimination of those other tax credits that were done.
Thank you for that opportunity to inject those two points.
Senator Marshall: In your opening remarks, aside from looking at individual taxpayers and the upper band paying more taxes, you stated it also has an impact on the country as a whole because it suppresses innovation. I don't have a copy of your remarks here. Could you refresh our memories a little bit about that briefly?
Mr. Lammam: Sure. There are really two channels where the tax changes have an adverse effect on our country; one is through economic incentives and the other is through our competitiveness as a nation.
When you raise taxes, particularly the top rate being proposed in Bill C-2, you're discouraging our most mobile workers who have the means to tax plan and who are the most mobile in terms of finding opportunities elsewhere. You're basically sending a negative signal to them in terms of how we foster an economic environment that promotes productive economic behaviour.
We have to look at Canada's standing now after these changes from an international perspective. Our rates are becoming increasingly less competitive as a nation, and it's not just the federal change we have to account for. It's the many provincial changes that have happened as well. In the case of Ontario, a swing of 7 percentage points for the top rate and having 6 out of 10 provinces with a rate over 50 per cent does send a negative signal internationally in terms of how competitive Canada is economically.
Frankly, this is a critical juncture, because we are in a period where economic growth is slowing down. There are a lot of things happening internationally that governments cannot control. What they can control is their policy framework. Taxes are certainly not the only thing that matters in terms of how our economy performs, but at the margin, it's something that can either help encourage more economic activity or discourage it. Unfortunately, the change in Bill C-2 is discouraging growth, and it's particularly at a time when Canada needs more of it.
Senator Marshall: Thank you. I know my time is up, but put me on second round. I have a question for Ms. MacEwen.
[Translation]
Senator Bellemare: Thank you all for being here. My question is for all three of you, but especially, Mr. Fréchette. Discussions about taxation and tax increases are never straightforward or easy. It is always easy, however, to pinpoint problems. When we talk about taxes, we also have to talk about transfers, what we receive in revenue.
I recently reviewed the coefficient used to measure income inequality in Canada, and I saw that the Gini coefficient has been on the rise since the 1980s. The equation takes into account taxes and transfers.
Did you measure the overall fiscal impact? For instance, when sizable non-taxable family allowance benefits are given to everyone, it's more expensive than under the previous system, and the taxes have to be paid.
Did you measure the impact on the middle class of all the budget measures, including the elimination of income splitting, the allowances and the tax changes? Have you attached a specific number or percentage to the impact on taxable income?
Is it possible to measure the impact of Bill C-2 as a percentage of taxable income? Is it different from the value in absolute terms?
[English]
The Chair: I want to get some comment from Ms. McEwen, please.
[Translation]
Mr. Fréchette: As I said in my opening statement, we did not conduct an overall assessment of the impact of Bill C-2. We would like to, but there are limits to our analysis capacity.
You are absolutely right about the Gini coefficient. It has indeed shifted in recent years. Canada's ranking is fairly respectable as compared with other OECD countries.
As for the issue you raised, there are three economists here today, likely with three entirely different views on the matter. The only point we can probably all agree on is the need for a rather thorough review of the 3,000 or so pages that make up the Income Tax Act.
I would like to pick up on something I said in my presentation. When you want to make the wealthy pay for measures to fund or subsidize lower-income individuals, it is extremely difficult to target the initiative. Everyone at the table today would agree that lowering taxes on the middle class or lower-middle-class is a good thing. Not everyone would agree, however, that the wealthy should basically be made to pay. Some would say yes, others would say no. That is the challenge we have and the difficult choice you have to make when the Parliamentary Budget Officer provides you with the numbers. We said it would cost an extra $8.9 billion to change the personal income tax rate on the second bracket as opposed to being neutral, as Mr. Lammam said. It is not neutral; there is a cost. Should an additional 33 per cent be imposed, or should taxation simply be based on total revenues and the government's tax room? That is an open question that I cannot really answer.
[English]
Senator Bellemare: Have you been thinking of matching all those changes that have been done and computing the net effect about the child benefit, the fractioning of the income, the income tax change, all of them together? Do you have an idea of who is benefiting from those changes?
Ms. MacEwen: I'm part of the alternative federal budget, which is a project that the Canadian Centre for Policy Alternatives does. As part of our process, when we propose a measure like the child tax benefit or improving the Guaranteed Income Supplement for seniors, we do an analysis of who will benefit and what the overall impact will be of everything that we propose.
We've proposed that government should do the same thing. When they do their budget in March, they should have an impact assessment of how this will affect inequality? How will this affect poverty? How do these changes interact with each other in order to accomplish what they're trying to accomplish, because as you say, we have to pay for it somehow. If we don't pay for it by raising taxes, we pay for it by cutting services. We know that affects inequality as well, and it affects well-being, and it affects our productivity far more than an increase at the top tax rate.
If you look at really productive, entrepreneurial places like Silicon Valley and New York, they have very high marginal tax rates at the top end, so it's really difficult to buy Mr. Lammam's argument that that alone would stop entrepreneurial or creative people.
We know that the child tax credit and getting rid of the income splitting will help reduce poverty and inequality. We'll have to wait for some time to see how that plays out.
We know that the previous government gave up a lot of tax room when they cut the GST by 2 per cent. Moving forward, we know that we've cut public services. We'll have to find a way to pay for those things, either by raising taxes somewhere or by cutting services again. That's the choice the government have to make, and we need to do an analysis of what that impact will be on poverty and inequality.
Mr. Lammam: Angella, we've compared the rates in Canada and various Canadian provinces and to U.S. states and we are uncompetitive in an empirical sense. Of course, I'd encourage you to take a look at that.
To the point on whether these tax changes will have a material effect on income inequality, I encourage the committee to reference a study done by Professor Kevin Milligan and Michael Smart where they actually looked at the ability of higher tax rates to affect or reduce income inequality. They found that it's not a productive avenue to pursue.
Even broader than that, if we're going to incorporate transfers into the analysis, which is separate from Bill C-2 but part of what the government is doing, we also need to be holistic in how we measure tax rates.
Economists do something called measuring the effective tax rate that people pay. That is in part driven by personal taxes, but also by the reduction in transfers, as your income rises, from various government programs. What's happened with the Canada Child Benefit is that the reduction rate or the clawback in that program has increased for many Canadians. When you take account of that increased clawback as well as the personal tax system, Canadian families, particularly with kids, could be facing a higher disincentive from earning more income.
That's the key point. We have to look at the tax changes, not at one point in time. We have to realize that when you change taxes, whether it's personal taxes or through government clawbacks of various programs, you're changing people's behaviour in the future, and that's really important. It's not just about how it impacts the income distribution today. It's going to have dynamic effects on the income distribution in the future.
As you raise rates on highly skilled workers, it sends a negative signal to people currently in the middle income tax brackets in that by earning more income, you're essentially going to be penalized for that success, as well as increasing by having a high clawback rate — in other words, losing a lot of money as you earn more income from government transfers — you're sending that same negative signal. That could reduce income mobility, which is more important than the income distribution.
The top earners in Canada are already paying a disproportionate amount of tax relative to their income earned. This is from Statistics Canada. The top 1 per cent, that is people earning over $220,000, are earning $10,000 of the nation's income, and they're paying over 20 per cent of the nation's federal and provincial income tax; so they're already shouldering a disproportionate amount of the tax burden.
[Translation]
Senator Pratte: My questions are for the Parliamentary Budget Officer.
[English]
But other witnesses are welcome to jump in, of course.
[Translation]
Mr. Fréchette, some time ago, in a statement that was both noticed and noteworthy, Senator Smith repeatedly cited a piece of your research. According to the information he gave us, the tax reduction does not benefit nearly 65 per cent of Canadians, in other words, the tax reduction provided for in Bill C-2 benefits just 35 per cent of Canadians, or something to that effect.
Who belongs to that 65 per cent of Canadians who will not benefit from the tax reduction? Is it those who pay less than 22 per cent in taxes and those who pay no taxes at all?
Mr. Fréchette: Taxpayers who do not pay any taxes, and I believe Ms. MacEwen mentioned this earlier, are those who earn up to $45,000. A great many people pay little in taxes. The figures you cited essentially come from that category.
We are still talking about the scale, meaning that those who earn $200,000 or more benefit from the reduction in the rate applied to the second tax bracket, which will drop to 19 per cent. In all the calculations, that is what we take into account. Everyone is favourable to a reduction in the tax rate applied to the category of individuals within that bracket. People at the $50,000 taxation level will pay less in taxes, which is a good thing for them. However, those who earn much more than $90,000 will also benefit.
Senator Pratte: Of the 65 per cent of Canadians who will not benefit from the reduced tax rate, 30 per cent to 35 per cent do not pay any taxes. Whatever the tax reduction may be, then, that segment of taxpayers will never benefit because they do not pay any taxes.
Mr. Fréchette: They pay nothing or very little in taxes or could pay less. As the second scenario shows, rather than affecting the second tax bracket, in terms of the first tax bracket, reductions from 15 per cent to 14 per cent would target a lot more people because the levels are lower. It is more important that the people in that category who do pay taxes pay less.
Senator Pratte: However, reducing the tax rate applicable to the first bracket is very expensive.
Mr. Fréchette: It costs $21.3 billion over five years.
Senator Pratte: My second question has to do with the rise in the deficit resulting from the costs of the measure. The increase in the tax rate applicable to taxpayers who earn more than $200,000 is not enough to offset the cost. Consequently, it will bring the deficit up by an average of $1.8 billion to $1.9 billion a year for a period of four years, for a total of $8.9 billion. Now, according to your latest projections, that $1.8 billion is on an approximately $24-billion deficit for 2017-18. Proportionally speaking, it isn't that significant?
Mr. Fréchette: You are referring to the report we released yesterday. It contains our economic and fiscal outlook, our update. Yes, it shows that the deficit will be $22 billion. That said, when we look at the government's budget target of a debt-to-GDP ratio of 30 per cent in 2020-21, we see that the government could meet that goal two years sooner, in other words, in 2018-19. That goal will already be at 30 per cent. For 2020-21, the budget goal is expected to be 29 per cent. The government has $6 billion in tax room over the next few years, either to reduce taxes or to increase spending.
Senator Pratte: Even though $1.8 billion or $1.9 billion is an enormous amount of money, it isn't the end of the world given the government's overall financial situation.
Mr. Fréchette: It isn't the end of the world. Public policy-makers have some tax room to use as they see fit.
[English]
Ms. MacEwen: Mr. Fréchette says everyone thinks it's a good idea to reduce taxes on people who make $50,000. I pointed out there might be a more efficient and effective way to spend that money, rather than reducing taxes.
$1.8 billion may not be a lot in terms of the overall budget, but that could build a lot of houses, for example, so you are putting people to work. It could retrofit houses to lower our greenhouse gas emissions.
There are more efficient ways that would have higher multiplier effects and impacts than giving everyone a $200 cheque so they can buy something they need, but it's only $200 for each person. Together it's more.
Mr. Lammam: I would reiterate a point I made earlier in terms of trying to analyze what the effect is of Bill C-2. I would broaden the analysis to look at all the various tax-related changes that have been made to get a better sense of what the net impact is on individual Canadians.
Just one point related to that last line of discussion about the deficit and whether there's fiscal capacity to engage in this type of reform, and people can disagree about the fiscal situation of the government, but we have to remember that while the economy is growing slowly, we are not currently in a recession. It does bring a high level of risk when governments are deficit spending, because if there is a change in Canada's economic growth prospects and growth reduces, being in a deficit position when that hits will have an even greater adverse effect on the government's budget because revenues decline and other spending will automatically increase. It's not a prudent way of moving forward in terms of expanding the deficit, particularly at a time when we're not in an economic recession.
[Translation]
Senator Pratte: I, too, am always concerned when the government spends a lot of money. When you compare, however, this expense with the massive infrastructure program, even though it represents an investment, the impact on the deficit is really quite modest, relatively speaking.
[English]
Senator Eaton: My question is to Mr. Lammam. When you talk about Canada's uncompetitive tax rates and that a lot of people will be over 50 per cent, what effect will there be from the GST? We talk about personal income tax, and we pay out from our weekly paycheque and then every time we buy something. That must have an impact as well and that would have impact on people earning $45,000 to $1 million. Would it have been more efficient to lower the GST for some tax brackets rather than lower tax rates or raise tax rates? Then everybody has a choice. It seems to me that the GST would have been a better way to go.
Mr. Lammam: The way I would answer that is to look at the evidence. The evidence is quite clear. I think even Angella would agree on this. When you look at the different forms of taxation, income taxes tend to be high costs on the economy in that they discourage economic growth. Whether it's taxes on business activity, corporate taxes, capital-based taxes or income taxes, they reduce economic activity to a greater extent than taxes on consumption, like sales taxes. In the hierarchy of taxes, it's actually better to reduce the more damaging forms of taxation rather than have a cut in the GST, which tends to be one of the least damaging forms of taxation.
I actually think it was a misstep on the previous government's part to reduce the GST. What it should have done instead was to maintain the GST, or even raise it, and then reduce other more damaging taxes that would have had a greater economic growth dividend.
Senator Eaton: If you reversed it, say we lowered the tax rate, had two or three tax brackets but raised the GST, is that a fairer and more efficient way of raising taxes?
Mr. Lammam: It's unambiguously a more effective way in terms of the effect on the economy. We've actually done calculations where we've calculated what it would take for the federal government to move to a two-bracket system, one low rate at 15 per cent that we currently have and then a single top rate at 29 per cent. By scrapping all the middle income tax rates, we calculate that it would cost roughly 20 something billion dollars for that tax change.
The way that the federal government could find the money to finance it is by doing away with a whole host of ineffective tax credits or what the government refers to as tax expenditures. This has an enormous potential for improving economic incentives, but it also simplifies the tax system because a lot of these tax credits that exist in the tax system, while they reduce people's taxes, they don't actually encourage people to do economically productive things. They don't change behaviour, but they complicate the tax system and erect real costs on Canadian families that can't navigate the complexity of our personal income tax code.
To put it in brief, there are other ways to reform our personal taxes and actually improve economic growth while simplifying the system and still maintaining a progressive tax code in that people of higher income will be paying more than those at the lower end. Unfortunately, we have not moved in that direction.
I'm thrilled that the government is currently examining the option of doing a review of tax expenditures but they're not dealing with the —
Senator Eaton: Obviously the Conservatives lowered the GST. It was a political move. I would say Bill C-2 is a political move. Would you not agree with that? As you say —
Mr. Lammam: The way I would measure it is against the stated objectives. I think this government as well as other governments has said that they want to encourage economic growth. They want to attract a knowledge-based economy. They want to reduce taxes on middle-class Canadians.
When you look at all of their stated objectives, the bill itself, plus the other changes they've enacted, are not working towards that end. It's quite clear to me that we should be looking at the margin. I don't want to give the impression that taxes are the only thing that matter here, but at the margin they can help Canada set a stronger economic foundation, particularly at a time when there is slow growth and a lot of uncertainty around the world.
The Chair: Ms. MacEwen, do you have something, because Mr. Lammam said he was certain you would agree with him?
Ms. MacEwen: He did say that. I do agree that the GST is a more efficient way to raise tax because it's harder to avoid, right? We're talking about higher income owners who can do tax planning and avoid that spending.
Senator Eaton: And it's a choice, right?
Ms. MacEwen: For some people it's a choice. But I don't necessarily feel it has the same effect on our economy that he's suggesting. I do think it would have been better if the Conservatives hadn't dropped that GST and had gotten rid of some of those really ineffective — I agree, and largely benefiting wealthier people — tax incentives for your kid to take hockey or whatever. Those make the tax system more complicated and are expensive. In some small sense, I do agree with what Charles was saying.
The Chair: Do you have a quick question before we move on?
Senator Eaton: No. My only comment is we have the carbon tax to look forward to now. Maybe we'll be discussing that next year on top of our income tax.
Senator Mitchell: We will be discussing that right now. Mr. Lammam, you're arguing that the GST is a more effective tax and should replace income tax. I would argue that, in one sense, a carbon levy is in fact a sales tax like a GST. Would you argue that a carbon levy used to raise money that could then be used on things we don't want that could then be used to reduce income taxes would be an effective way to tax?
Mr. Lammam: When I say that a GST is less economically damaging than other taxes, I'm basing that on a volume of economic research done by the Department of Finance. I'm happy to send you those references by the OECD. This is not something that I'm asserting an opinion about.
The reason for that is you're taxing consumption, and consumption is not what leads to higher productive capacity in the economy. It's really about better things, innovating, better ways of doing what we do, is really what drives economic growth, and that's why capital-based taxes are much more costly because they discourage those things.
To your question, the carbon tax is a bit more complicated. A carbon tax, depending on what design or shape it takes, can be in part a consumption tax, but it can also be a tax on production, and it can actually mimic the style of taxes we have in British Columbia.
B.C. maintains a PST. We no longer have the same tax base as the GST. The PST is similar in nature in that it taxes business inputs. It taxes the production process, which is incidentally among one of the most damaging forms of taxation when you look at that hierarchy because it's taxing the production process.
A carbon tax, depending on what form it takes, could have the sales tax impact that you alluded to, which is much less costly, but it may have this other component by which it taxes production and could be very costly. To really answer that question would depend on how a carbon tax would be structured, but most certainly a carbon tax shouldn't be motivated by a government's desire to generate revenue. In theory, it should be driven by a way of correcting what's called a negative externality. By that, of course the government should be looking at ways to offset the increase in revenue from the carbon tax, and it should be looking at those very damaging forms of taxation, whether it's capital, corporate or income-based taxes to offset the additional revenue.
Does that make sense?
The Chair: It's great to get ourselves in a slightly different direction, and I recognize you're trying to talk about tax and the general impact, but I would like to stay as close as we can to Bill C-2 and trying to analyze the bill.
Do you have a further question?
Senator Mitchell: I have two, if I could.
I really appreciate what Mr. Lammam is saying, and perhaps the Fraser Institute — I don't know how you feel about a carbon tax — could perhaps do that specific kind of analysis because we're going to have one. It would be very useful to know how it could mimic the beneficial effect of the GST increase that you're talking about, and the Fraser Institute could be helpful.
It also raises the disadvantage that some people at the Fraser Institute argue and a tax like this could actually be offset by a carbon tax, applied against Bill C-2 by provinces so they could adjust the specific circumstances in their specific economies with their specific demographics. In fact, if done properly and in a coordinated fashion, the carbon levy that we have and we're going to have more of will actually supplement and strengthen the application of these Bill C-2 amendments. Is that not right, Ms. MacEwen?
Ms. MacEwen: My opinion is that you should use the revenue from a carbon tax to further offset your environmental output, because there are lots of things that we need to do, either building infrastructure like public transit or doing retrofits of buildings or investing in renewable energy or something like that.
I'm not a huge fan of using a carbon tax to offset personal income taxes the way that B.C. has done, although I do agree that perhaps some of it should be like the GST credit where you have a rebate at the lower end to help those people whose home heating costs are going to go up or that kind of thing. If you mimic something like the GST credit, I think that is probably a useful way to make a carbon tax more like the GST.
Mr. Fréchette: Just a short comment on this: It's kind of early to look at a carbon tax. The proposal is there and it will be studied eventually. The federal government said it will respect the various approaches that provinces have. The $20 per tonne in B.C. is a carbon tax. Ontario and Quebec have a cap and trade approach, which is entirely different. The outcome is the same, it is to reduce carbon emissions, but the market is pricing and the cap and trade is pricing the carbon emissions. It's going to be interesting to see the direction that eventually that new policy will have on public finance.
Mr. Lammam: I just want to piggyback on that. It is really difficult to make any meaningful assessment about the carbon tax for a couple of reasons. One, we don't know what shape or form it will take in the provinces, and the federal government said it will impose a tax on the provinces. It's not clear whether it will be federally administered or within the province. There are a lot of questions about how the carbon tax will function and how it will interact with existing carbon pricing schemes in the various provinces. I do think it's hard to make that kind of assessment.
Senator Mitchell: It would be really helpful if organizations like the Fraser Institute tried to answer those questions and gave us policy direction.
My final question is to Ms. MacEwen. I'm taken by your point about the importance of sustaining services. Often we begin to think that economies are just numbers. They're not. They're people. People need support and services, and if they don't have them, it erodes optimism and that's what kills economies. You can't have a strong economy without optimism. I'm just reinforcing your argument that Bill C-2 can actually support services, if done properly, and that supporting services supports people. Their optimism has a stimulating effect on economies.
Ms. MacEwen: I'm not sure how Bill C-2 would do that, to be honest.
Senator Mitchell: Because net, you're going to get more money, I think.
Ms. MacEwen: Sure. That doesn't help services, though. That doesn't help people who really need it. That doesn't help support health care and what people see in their communities. It doesn't get teachers in schools. There are all kinds of things that we desperately need, and $200 back on your income tax at the end of the year just doesn't cut it.
Senator Cools: I'm very impressed by the exchanges and the strong differences of opinion and the agreement that happens from time to time.
Two things: I think that when the British North America Act was put together and the authority to raise taxes was inserted in sections 53 and 54, at that time they had a different view of what raising taxes meant. At some point in the next year or two, Mr. Chairman, perhaps we could look at what the British North America Act meant by taxes and raising taxes in today's community, where taxes are taking on all kinds of novel forms. It would be interesting to do a comparison. But that's for another day.
My question has to do with the kind and quality of the tax brackets. I was particularly interested when Mr. Lammam spoke about the category of $200,000. I wonder if anyone here can assist in identifying how many Canadians are in each of these tax brackets. I would be very interested in knowing, because we hear about it, those in a tax bracket, but how many people are we talking about.
[Translation]
The Chair: Mr. Fréchette, did you want to respond to that question?
[English]
Mr. Fréchette: Just a short comment before I do: What is interesting about the honourable senator's comment about the BNA is that, again, she's also referring to a reform of the global tax system in Canada, which I alluded to before. I said that probably Mr. Lammam, Ms. MacEwen and I will agree on one thing, which is that kind of reform, which I will probably never see in my life. But that's another story.
To answer your question, senator: According to our analysis, there are 340,000 individuals in 2016 in the over-$200,000 taxable income and about 7.5 million individuals in the second bracket.
Mr. Lammam: That's about right. The threshold for being in the top 1 per cent of income earners in Canada is just over $220,000. This is for individuals, not families. Roughly 1 per cent of a population of nearly 35 million works out to close to 350,000 people in that top 1 per cent. That's just in answer to the question.
I do think there is a really important discussion to be had about tax reform. I hope that within my lifetime there will be some serious improvements in our tax system from the perspective of simplicity and efficiency. We had the last round of major tax reform in Canada happen in 1997. We're 30 years out. Next year is Canada's one hundred and fiftieth birthday. I think it's really important to have a fundamental rethink about our personal income tax system, not just because of the issues I've raised today but how complex our tax system has become over the years, I think, is unreasonable.
It's unreasonable that most Canadians can't navigate or understand their tax system. We've created an entire industry, basically, an unproductive industry, geared towards helping Canadians navigate and comply with a very complex system.
We do have a federal tax review of tax expenditures happening currently. I think that's great, but I think we need to be thinking big in terms of what kind of tax reform Canada needs to simplify and make our system more growth oriented.
Ms. MacEwen: I'm not sure if you're familiar with Professor Wolfson and Professor Mike Veall's work on people using small businesses, the CCPC, the Canadian Controlled Private Corporations to avoid taxes, basically.
There are lots of small businesses, doctors, lawyers and other professionals, who have set up these corporations simply to avoid paying taxes. You might want to look. They were shocked at how many people were actually setting up those corporations. The government, during the last election, both the NDP and Liberals promised to look at that and close that loophole. There are likely more Canadians with incomes over that amount, but they're avoiding taxes through these loopholes.
I would agree with what Mr. Fréchette and Mr. Lammam have said, that we do need a wholesale review of this, and we need to make sure that it's fair for everyone. Some people don't have access to these vehicles that other people have access to.
Senator Cools: Do you think avoiding taxes is the same as a person trying to reduce their tax exposure?
Ms. MacEwen: Yes. Avoiding taxes is different than evading taxes. Trying to reduce your tax exposure working within the law I would say is avoiding taxes. Evading taxes is when you're breaking the law.
I'm saying the law right now as structured isn't really fair, so we need to look at that and change how the law operates to make it more fair.
Senator Cools: Chairman, these are very interesting points, and we should look at this committee doing a study at some point on this issue in the context of the national finance and context of the public expenditure in the national finance, which would give us some constitutional authority to exam it. It is clear that a deep, serious study is needed, and perhaps it's timely.
The Chair: Your point is taken. Mr. Lammam, do you have a comment?
Mr. Lammam: I couldn't miss the opportunity to agree with Angella again. I really wanted to throw my weight behind her comments in terms of the need for tax reform.
Just to get a sense of how complex the system has gotten from a bird's eye view, the tax expenditures federally amount to, depending on how you count them, over $150 billion each year. That's the cost to the federal government from having various tax expenditures, including the basic personal exemption. The point is it's a very costly activity to have all these carve-outs, the special tax credits, the deductions for special groups and for special individuals.
Right now the federal government takes in close to $140 billion in personal income tax revenue, so these tax expenditures, the special privileges afforded to few Canadians, are now more costly than the entire personal income tax that the federal government collects.
We've actually measured how complex the tax system has gotten since Canada's inception, and it is getting more complicated. It's really important to make sure that we have a tax system that people understand and that also promotes economic growth.
Our proposal was to have just two rates, one of 15 per cent, which virtually every Canadian would only pay 15 per cent, and the 2 per cent of Canadians would pay the 29 per cent rate. We can get the revenue by doing away with many of these ineffective tax expenditures, just $20 billion, in fact, of the over $150 billion currently in the system to help finance this kind of fundamental tax reform that will help make our system more fair. It will help make it more efficient and certainly simpler compared to the status quo.
Senator Cools: We must be ever mindful that when the income tax system was initiated, it was intended to be a temporary measure. Everybody has forgotten this now, but it became permanent and it grew like topsy.
The committee should also take a little look at the CRA, the Canada Revenue Agency. As you know, prior to that, there was a Department of National Revenue. They took that novel creation and went down that road to avoid certain problems. We should look at that at some point in our studies because I hear many complaints from Canadians about the agency.
The Chair: Before going to round two, I would like to welcome Senator Lankin and Senator Omidvar here. It's great to see you. We have a full house.
It has been written during the introduction of Bill C-2, the definition of "middle class." I asked the Minister of Finance when he came in to present the budget to us how to define what the middle class is. I'd just like to get some comments from our witnesses.
When the Prime Minister campaigned, he said basically, "I'm asking the 1 per cent to help out the middle class." As you go through the bill — I've stated it publicly just as a person — the frustration I have is have you identified who you're helping? You've changed the brackets but have you really identified it, because the result does not appear to meet the intended objectives.
Could we have feedback from the witnesses? Should we define the middle class? Have we defined the middle class? Is this a middle class tax incentive or benefit? Can we have some comments?
I guess we have to be careful. Let's just go over for a second, colleagues, the PBO's responsibility here, because it's not fair to ask opinions, but maybe you can address it from an analytical perspective. The PBO is empowered to do analytical work for parliamentarians, not an opinion group. Mr. Fréchette, if you would like to start.
Mr. Fréchette: Thank you. First, I'll say the PBO doesn't use the "middle class." We use, as I said before, middle income, low income, based on Statistics Canada data. Then I will quote myself from June when I told you that the middle class for politicians is like a wide receiver. It's a moving target that is difficult to reach sometimes.
The Chair: I appreciate that you brought in a football analogy for an old, broken-down football player.
Ms. MacEwen: That's a great way to describe it, a moving target. I also don't like the term "middle class." It appears to mean there is the 1 per cent and it's a synonym for the 99 per cent, everyone else. I prefer "middle income" because then you're specific about what you're talking about.
If you are going to talk about the middle class, you can't forget about the working class. You have to recognize that it has to do with more than just income. It's about what resources are available to you: education level, wealth, family supports, possibly discrimination you might be facing if you're a person with a disability or are a racialized person. All of that comes into people's identities and class identities.
The Chair: So if I understand what you're saying correctly, "middle class" is not necessarily the words you would use, but "middle income" is a possible qualifier?
Ms. MacEwen: If you're dealing with the tax code, I would definitely say "middle income" because "middle class" is more of a sociological term, not an economic term.
Mr. Lammam: I think this is one of the most confusing debates to have. There are obviously political motives for calling someone middle class because it means whatever you want it to mean. It can mean many things for different people. We've done research on trying to define the middle class, and it's so nuanced in terms of what the result is.
Just to give you some idea of the nuances involved, when we say "middle class," are we referring to individuals? Because middle income or middle class based on individual income is dramatically different than middle income or middle class based on family income. First off, we have to know which one we're talking about.
Second, we want to look at things like, whether it's family or individual income, are we talking about income before tax? That's a decision that needs to be made. Are we talking about income after tax and after government transfers, which is also a very different result? These are just a few of the complexities involved in actually giving a meaningful answer to the question.
My preferred way of operating is to simply use whatever income level you're referring to in the analysis, which if you're looking at individuals can be less than $50,000. If you're looking at families with one, two or more people, it can be anywhere between $55,000 and $100,000. Of course, it depends on whether you're accounting for income after or before taxes.
Some people use what's called the median income, so the exact middle point in the income distribution. Some people break out the income distribution into various percentages, the 20 percentages and look at the exact middle of that income distribution.
The point is it's not a straightforward answer but really the question is very ambiguous. It is more helpful to talk about a particular income level and be clear whether we're talking about families or individuals and income before or after taxes.
The Chair: Let's go on to the second round, and Senator Mockler from New Brunswick.
[Translation]
Senator Mockler: Thank you, Mr. Chair. I would also like to commend you on your remarks to the Senate in relation to Bill C-2.
[English]
I would like to look at Bill C-2. I'd like to have your comments on this. We are at a time when there are more people looking for housing from coast to coast to coast, and there are bigger lines at soup kitchens and clothing banks. There is a good read, and I hope you take the time to read it — A Tale of Two Countries by Donald Savoie and Professor Richard Saillant. He says: "The further east one travels, the older the population and the faster it is aging."
In your professional opinion, will Canadians be poorer with these changes in Bill C-2? If so, can you identify the sectors which will be impacted the most?
The Chair: We have some very interesting body language from our panelists. Ms. MacEwen, please go ahead.
Ms. MacEwen: I think what we've established the people who will be poorer. The people who will get money are people with taxable income over $45,000. The people who will most benefit are people with incomes between $90,000 and $200,000 because they'll get the full benefit. The people who will be poorer are people with incomes below $40,000 who will probably have $1.8 billion of their services capped.
The Chair: Interesting.
Mr. Lammam: We can talk about the direct impact of Bill C-2 along with the other tax changes that have been announced and will be enacted. Certainly we've done that analysis. When you look at Canadians across the income distribution, Angella is right that the people below $45,000 don't see a personal income tax cut, but they will see less money in their pockets after their pay cheque as a result of higher CPP contributions. They'll be made poorer, so to speak, in current day terms. People who have higher incomes will, on net, be paying more tax on net income. In other words, their after-tax income will go down.
That's just one part of the analysis. It's critical to look at the effect on people's pocketbooks or tax bill today. However, we also must analyze how this bill will impact people's incentive moving forward. Again, we talk about how the higher rate on upper income will reduce the incentives for people to go from lower and middle tax brackets to those higher ones because of the increased penalty. By working harder and investing in their skills, they'll be able to retain less of their income.
We need public services, as Angella has mentioned, and we want those services, but we need to have a stronger economy, one that encourages entrepreneurship and encourages Canadians to work more. To do that, you have to have an economic policy framework in place that is pro-growth. We need the growth to be able to afford the public services that Canadians value.
It's really critical — not only based on current day terms, but in the future — that we're enacting policies that actually improve our economy and actually help generate a more stable and growth-oriented income.
People are avoiding their taxes because the tax system has become uncompetitive. They're finding ways to channel their income through small businesses, as Angella mentioned. That's really a reflection of how uncompetitive the tax system is. The last thing we want to do is make it more uncompetitive, to detract more people from earning more income, to make it more difficult for Canada to attract and retain skilled workers and to reduce economic incentives, whether it's entrepreneurship or what have you which grows the economy.
Let's take a broader look at this and understand that the changes in Bill C-2, including those that pertain to the reduction in the TFSA room, will be growth-inhibiting. They're not going to encourage growth. That's what we ultimately need for all the other things we want as Canadians.
The Chair: You've been consistent with your points on those particular issues.
Senator Mockler: What impact will it have on seniors? Is Canada at a crossroad as a nation? Should government start embracing the road for an annual guaranteed income in order to address the real challenges of aging and to have better economic stability from coast to coast?
The Chair: That's an excellent point, Senator Mockler. One of our next studies will be on the aging population. This is the precursor of getting into that particular outlook.
[Translation]
Mr. Fréchette: Senator Mockler is absolutely right. Canada's population is aging, as we know, and that will continue until at least 2030-35. Furthermore, as the PBO reports show, in terms of our projections for the next 75 years, we recognize that it is indeed a serious problem.
I would like to pick up on a point Mr. Lammam made, one that ties into the senator's question. When we look at seniors and TFSAs, we see that those contributing to TFSAs have not only higher incomes, but also significant wealth.
[English]
Wealthy people, that is what I said in my presentation. Wealthy and older people can contribute to the maximum. You do have older people who do not have a lot of income or high income. They are in the low and middle income levels, but they do have a lot of wealth because of assets and so on. They may have income coming from dividends. which they don't pay a lot of tax on.
If you look at the future study on older demographics and the tax system in Canada, you will have to look at the wealth of people, which is something that all the other witnesses also mentioned before.
Ms. MacEwen: I don't think this bill is targeted towards most seniors. As Mr. Fréchette said, wealthy seniors will have less room in their TFSAs, but it's set up fairly. I would disagree with Mr. Lammam that people avoid taxes because of competitiveness. I think they avoid it because of fairness. If you know your next door neighbour can avoid taxes, then why are you going to be a chump and not avoid it too?
When people know the tax system is fair and they trust the tax system and there is integrity in the tax system, then they're okay paying their fair share. However, if they think people are getting out of it, why would they pay into it and not take advantage of the same things other people can?
Mr. Lammam: Two points: One is on how Bill C-2 impacts seniors. There is no doubt that the population is aging. There is one under-explored result from Bill C-2, and that's how the reduction in TFSA room could actually hurt lower income seniors. TFSA income, to the extent that seniors claim it in retirement, does not work against their government transfers. If they were to pull out money from their TFSA, they will not lose Old Age Security or any Guaranteed Income Supplement they may be receiving.
This is important for a number of reasons. If you're a relatively low-income senior, and if you were putting money away in your TFSA during your work life, it can actually be a good move for you in terms of augmenting your standard of living in retirement because you're not going to be losing extra income as you would if you had put that money in an RRSP. Low-income seniors in particular could lose out on a benefit from putting away money in a TFSA because of the fact that income is shielded from clawbacks. That is something to consider on that front.
Just as a quick point about the guaranteed annual income, it turns out that my colleagues and I have done a detailed report on this very subject and the potential for it in Canada. I encourage everyone to look at that. I would be happy to provide references.
The guaranteed income, from my research, has to be understood in terms of what it is trying to achieve. Poverty is a complicated issue. A guaranteed annual income, while it sounds appealing in theory in that we would have one transfer, whatever amount it is, to provide some basic income for Canadians, really assumes that the problem of persistent poverty is solely driven by a lack of income.
Poverty is more complicated than that. People who are in poverty for long periods of time tend to suffer from mental health issues, addiction and major disabilities that don't allow them to work. Because of these complexities, poverty has to be treated as such. Having a guaranteed amount of income for everyone, regardless of what drives their poverty, can have perverse, unintended effects in terms of their willingness to work more.
Poverty is a nuanced issue, not to get bogged down and away from Bill C-2, but there are two concerns I have with this in Canada. One is whether it is actually feasible for Canada to move to this system. There are some serious practical challenges involved, and we delineate those in our report. Also, we have to be cognizant that the drivers of persistent poverty are nuanced, and having a one-size-fits-all policy may create new problems we currently don't have. It's something to proceed carefully with.
The Chair: We would appreciate you giving us the link or access to your study.
Senator Marshall: I wanted to go back to the question that the chair asked on the definition of middle class. Ms. MacEwen, in your opening remarks, you referenced middle class, but you also referenced middle-income earners, and I felt you might have been using the two interchangeably. I do note your response to the chair, but I was looking for something more specific with regard to taxable income in terms of dollars.
Are you able to provide us with any guidance? We've been unsuccessful in reaching a definition of middle class or middle-income earners. I'm looking to you to solve that problem.
Ms. MacEwen: No pressure. I was substituting my own definition of middle income for the bill's wording of middle class.
Senator Marshall: That will do for me.
Ms. MacEwen: For middle income, if we split it into thirds, approximately, where we say a third don't pay many taxes and a third are in the first income bracket and a third are above, so you would go with targeting that third that's paying taxes in that first income bracket.
Senator Marshall: You're looking at the one-third of taxpayers in the middle and whatever band they're in.
Ms. MacEwen: Exactly. If you want to do that by quintiles, I would take the middle three income quintiles and say the bottom 20 per cent is usually the bottom that are living in poverty or below the poverty line; and the top 20 per cent are okay as far as I'm concerned. They may be struggling to make ends meet still, but —
Senator Marshall: They're surviving?
Ms. MacEwen: They're surviving.
[Translation]
The Chair: Mr. Fréchette, did you want to comment on the subject?
Mr. Fréchette: No, I don't have anything to add.
[English]
The Chair: Mr. Lammam, do you have anything to add? You were shaking your head.
Mr. Lammam: She spelled it out well, as long as you are clear in terms of how one defines middle class. That is important. But there are additional questions that need to be answered in terms of whether we're talking about individual income or family income, but I've given my remarks on this earlier.
Senator Marshall: This would be individual income, of course.
Mr. Fréchette: Mr. Lammam mentioned that twice, about individual and family income, which is an interesting aspect of the tax system in Canada. The tax system in Canada is based on individuals, contrary to France, for example. In France, you can have family income included in your tax system. That's why it's interesting in the context that it is a situation we have in Canada, but the Canadian system is based on individual income, first of all, and then you have all the credits for families. I agree with that.
I agree with Mr. Lammam on this. We agree on many things so far.
Mr. Lammam: When we file taxes, it is based on individual filing here in Canada. I mentioned the distinction between family and individual income because a lot of the other federal government initiatives are based on family income. The greatest example is the Canada Child Benefit, the new program that consolidated other existing programs. That eligibility is based on family income. If you look at the government's own analysis of retirement income adequacy that was put out in the last few months, that was based on families.
We have to be careful, because without being clear about what we're talking about and just switching between the various policy initiatives, it can be very confusing. That's one of the reasons why the committee is confused and why a lot of analysts get confused. We don't have a consistent definition across the policy areas we're analyzing. It's important to have clarity, including whether we're talking before income or after income taxes and government transfers.
[Translation]
Senator Bellemare: The former Economic Council of Canada studied income distribution and the middle class, basing its analysis on two measures, 25 per cent higher and 25 per cent lower, or 50 per cent higher and 50 per cent lower, than the median income.
At the time, the council found that, since the 1970s, the number of individuals earning a higher or lower median income had dropped, meaning that the middle class had shrunk.
My question is somewhat in the same vein. We are hearing more and more about gender-based analysis. Have you studied the impact through that lens?
Mr. Fréchette: The PBO did not do a gender-based study, but another Senate committee is really pushing us in that direction. Senator Nancy Ruth regularly asks us that question. Yes, we could do a gender-based analysis of the impact, but so far, we have not done so.
We are asked whether, in preparing our labour market report, we conduct an aggregate study based solely on gender or whether we also take into account the aboriginal perspective. That is something we do intend to undertake at some point, but it will make the task more challenging.
An analysis that takes into account gender or other categories of Canadians would be favourable despite making the work more complicated. Clearly, such an analysis would be very helpful to all parliamentarians.
Senator Bellemare: Did you measure the impact of Bill C-2 on provincial revenues?
Mr. Fréchette: No, because it pertains to the federal government.
Senator Bellemare: It deals essentially with the federal average?
Mr. Fréchette: It deals with an aggregate average for all Canadians.
[English]
Ms. MacEwen: I would like to thank Senator Bellemare for the question. It's a fantastic question. I believe Professor Kathleen Lahey at Queen's University does some great analysis on this, and broadly her research finds that a tax cut would be more advantageous to men and cuts to public services would more likely harm women.
We know that. We know that budgets have disproportionate effects on men and women and disproportionate effects on racialized people and indigenous people because of where they're situated both in the labour market and in the country. That would be another analysis. I would have the government do a serious analysis of the gender impacts of the choices they're making.
Mr. Lammam: I have two broad comments. One is about female labour force participation. There has been a dramatic increase in labour force participation among women that I'm sure everyone is aware of. Any type of analysis that looks at gender-based issues, particularly as they pertain to incomes, must be cognizant of the different factors that drive incomes. Any kind of analysis of wage differentials or income differentials needs to account for the various characteristics that also influence wages and income outside of gender, so things like tenure and education levels. It's very important in any kind of analysis to be sure that we're doing the apples-to-apples comparison.
As a final point on this notion that Canada's middle class is not improving or is stagnating, we just did a paper that looked at the median income of Canadian families going back to the 1970s and how that changed. We found that for the median family, incomes are up over 50 per cent. This is incomes after taxes and after transfers, but also importantly is to do an adjustment for the size of the family.
What's been happening in Canada for literally a century now is that the average size of families has declined markedly. From the 1970s, the average size has gone from three to closer to two. That matters because if you take a given amount of income, let's just say $100,000 in inflation-adjusted terms, in the 1970s and spread it across three people and had the same $100,000 but spread across two people today, per family member that $100,000 translates into much more.
We have seen is a shift, and there are ways that Statistics Canada does this adjustment, so that over time per family member, Canadian's incomes after tax, after government transfers, are increasing, and they've increased quite significantly since the 1970s — over 50 per cent.
Senator Bellemare: There has also been an increase in participation rates in the labour market by families over time. That might also explain the fact.
Ms. MacEwen: Mr. Lammam did mention at the beginning the huge increase of women in the labour market. We've had this huge increase in paid employment, so if you adjusted the hours worked per family, I think you would find a substantial difference, and people forget that you've then lost that unpaid labour that women used to perform. They used to take care of kids. They used to drive their parents to the hospital. That unpaid labour is now gone, and families are stressed trying to either replace it or pay for it. Now you've entered some of that into the market and you have to pay for more now.
[Translation]
Mr. Fréchette: The best example I can give is the income splitting analysis we did. It is probably the most striking in terms of the gender-based impact. As you know, income splitting works very well when a large discrepancy exists between the incomes. We found that, on the women's side, incomes were lower. That's a great example of a gender-based analysis.
[English]
Senator Pratte: What do we know about the increased contribution limit to $10,000 that was passed? It lasted a year, right, to $10,000? I suppose we don't have statistics on it because it's too recent. But do we know who was in a position to benefit from that increase that the government now proposes to roll back to $5,500? Who was in a position to benefit and who will lose from that?
Ms. MacEwen: The people who will mostly lose from that are seniors who had to be taking money out of their RRSPs and putting it somewhere else. That had been a lot of the push behind. It would be seniors with lots of wealth.
Senator Pratte: With lots of wealth or revenue or both?
Ms. MacEwen: Wealth.
The Chair: Are there any comments from the other panelists on that?
[Translation]
Mr. Fréchette: When the TFSA limit was raised to $10,000, those who benefited most were obviously older households with significant wealth. And by wealth, I mean the entire assets of the family. Of those individuals, many had relatively low incomes for all kinds of reasons, but significant wealth. They had various assets, homes and so forth. They were the ones able to make the maximum contribution of $10,000.
Senator Pratte: These people would move their assets from one type of investment to a TFSA.
Mr. Fréchette: Precisely. They would do it to boost their assets, for instance, to get a higher return within a TFSA portfolio, which would allow them to grow their wealth further.
[English]
Senator Lankin: I appreciate the opportunity to participate.
I might ask that the committee give consideration in their study of this bill to perhaps engaging someone around a gender-based analysis. I know there have been very good presentations to the Human Rights Committee about how that work is being done, and that might be something that we could consider undertaking.
I apologize for coming late. I will be sure to read all of your comments. I was at another meeting.
I want to ask a particular question. I had the opportunity to engage in the work of a commission to review social assistance in the province of Ontario. One of the things that we found was a perverse impact of marginal effective tax rates on behaviour of individuals in attempting to leave social assistance and attempting to move to higher tax brackets. It was not just for social assistance recipients, but it also presented issues for the working poor.
Here we're talking about tax reductions, but those can also create poor people just below these cutoffs — marginal effective tax rates. If you spoke to this already at any depth, please just tell me and I'll read the comments, but if you haven't, could you all venture your opinion, knowledge or research basis for commenting on what the marginal effective tax rate impact of this bill will be?
Mr. Lammam: This is something I did raise earlier. It's a really important issue that doesn't get sufficient attention. The bill that we're talking about really is focused on the personal income tax changes, but my suggestion is to look at the government's change holistically, which includes the Canada Child Benefit. When you look at that program, the interaction with higher payroll taxes for the Canada Pension Plan that will be implemented in the coming years, despite the personal income tax reduction, some families in Canada will be seeing a higher marginal effective tax rate. It's a pretty important concern in terms of discouraging people from improving themselves and working hard and earning more income. I think it's something that doesn't receive sufficient attention.
In some cases, depending on which province, which income level and how many children you have, you can have marginal effective tax rates well into 80 per cent. So every additional dollar you earn in the labour market would be clawed back by 80 per cent, including both the government clawbacks and the personal income tax and other taxes that you have to pay. This is something that is very important and that needs to be looked at.
There is a lesson to be learned, and we kind of have in Canada with the working income tax benefit. The working income tax benefit, for those who don't know, is a federal program that rather than clawing back the income, at least in the early part of the range, provides a supplement to people earning income. So it provides an additional amount of transfer, a phased-in amount as you earn more income up to a certain amount. That is driven by lessons we had in Canada with the self-sufficiency project, which was basically providing a wage or income subsidy for people who were working. So rather than creating a disincentive for people to earn more, it operated as an incentive that people would receive provided they were working.
Those are the kind of things I think we should look into, and certainly examine all the government's programs, the total effect, and what that will be on Canadian families.
Ms. MacEwen: I offered several options to the middle income tax benefit, and what I considered was expanding the working income tax benefit, but that really gets at the working class.
Right now, the working income tax benefit maximum amount is $1,000, and it starts to get clawed back when you make $11,000. If we expanded the working income tax benefit, that would have a positive effect on these marginal income tax rates, and that would encourage more work and innovation than doing anything at the higher end.
Senator Omidvar: I too, like Senator Lankin, apologize for coming late. If this has been raised, I would be happy to read the transcript.
I'd like to get back to the particulars in Bill C-2 and the proposed drop in TFSA limits from $10,000 to $5,500. My understanding is that even at the lower limit, which was introduced last year, less than 8 per cent of Canadians actually used the full room, which is not a lot, and I think about the real middle class, which in my books is not $45,000 a year but somewhat lower.
I wonder if you have an opinion on a lifetime contribution limit as opposed to an annual limit. A lifetime contribution limit would allow people who are making less than $45,000, let's say for certain numbers of years, but then they progress and they, too, have some way of benefiting from this tax instrument that is currently out of their reach.
Ms. MacEwen: I think that would be an acceptable solution because over time this will benefit just because you happen to be putting money away now at the beginning of the program. Obviously there are costs to that, but I do think a lifetime cap is an acceptable alternative.
Mr. Lammam: I think it's a really important point that people may not be using their TFSA fully in the current year, but that could be because of the stage of life that they're in. They could be maybe a university student, starting a young family with other competing priorities, financial priorities, and contributing to the TFSA, perhaps, is not high on that list.
I think we effectively do have a bit of a lifetime cap now because you can use any unused room in the future. But it's not just how much you put in this year, it's really looking at it from a life cycle perspective. I wouldn't expect a lot of young people to be contributing to their TFSA or even their RRSP, but that's not because the policy instrument is not useful for them in the future. It's driven by the stage of life they're in.
Mr. Fréchette: You can look at the PBO's report of April 27, 2015, which gives four tables on what Bill C-2 is doing, because you're coming back to $5,500, and the comparison to the long term until 2075, if it had been at $10,000, and you will see exactly the distribution of wealth during that period.
The Chair: Thank you very much. It's been a fantastic discussion we've had. Thank you, Mr. Lammam, Ms. MacEwen and Mr. Fréchette. We will see you next time.
(The committee adjourned.)