TAXES CAGING ‘ TIGER’
Canada’s business taxes 2nd highest behind China’s
Canada taxes business investment more heavily than any other competing nation except China — and taxes on Canadians’ personal investment income can reach 80%, according to a study released yesterday.
The findings underscore the need for a dramatic overhaul of the tax system to cope with growing competition from Asia and an ageing population, the C.D. Howe Institute said.
“ Given the competitive and demographic challenges facing Canada, tax reform is increasingly urgent,” Jack Mintz, president of the institute, said in the report. “ In the coming years, Canada should not simply react to changes in tax policy abroad, but should take the initiative and adopt policies that would unleash the Canadian tiger.”
The institute said federal and provincial governments should develop a five-year plan to lower taxes, broaden the tax base and shift taxes from investment and savings toward consumption.
Canada’s marginal effective tax on business capital — combining such things as depreciation deductions together with capital and corporate tax rates — averaged 39% in 2005, the secondhighest among 36 industrial and leading developing countries.
Canada was lower than China at 45.8%, but higher than Brazil at 38.5%, the United States at 37.7% and Germany at 36.9%.
Importantly, Canada’s marginal effective tax rate ( METR) was well above burgeoning economic engines like India at 24.3%, Poland at 20.2% and Ireland, which has slashed its rate to 13.7% and seen economic growth explode. Tax cuts are set to reduce Canada’s METR to 37.3% by 2010, dropping Canada below the U.S. into fifth position. However, other countries are not standing still.
“The German government has proposed a cut in the federal corporate income tax rate from 25% to 19%,” the report said. “The U.S. will be cutting corporate income tax rates by three percentage points by 2010 and an expert panel will soon be reporting on recommendations for fundamental changes to the U.S. tax system that could lower U.S. taxes on investment.”
In a campaign- style speech yesterday, Paul Martin spoke at length about the Liberal government’s economic strategy, but there was no mention of tax reform.
Instead, the Prime Minister concentrated on the need to boost education, and it now appears that education and skills training rather than tax cuts will form the core of any productivity push from Ralph Goodale, the Finance Minister, ahead of the next election.
The C.D. Howe Institute said, however, one of the biggest barriers to economic growth is high tax rates on capital that companies would otherwise use to invest in technology or expand.
Finn Poschmann, associate director of research at the institute, said in an interview that Group of Seven countries in general are falling behind emerging economies. Six of the 10 highesttaxed countries are G7 countries.
“ The transition economies, former members of the Soviet Union, came out of the gate with competitive tax regimes,” Mr. Poschmann said. “Scandinavian countries reformed their tax system to be much kinder to income from investment ... with a very clear understanding this is associated with investment and job growth.”
Not only is Canada lagging on the corporate-tax front but marginal income tax rates on employment and savings income are also a drag on the economy, C.D. Howe said.
Marginal income tax rates — taxes paid on additional earnings received — like overtime work or bonuses — discourage extra effort. This is especially true for lower-income brackets because benefits and credits are clawed back if income rises only a small amount.
C. D. Howe says the average federalmarginal tax rates for families with two children is about 60% in the $25,000 to $35,000 income range. Once $20,000 in income is reached, marginal tax rates are never below 40% and tend to be close to 50%.
If a mother with three children enters the work force, earning a modest income of about $30,000, she will pay significant income, sales and payroll taxes as well as lose child tax benefits and other income-test credits.
“Federal and provincial governments need to have a hard look at their child benefits to find ways to bring down the effective rate low-income families face,” Mr. Poschmann said.
Canada also taxes savings heavily, making it difficult to save for retirement, the report said.
For low-income retirees who have managed to put a little aside, the picture is even worse. Those with modest incomes may pay tax close to 80% on the first dollar above roughly $20,000 as the Guaranteed Income Supplement and its companion benefits are clawed back.
With the country ageing, Canada should be encouraging, not deterring savings, C.D. Howe said. In principle, taxes on savings should be eliminated so that taxpayers pay the same tax regardless of whether they consume their earnings today or in the future, the institute said.
C.D. Howe recommends a slew of changes including: reducing marginal income-tax rates, increasing incentives for Canadians to save inside and outside their RRSPs; cutting corporate income tax levels; and eliminating provincial capital taxes.