Canada's tax system is regressive

A while ago, I blogged about a study using data from way back in 1988 that suggested that Canada had a tax system that was essentially flat. Since then, we've seen the arrival of the GST and any number of changes to personal income taxes, so an update to that study was high on my list of "Things I wish someone else would do".

Happily for me, Marc Lee of the Canadian Centre for Policy Alternatives has just removed this particular item (press release here; 44-page pdf here). As I anticipated,  more recent data suggest that Canada's tax system has now become regressive: the average tax rate for the top income decile is lower than that of those who are in the bottom decile.  The trend is not uniform, however: the average rate  rises in the middle deciles, before declining to its lowest level at the top 1% of the income distribution.

When this is combined with the fact that the top 1% of the income distribution has seen a sharp increase in its share of income, it's hard to argue with Marc when he says

An essential point for Canada is that there is scope for raising income taxes at the top of the distribution so that the overall tax incidence becomes, minimally, proportional, and, ideally, progressive. While there may be some theoretical limit to how progressive upper rates can be, we are not close to rates that would have adverse economic consequences. There is still ample room for raising income taxes on the most affluent by raising the top rate or through the addition of new top tax brackets.

Comments

[tom s.]

So does this mean that flat tax proponents are actually promoting the status quo, but with a simpler system? I'd hate to think they have a point...

[Stephen Gordon]

I'm pretty sure that they're only looking at flat *income* taxes. Those are indeed progressive - but are more than counter-balanced by the other taxes we pay. But if they really do have in mind a truly flat income tax, then it looks as though it'd be more progressive than what we have now.

But that's not where we should be heading, of course: we'd want a tax mix that generates revenues without slowing economic growth rates. Consumption taxes will be an important ingredient of that mix, and its regressive effects would be balanced by progressive transfers.

So long as we have a decent system of transfers to low-income households in place, I can live with a less-than-progressive tax system. After all, Sweden's income tax regime is less progressive than what they have in the US. The difference is Sweden's system of progressive transfers.

[Chris]

You may want to do a closer analysis of this study before you buy into the conclusions. The high level point I took away is that the wealthy pay a lower percentage of income in taxes because a larger portion of their income is from capital gains. The study repeatedly says that the preferential treatment of capital gains is unwarranted and that capital gains should be taxed as regular income.

[Marc Lee]

Inverted u-shaped is probably a more apt description than regressive, as the system is still progressive at the bottom, flattens out through the middle, then is regressive at the top.

[Chris]

The economics literature is pretty unanimous that preferential tax treatment of capital income is a good idea (e.g. http://www.minneapolisfed.org/pubs/region/99-12/capital-income.cfm). The study makes a poor argument to the contrary.

[2008 Canadian income tax calculator]

I think, Tom has right, the flat income taxes are in my opinion rather progressive then regressive. By the way, I have searched on internet and found an 2008 Canadian income tax calculator. I think, it could be usefull for you.