Thanks very much.
Like John, I'm very pleased to be here. I think it's very important work that your committee is embarking on, and I wish you well in this enterprise.
My goal today is just to talk about some important areas in the federal tax system that I think still require attention. My comments will reflect my particular interests, which are mostly in the personal income tax area. I'm by no means presenting something exhaustive or comprehensive. It's not possible to do that; the tax system is too huge a thing.
When I started to think about this, I thought it would be useful to cast my mind back, and I'm going to invite you to cast your minds back as well, 10 years to 1998 and think about what's happened since then. A lot of good things have happened, in addition to some problems continuing. I think it's important to remember that Canada has a pretty good tax system, and it's the result of a lot of people thinking about it very seriously and trying to improve it over time, just as this committee is trying to do at the moment. We shouldn't have any notion that there are horrendous, terrible problems in the Canadian tax system that need to be fixed up.
At any rate, here's my little list of things that were wrong 10 years ago.
The first thing is the top tax rate, as John has pointed out, kicked in at too low a threshold. That problem has been quite significantly addressed. I think the $123,000 threshold for 2008 is still a bit low. I was talking to an Australian economist yesterday, and their top rate kicks in at $150,000, so I think we could move further there.
We used to have surtaxes in the PIT, and we don't have them any more. The last surtaxes and the corporate income tax were removed this year. These are good things because those raised the top marginal rates quite a bit.
Ten years ago we only had partial indexation of the personal income tax, which is a bad thing. It increases tax rates every year. We've had full indexation since the year 2000, so that's a big improvement.
Again, the RRSP contribution limit was too low. Ten years ago it was only $13,500; now it's $20,000. We should keep going up, but we've made some progress.
We didn't have a tax-free savings account. Actually, by the way, a better term for this, and it's a term that John has used in his previous work, and others have used, is tax prepaid savings account, because you've paid tax on that money you're saving; you're just not going to get nailed with a second tax in the future. This is something economists have called for, for a long time, in the theory of a consumption tax approach. You should have both the RRSP-type vehicle and you should have the TFSA-type vehicle. It's not some strange thing that came from nowhere; it's been thought about for a long time. I also think the contribution limit should go up, and I hope it will rise more than it's slated to do as we go forward.
Personal income tax progressivity was too strong ten years ago, partly because the top rate kicked in at such a low tax level. But that does have some interesting impacts. One thing I've worked on in my research is the impact of that progressivity on the incentive for people to invest in human capital. So people are thinking about taking graduate programs at university, becoming doctors, lawyers, engineers, whatever, and they ought to think about the material as well as the moral rewards to doing that. Those are reduced the more you enter into high tax brackets after you graduate. This is the impact of progressivity, and it's now been well established that it really does reduce the rate of return to investing in human capital. If people are thinking along these lines, it reduces that incentive.
That's something where the situation has improved quite a bit, and this is something that I don't think people expected. Raising the threshold for the top marginal tax rate has an impact, and there are a lot of other initiatives that have been pursued over the last 10 years to increase the assistance through the tax system for students.
Back in 1998, my research with Kirk Collins at Western indicated that for a median person taking a bachelor's degree in Canada, the effective tax rate on that investment was 15%. A neutral tax system would have an effective tax rate of 0%. Our 2006 results indicate that for this median person this rate is now down to 1%. So it's gone down from 15% to 1% as a result of various changes in the tax system. That is an important victory.
The child tax benefit in 1998.... Due to the clawback, if your net income was above about $70,000, there was no tax recognition for having children, which is a violation of horizontal equity. So, as John pointed out in a paper in 1994, if you had an income of $100,000 and three kids, you paid the same tax as somebody else with an income of $100,000 and no kids. The tax system was effectively treating the kids as if they were a fancy boat. This has been addressed with recent initiatives like the universal child care benefit and the tax credit for kids that was introduced in 2007.
There's a problem a lot of people talk about, about high effective marginal tax rates for low-income people. It's a very difficult problem. It's been addressed to some extent through the working income tax benefit. Federal capital taxes are gone, and it's a very good thing. The corporate tax rate has come down. It was 28% ten years ago and this year it's going to be 19.5%. So there's real progress there.
Lack of harmonization of the GST and provincial sales taxes is still with us. There's a problem with the GST that there are relatively high compliance costs. This is partly or perhaps largely due to the complexity that comes from having multiple rates and different treatment for different kinds of goods. In principle, as an economist, that's a problem that I would like to see addressed in the future, even if it's probably not very high on the agenda for non-economic reasons.
Okay. So that's my little checklist from ten years ago. Now, we could also talk about what's changed. Have problems arisen that we didn't have then? I have a little list of those. There have been some improvements in other areas that I just haven't had a chance to talk about.
Now I'm going to talk about some problems that have arisen more recently. I wouldn't like you to think that I just think it's problems that have come onstream. On these problems that have arisen, the new ones, the introduction of the credit for interest on student loans was unnecessary. In the tax system, the main approach, the way the costs of getting educated are recognized is through immediate expensing. If you have immediate expensing of capital expenses, you don't need interest deductions later. Quantitatively it's not a huge issue, but in terms of a precedent for how we treat interest deductability or credits, I wasn't too happy about that.
Tax mix.... Most economists across the country have been disappointed that the GST rates were reduced rather than having PST rate reductions. We're certainly in favour of rate reductions, but we are more concerned about the impact of PIT, personal income tax, and also about corporate income tax on incentives to save and invest.
It appears, and I think it's probably true, that there's been a bit of an increase in the use of special purpose tax credits to achieve social objectives. This is not something I would rule out entirely. I'm thinking of the public transit tax credit, the children's fitness tax credit, for example. If we want to change people's incentives and if we're convinced that through the tax system is really the best way to do it, then we should do it. We need to be on our guard about trying to do too many things through the tax system. It makes the tax system more complex, but it also reduces the revenue. So you have to keep the rates up, in general, to pay for these additional credits.
The final thing I would touch on is carbon tax. Like many people now, I'm in favour of carbon taxes. There's this benefit that you certainly don't want to use as some kind of revenue grab. If it's introduced in a revenue-neutral way, then you can reduce other taxes that are distorting things like labour supply and saving and investment. So there could be economic payoffs from introducing these taxes if we feel we need to reduce our emissions.
So that's more or less all I had on that.