Founded in 1920, the Canadian Council on Social Development (CCSD) is an independent, national, non-profit organization. Led by a volunteer board of directors from across Canada, the CCSD has a broad mandate focused on issues of social and economic security. We are a non-partisan, membership-based organization that links concerned individuals and organizations from coast to coast. We form a national network that includes professionals in human service organizations, volunteers, union members, businesses, academics, and provincial government departments, who share a commitment to social progress.
As government background documents so ably demonstrate, Canada's new service-based economy has created a labour market in flux. By-products of this new economy include a greater polarization between highly skilled, good-paying jobs, and lower skilled, low-paying jobs. Global competition and the advent of the information highway have radically changed the way we do business, and have redefined our competitive advantage. These basic changes which form our new economic framework have left us with a host of new challenges to which we must adapt. Adding to the challenge, the federal government must respond to these changes and deal with our large accumulated debt and chronic annual deficits that have persisted since the mid-1980s, despite substantial efforts to reduce public spending.
It is within this context that Canadians are now debating the future of government revenues and spending. It is a context that calls for global competitiveness, greater productivity, enhanced personal skills and education, and a new relationship or "partnership" among governments, businesses, families, and individuals. But there is another side to the story: not everyone has adapted, and not everyone will easily find a place in the "new economy."
Our changing economy has placed tremendous strain on Canadian families, workers, and their children. The Canadian Fact Book on Poverty - 1994, recently published by the CCSD, highlights the trends that have taken place since 1981, and that reflect this strain. There are currently over 1.2 million children living in poverty in Canada almost 1 in 5. The number of working poor families rose by 30% over the past decade. Six of every 10 lone parents now live in poverty and for young mothers with small children, the number jumps to more than eight of every 10. The poverty rate among young families has risen by 40%. Contrary to popular opinion, education and training is no longer a guaranteed hedge against poverty 30% of families below the poverty line have completed their post-secondary education. And finally, there was an even greater polarization of incomes over the past decade, as the highest-income families took home an additional 4.5% of total earnings, while middle- and low-income families (the bottom 60%), watched their share drop by 4.5%. We cannot ignore the fact that our drive for global competitiveness, coupled with deficit reduction measures, has left many Canadians on the sidelines.
In examining government spending and revenues, the nature of our tax mix, and the way in which government operates, we must be guided by a collective vision of how we want to live together. After all, the role of government which includes revenue raising and spending should reflect the agreed upon principles of its citizens. The CCSD suggests that the process be guided by the following basic principles:
- the reduction of economic inequities between individuals and regions;
- equal access to opportunities, so that a person's future is not limited by their social and economic environments;
- means for self-support and the ability to influence decisions that affect one's life;
- collective support for those who are unable to support themselves;
- shared responsibility for our collective well-being; it is in everyone's interest that all Canadians be included in our social and economic fabric; and,
- a system that maintains income security and stability, one that does not require individuals to "hit bottom" before intervening; in other words, one that prevents poverty rather than simply responds to it.
The current reforms being undertaken by the Minister of Finance, just as those of the Human Resources Minister, must be guided by a vision of where we want to be in the future. The situation requires more than simply cutting expenditures. It requires a hard look at all options, and a realistic consideration of how we can most equitably distribute the burden and the responsibility for helping Canadians to adapt to the changing economy, while addressing the need to reduce the national debt. A fair and balanced approach is necessary if we are to maintain our traditional values while meeting the challenges we face today.
A Balanced Approach
The CCSD is calling on the government to stick to its pledge in the "Red Book" that promised a "balanced approach," an approach that was reiterated recently in the Department of Finance paper, Creating a Healthy Fiscal Climate. The Council is concerned that after asking the question, "What is the appropriate balance (and what specific options should be pursued) between expenditure and revenue actions?", there is an immediate shift to, "What should be the priority areas for cuts?". The Finance document then goes on to pose a series of questions about ways to reduce spending. No serious options for generating revenue are presented, nor is there any attention given to equity, or the distribution of the burden of debt and deficit reduction. A truly "balanced approach" is one that looks at both revenues and expenditures, considers the economic and the social implications of measures, and one that recognizes the impact of changes today, as well as the expected impact in the future.
The CCSD proposes an approach that would recognize the debt and deficit problem, while addressing the need to look beyond the immediate bottom line. The Council is fully aware of the debt problem and supports deficit reduction; it is simply the approach presented by the government with which we disagree. In this paper, we will demonstrate that reasonable alternatives to major spending cuts exist, through a fair and realistic assessment of possible revenue measures and a more modest program of fiscal belt-tightening. By earmarking the funds generated through increased revenues, we can reduce and eliminate the deficit, and begin to tackle the debt.
As we stated in a presentation to the Standing Committee on Human Resources Development, to eliminate one side of the equation is simplistic and counter-productive. Cuts aimed at such areas as education or family policies supporting children, for example, would pose a serious threat to Canada's future. These areas represent an investment in the future and inadequate investment in such areas now will only lead to higher costs down the road. The CCSD urges the government to continue to support and invest in these areas, and to adopt a more holistic approach to these challenges - one that will allow us to settle our fiscal and social dilemma, by balancing our present and future social and economic needs.
Debts, Deficits, and the Role of Government Spending
In many circles, government spending and more specifically, social programs, have been popular scapegoats for the deficit. Because the deficit is in the $40 billion range, and we spend approximately the same amount on social programs, some people think the problem can be solved by major cuts to social spending.
As demonstrated in the document, A New Framework for Economic Policy, federal program spending, including all transfer payments, is actually lower today as a proportion of GDP than it was during the 1970s. Yet despite declined public spending, we have continued to incur annual deficits. High interest rates - deliberately pursued in the fight against inflation during the 1980s combined with a drop in the growth rate of government revenues, led to substantially larger deficits year after year. This analysis is supported by a 1991 Statistics Canada study that found annual federal deficits grew "more from a shortfall in revenues than from higher spending." The study pointed to numerous tax changes and the transfer of tax points to the provinces as reasons for the shortfall. In fact, "excluding the cost of unemployment insurance, which is intended to be self-financing over the business cycle, social program spending has not increased relative to GDP over the last 16 years."
The high cost of unemployment is reflected in the rise of Canada's social expenditures, which grew from just under 14.5% of GDP to almost 19% between 1980 and 1990. Even with this increase, Canada still fell below the OECD average by several percentage points (of GDP), and ranked a lowly 15th out of 20 countries in 1990, just as it had a decade earlier. Relatively speaking, we have not seen an explosion in social spending as some would have us believe. Our modest increases have been in line with those of other industrialized countries who have also been struggling to keep up with market changes and high unemployment rates that have more than doubled since the 1970s.
In recent years, the federal government actually managed four surplus operating budgets between 1988 and 1991 - not counting interest charged on the debt. And although estimates for the coming fiscal years show growing operating surpluses, interest on the debt will continue to cause annual deficits, despite efforts to reduce spending. The government has cut costs since the mid-1980s and we are now seeing a responsible match between revenues and program spending. We are not spending ourselves into debt with our social programs.
What does all this mean? The CCSD urges the government to recognize that public spending - and social programs in particular - is not a major contributor to Canada's financial problems. In the past, we have imposed cuts hoping that the deficit would be reduced, but this one-sided approach has not worked. The economic theories of negative spin-offs and multiplier effects tell us that a dollar cut does not equal a dollar saved, since the cuts raise social expenditures elsewhere and reduce tax revenues. How much can we really save by continuing cuts? For example, what is the impact on consumer confidence and consumer spending when we are faced with seemingly endless cuts in government programs and services? And what will be the reduction in tax revenues, and the rise in social program costs? We simply cannot cut billions of dollars out of the economy and not expect some negative spin-offs.
II. International Taxation Comparisons
There is one area where the record must be put straight in the current debate about reducing the national debt: Canada is not a high-tax country when compared to other industrialized nations. Figure 1 [Total Tax Revenue as a Percentage of GDP, 1992] shows that of 10 countries, including the other G-7 nations, Canada's level of total taxation as a share of GDP ranks it in seventh place. At 37%, Canada's taxes are below the average of 39% for all 24 OECD countries in 1992.
Where Canada does stand out, however, is in the composition of its taxes. Figures 2 [Share of Total Tax Revenues Provided by Selected Taxes, 1992] and 3 [Selected Taxes as a Percentage of GDP, 1992] clearly show that Canada relies on various taxes much differently than most other countries. The extent to which personal income taxes support Canada's revenue base is most striking - 40% of all revenue raised is through personal income taxes. We even outpace Sweden, which is often held up as an example of a country that leans far too heavily on personal income taxes to raise government revenues. Moreover, as Figure 4 [Changes in Tax Composition, Canada, 1965-1992] shows, Canada has relied increasingly on this form of taxation. In 1965, only 22.6% of all tax revenue was raised through personal income taxes; by 1992, they contributed 39.6% of all tax revenue.
Perhaps because the personal income tax is so visible, Canadians have the impression that we live in a high-tax country. A look at our total tax mix shows otherwise. And while we often hear complaints from the business community that both payroll and corporate income taxes are out of control, international data show a different story. Canada ranks at the bottom of the OECD league in terms of social security payroll taxes. Even when compared to the U.S. and Japan, we rely much less on these two forms of taxation. As shown in Figure 4 [Changes in Tax Composition, Canada, 1965-1992], these two taxes have followed substantially different trends over the years. Payroll taxes have increased steadily since 1965, while the relative contribution of corporate income taxes has fallen steadily and dramatically. Finally, and perhaps because of recent memories surrounding the introduction of the GST, Canadians also feel that they pay a large share of their taxes in the form of goods and services taxes. In fact, the numbers clearly indicate that the share here has fallen steadily since 1965.
Something not reflected in the international comparisons is the complete absence of an inheritance tax in Canada. (We did away with inheritance taxes in 1972.) Today among the 24 OECD countries, Canada stands alone with Australia and New Zealand as the only countries without an inheritance tax. Defenders of this practice say that Canada's capital gains tax is a form of inheritance tax and you don't need both. That is simply not true: a capital gains tax is a tax on the income generated by capital, not on the capital base itself. Nor does this argument take into account the fact that the other OECD countries with inheritance taxes also have capital gains taxes.
The composition of Canada's revenue-raising system is one of the causes of the rather startling findings in a recent study of Canada's total tax system, done by Irwin Gillespie of Carleton University. His research shows that while the personal income tax component of the system is fairly progressive - in that the proportion of income tax paid rises with income- other taxes work against this progressivity. As a result, Canada's overall tax system is actually flat: rich, poor and middle-income Canadians all pay between 30 and 34 per cent of their gross income in one form of taxation or another (see Figure 5 [Effective Tax Rates as a Per Cent of Income, 1988]).
In concluding this examination of international tax levels and structures, the CCSD recommends that the government and the Finance Committee conduct a serious re-evaluation of the relative mix of taxes in Canada. If Canadians have indeed "reached their taxation limit," perhaps it is more the composition of taxes, and the fact that they are collected in a "flat" or non-progressive manner, that annoys so many Canadians, rather than the absolute level of all taxes.
III. Tax Expenditures
The CCSD would like to address the issue of tax expenditures that are listed in the second annex of the government's document, Creating a Healthy Fiscal Climate. The approach adopted in this document perpetuates an unhelpful, if not misleading, method for defining and listing government expenditures. Almost all economic and social policy analysts today are in agreement on one thing: whether governments spend money directly through programs or through the tax system, it all constitutes government spending, because it all represents a cost to the treasury. According to this government document, selected major tax expenditures in 1991 produced spending of about $27 billion. The total amount of all tax expenditures in both the personal and corporate tax systems is actually much higher - some $90 billion worth are listed in the 1993 Personal and Corporate Income Tax Expenditures report published by the Department of Finance. This second figure is more than twice the $40 billion spent on social programs, and is three-quarters of the $120 billion spent on all direct federal programs. A simple 10% roll-back in this $90 billion worth of tax expenditures would provide a gain of about $9 billion to federal coffers. With figures like these, even if the government chooses not to focus on the revenue side of the deficit equation - but instead considers only spending - it should at least examine all forms of government expenditures: program and tax.
In looking at tax expenditures, the CCSD would like to raise several considerations for this Committee:
RRSP and RPP Expenditures
For many years, the Council has been a strong supporter of tax-assisted retirement support through RRSPs and RPPs. However, we do not feel that public monies should be used to provide private pensions which far exceed average earnings. The present ceiling of $13,500 per person for RRSP contributions, with planned increases to $15,500 per person over the next two years, provides unreasonable levels of retirement pensions. Moreover, the $15,500 limit will be indexed to average earnings thereafter, and not to the more common rate of inflation minus 3%! This generous indexing formula is available to few other government program expenditures, certainly not to child benefits, the refundable sales tax credit, or social assistance.
Figure 6 [Annual Indexed Total Pension Provided by Various RRSP Contributions and CPP/QPP Maximum Benefits, 1994] shows the pension levels that can be generated by different contribution levels, assuming that the person begins investing at age 40 and continues through to age 65. As the figure shows, a RRSP contribution ceiling of $15,500 per person, invested at a real (after inflation) rate of return of seven percent will provide a retirement fund in today's dollars of $900,000. Converted to annual payments (i.e. an annuity), this amount would provide a guaranteed income for life of approximately $90,000 in today's dollars, or a $60,000 annual income if 4% inflation protection is purchased. To this $60,000 indexed pension must be added the current value of the CPP/QPP payment of $8,400, which is fully indexed to inflation. The resulting total pension would be approximately $68,400.
What draws little attention or comment in RRSP discussions is the fact that the RRSP ceiling applies to individual earnings and contributions, not to household or family earnings. This is probably as it should be, but if we are spending public money on RRSP pensions, we should at least examine the implications for two-earner households. At a time when many spending critics are insisting that the level of UI and OAS benefits be geared to family, not individual, income, RRSPs should not escape this same examination. This differential treatment demonstrates once again the scrutiny accorded to program versus tax expenditures. Even though they both draw on the public treasury, most critics seem prepared to use different criteria for judging program effectiveness or targeting.
Today, having two contributors is by far the norm in working households, as 70% of couples with earnings live in households with two earners. This allows for an enhancement of the value of household or family pensions and in the extreme, can lead to a doubling of the value. If both spouses have contributed $15,500 to RRSPs, the total combined indexed pension would be $136,800, guaranteed for life.
Even the current contribution limit of $13,500 per person creates very handsome pensions. Using the same assumptions as above, a $13,500 annual investment between the ages of 40 and 65 would purchase an annuity of about $770,000, which would buy a 4% indexed pension of about $50,000 annually. Add to this the maximum $8,400 CPP/QPP benefit and the total guaranteed-for-life pension is $58,400. If there are two earners contributing $13,500, the total household pension would be $116,800.
A more reasonable RRSP contributory ceiling would be that which prevailed in 1988: $7,500 per person. In 1986, it was proposed that the ceiling for RRSPs be raised over time to $15,500, and that this target be reached according to present plans in the 1996 tax year. An annual $7,500 contribution between the ages of 40 and 65 would produce an annuity of about $400,000, which would convert into a 4% indexed annual income for life of about $28,000. Add to this a fully indexed CPP/QPP pension of $8,400 and the total indexed pension would be $36,400. This compares favourably with the estimated annual average earnings figure for 1994 of $34,400. For two people, the combined guaranteed household indexed pension would be $72,800.
The problem with the high contributory ceiling is that all taxpayers- low middle and high are subsidizing generous private pensions for above-average income Canadians, through higher taxes. Figure 7 [RRSP Contributions, Canada, 1992] shows who benefits the most from the RRSP program and it is overwhelmingly high-income Canadians. The RRSP program redistributes tax expenditures in the "wrong" direction. There is clearly a direct relationship between income and the extent to which individuals benefit from RRSPs. In essence, the higher one's income, the more likely they are to invest in RRSPs, and the greater is their tax benefit (or cost to the government).
The OAS benefit has been criticized because it is badly targeted and too much of the benefit goes to the rich elderly. In fact, as Figure 8 [Distribution of OAS Benefits and RRSP Contributions by Income Level, Canada, 1992] shows, 82% of OAS benefits are received by elderly individuals with incomes less than $30,000. By contrast, 80% of RRSP contributions, and subsequently the tax benefits, are received by individuals with incomes in excess of $30,000. (For perspective, the average income of tax filers was $26,107 in 1992.)
Clearly, the allegedly "bad" distribution of OAS benefits pales in comparison to the income distribution of RRSP contributions. Yet critics continually call for cutbacks to a program that is already well targeted, but not to a program that is badly targeted, even though they achieve the same purpose: to provide tax-assisted retirement income benefits.
Unfortunately, it seems impossible in today's atmosphere of restraint, coupled with an aging population, to question the issue of the RRSP tax expenditures. It causes a knee-jerk reaction. Seemingly without much reflection, opponents of any RRSP changes assume that talk of RRSP reform means taxing RRSPs, or even doing away with them. Their response is, "How are people going to finance their retirements if RRSPs are not available?" The CCSD is not proposing taxing or doing away with RRSPs, but is instead suggesting some modifications that will make the system fairer for all wage earners, and stop the subsidisation of unreasonably high pensions.
In order to attain these objectives, the CCSD makes the following suggestion:
Reduce the contributory limit to $7,500 per person which, combined with CPP/QPP benefits, will generate a retirement income of $36,400, or in the case of two similar-contributing spouses, a household pension of $72,800. If people want higher retirement incomes than that, they can turn to private savings and investments (such as mutual funds or government bonds), without the support of taxpayers. The public obligation should be to help retirees establish a pension income that is in line with prevailing average earnings in Canada. Under this proposal, nobody with current earnings below $41,700 would be affected. (This amounts to $83,400 for a two-earner household.)
Registered retirement pensions (RPPs) are a more complicated matter, because they involve both "money purchase" (which are similar to RRSPs) and "defined-benefit" plans (i.e. a worker will receive a company pension equal to 60% of their five best earning years). When RRSP contributory ceilings were dramatically increased in an October 1986 government statement, the rationale was to bring them in line with RPPs. It was stated that the self-employed, who rely on RRSPs for their retirement, were being discriminated against in favour of employed workers covered by company plans. The government could just as easily have reduced the tax advantages for RPPs, however, but chose to "level the playing field" by making the tax-assisted retirement system even more generous.
Any lowering of the RRSP contributory ceilings will have to be matched by reduced ceilings for RPP tax assistance, in order to keep the playing field level. We acknowledge that changes in the rules for defined benefit plans may present problems that will have to be given serious consideration - perhaps through "grandfathering" clauses. The CCSD is in no position to recommend the detailed tax changes that will be required to defined benefit RPP legislation. These details can be worked out by the Department of Finance and pension industry officials. We assume, however, that the savings in RPP changes will be roughly proportional to those generated by our proposed RRSP changes.
The current cost implications of RRSP/RPP proposed reforms are difficult for outsiders to estimate because only the Departments of Finance and National Revenue have the current confidential tax data that is needed to produce estimates of savings. It has been estimated by the Department of Finance, that an $8,000 ceiling on both RRSPs and RPPs would save one billion dollars in the first year. The savings would accelerate each year as the total size of the RRSP/RPP "fund" is reduced, hence lessening the tax expenditure (or cost to the government) on these sheltered investments.
Partial Inclusion of Capital Gains
Until 1990, only two-thirds of capital gains income was included for taxation purposes. In 1990, this was increased to 75%. This still means, however, that 25% of all capital gains go untaxed. By the government's own estimates, the cost to the public treasury for this exclusion was $1.1 billion in 1991. The CCSD suggests the government recognize the fact that a "buck is a buck" and that capital gains should be taxed, as are other forms of income. (The U.S. recently moved to full inclusion of capital gains income for tax purposes.)
Dividend Tax Credit
Dividends received by the shareholders of Canadian corporations are subject to a special tax break, amounting to one-third off the normal tax. In 1991, this cost the government $700 million in foregone revenues. The CCSD understands the rationale behind this practice, which is to avoid the double taxation of corporate income: since dividends are paid out of after-tax corporate income, they have already been taxed. However, figures produced for the Ontario Fair Tax Commission show that annually, about one-third of profitable corporations - those likely to be paying dividends - did not pay any corporate tax. Consequently, dividends passed on to shareholders have not been taxed, and should therefore be taxed at regular rates. The savings of such a change could reach $230 million - one third of the amount of taxes foregone to support the Dividend Tax Credit.
One closing note to this tax expenditure section: in order to permit the proper scrutiny of tax expenditures, both by the public and government committees, the government should produce an annual tax expenditure account as part of its public accounts. This account should not only list the total amounts of the tax expenditures, it should also provide a breakdown of beneficiaries by income level and gender. In lieu of this, the government should make a sample of edited tax data available so that groups outside the government, like the CCSD, can produce such an account.
IV. Wealth Transfer Or Inheritance Tax
As mentioned earlier in our brief, Canada is one of only three OECD countries without an inheritance tax on wealth. The CCSD suggests that the government consider re-instituting an inheritance tax. Estimates of how much could be raised by such a tax can be arrived at by different means. Using the average rate for OECD countries - inheritance taxes are equivalent to 0.20% of GDP - and applying it to Canada's 1994 GDP, would produce an amount around $1.5 billion. If we were to use the amount raised in 1972 as a guide (the last year the federal government collected an inheritance tax), and adjusted it to the 1994 standard of living, the amount would be around $2.2 billion. Another method would be to apply the $15 billion raised in the U.S. annually in relative terms, which would translate into about $1.5 billion for Canada.
While the CCSD has produced these estimates to give an idea of the potential for new revenue, it proposes another approach to both the rationale and the tax rate. Unfortunately Statistics Canada has not conducted a wealth survey since 1983, so we do not have a good estimate of how much wealth there is in Canada today, or who holds it. However, research by Royal Trust estimates there will be a transfer of $1 trillion dollars between generations over the next 15 years. The CCSD proposes that these inheritances be taxed at a low rate of 5%. This measure would produce roughly $50 billion over 15 years, or $3.33 billion annually.
The rationale for this approach is that the retiring generation roughly, those over 50 years of age today - that has accumulated this large amount of wealth has, by and large, been the generation responsible for running up the debt. It has been a favoured group economically. This group earned incomes in a time of low unemployment and rising wages, and it was supported by a social, health and educational system that is now being slashed. In retrospect, it did not pay its share of taxes that were required to finance the level of services it enjoyed. It is now passing on this debt to younger Canadians. The CCSD thinks that the wealth of this generation, before it is passed on, should be taxed in order to "pay back" the extensive benefits of living in what now looks like privileged economic times. Finance Minister Martin has recently called on Canadians to make voluntary donations to pay down the debt. We like this sentiment, but go a step further and recommend payment be mandatory for those passing on wealth in the years ahead.
Savings achieved through the proposed tax changes governing RPPs, RRSPs, capital gains, and dividend tax credits, combined with new revenue gained through a 5% tax on inheritances, would produce approximately $6 billion in the first year, and this would grow in real terms over time. This figure represents only savings made possible by changes specifically identified in this brief. Keeping in mind that total tax expenditures in Canada amount to almost $90 billion, there is obviously room for additional savings. These savings are only those accruing to the federal treasury, but in most cases, changes in tax expenditures will also contribute significantly to provincial treasuries. The money saved by governments - along with other possible revenue-generating measures not mentioned here - should be designated exclusively to pay down the accumulated federal and provincial debts.
Such revenue measures, combined with modest program cuts, will allow for a level of investment in families and children that is necessary to achieve healthy human capacity development. In this way, we can secure a healthy future for Canada while reducing our debt. The CCSD presents these suggestions to the Finance Committee for its consideration, in the hopes that the government will consider a fair and more balanced approach to deficit reduction.