A Taxing Question

In a recent post I wrote about the race to the bottom in establishing corporate tax rates.  Every country is trying to lower corporate taxes so as not to be in a tax disadvantage vis a vis other countries.  In an article in today’s Globe and Mail (See: How Canada can learn from other countries’ tax choices. http://www.theglobeandmail.com/report-on-business/economy/economy-lab/stephen-gordon/how-canada-can-learn-from-other-countries-tax-choices/article1981610/) Stephen Gordon writes: “Two major tax changes implemented by the Conservative government have been to reduce both the GST and the federal corporate income tax (CIT) rate. This is a somewhat mixed record: there are good reasons to cut the CIT rate, but the GST cut was a mistake. Indeed, the relative merits of the GST and the CIT is the point on which the consensus of theory and evidence is most clear: the most growth-friendly tax mix favours consumption taxes such as the GST over [corporate] income taxes such as the CIT.”

As I wrote in a recent post, the theory of reducing corporate tax rates is that the consumer pays these taxes in the form of higher prices.  A reduced corporate tax, the theory goes, will increase corporate net after tax income and thereby fuel growth. But where to make up the tax shortfall? 

As complex as the income tax is, it is highly effective in delivering a diverse number of programs.  By delivering tax incentives or by cutting back on tax benefits governments can make a significant economic impact by tinkering with this legislation.  The deductibility of interest, for example, can make a difference in equity versus debt financing decisions.  Capital cost allowance rates can affect after tax returns on real estate.  However, just because the income tax is a good vehicle does not mean it should also generate the preponderance of tax revenues.  In other words, keep the vehicle; drive it less.

The GST, or as we know it in Ontario the HST, is an effective point of sale tax generator.  It is not a “tax on tax” because businesses get a deduction for tax paid from tax that is collected.  It has been demonstrated that the GST results in less tax leakage than an income tax and is therefore more tax efficient.  It is a constant reminder that tax is being extracted but, so are pay roll tax deductions.  It’s main drawback is that the GST can be a regressive tax in that the relative value of the tax to low income earners is more than the relative value of the tax to those that can more afford it.  This can be adjusted through the income tax by way of tax credits to low income earners.  As I said, the vehicle has value and it can be used to make adjustments where fairness becomes an issue.

So, I agree that the reduction in the GST was probably a mistake.  My position would have been an increase in the GST and a decrease in income tax.  This would have had an immediate positive effect on after tax take home pay that would more than offset the increase in GST.  However, the optics is bad and, it seems, our politicians are more inclined toward optics than sound government

Bernie