Don't Tax Me When I Earn It Tax Me When I Spend It

Why Cutting the GST is the Wrong Choice for Canadians (Excerpt from publication dated March 24, 2006)

During the recent federal election, both the Conservatives and Liberals promised to cut taxes paid by individual Canadians by around $30 billion over five years. The Conservatives would do so by cutting the GST by 1% immediately and by another 1% within five years. The Liberals promised to do so by cutting the lowest marginal personal income tax rate by 1%, increasing the "basic personal amount" (the amount below which no personal income tax is payable) by $500, and by making other personal income tax cuts. And then the debate began. Which would be better for individual Canadians?

The answer to that question is clear. Cutting the personal income taxes is by far and away better for individual Canadians compared to a 1% reduction in the rate of GST. Why?

1. Cutting the lowest marginal personal tax rate by 1% and increasing the basic personal amount by $500 is worth about $320 annually to most individual Canadians. In order for an individual to obtain the same tax savings through a 1% reduction in the GST, an individual would have to spend at least $32,000 annually on goods and services that are subject to GST. That means spending $32,000 every year on goods and services other than:
   • Rent or mortgage payments
   • Groceries
   • Prescription drugs
   • Health care services
   • Tuition
   • Child care or personal care services
   • Insurance
   • Loan payments
   • Personal savings and investments
   
   all of which are not subject to GST. How reasonable is this? Essentially, any Canadian with taxable income of between $9,000 and $50,000 annually would have to spend more than 100% of their annual disposal income exclusively on GST-taxable goods and services to receive the same tax savings from a 1% reduction in the GST that they would receive from a reduction in personal income taxes. Even individuals with taxable income up to $100,000-a-year would have to spend more than 50% of their disposable income on products and services other than those listed above.

2. The $320 in tax savings from a personal income tax cut of 1% is an annual tax savings to individual Canadians. To save $320 annually from a 1% reduction in the GST, an individual would essentially need to buy a new car worth at least $32,000 each and every year. Furthermore, the individual could not trade-in the vehicle they bought the previous year. (Trade-in vehicles reduce the amount upon which GST is calculated. For example, if a person purchases a vehicle for $40,000 and trades their old vehicle for a credit of $15,000, GST is calculated on the net difference, being $25,000.

3. Only the $320 tax savings from a personal income tax cut is guaranteed to make it into the pockets of individual Canadians. Why?

   • First, because unlike the GST, personal income taxes are paid directly to the federal government, either by the individual or by their employer on the individual's behalf. That means with every pay cheque, the tax savings go directly into the individual's pocket and the individual has the additional cash regardless of whether he or she chooses to save it, invest it, pay down their mortgage or debt, or spend it on personal consumption. With a reduction in GST, an individual receives no extra money in his or her pay cheque and only benefits from the GST rate reduction if he or she spends her money on products and services that are subject to GST.
   • Second, unlike a reduction in personal income taxes, a 1% reduction in the GST only makes it into the pockets of individual Canadians if businesses and merchants actually pass the tax savings on to their customers and do not adjust their prices to try and make more profit. For example, if the GST rate drops from 7% to 6%, the price of a movie would need to drop from $9.95 to $9.86 for an individual to receive the benefit of the 1% reduction in the rate of GST; the price of gasoline would need to drop from 91.9 cents/litre to 91.4 cents/litre. More importantly, these prices would have to remain at these lower levels constantly throught the entire five-year period of the government's five-year tax plan for individual Canadians to receive the same benefit from a GST cut as from a personal income tax cut.

4. A $30 billion tax cut by way of personal income tax cuts means that $30 billion goes directly into the pockets of individuals and only individuals, as only individuals pay personal income tax. With respect to the GST, only 83% of the federal government's annual GST revenues are attributable to individual spending. Of the remaining 17%,

   • 8% is paid by banks, insurance companies, and financial institutions,
   • 2% is paid by doctors, dentists, and other healthcare professionals,
   • 3% is paid by residential landlords, and
   • 4% is paid by public sector bodies.
   
   That means of a $30 billion tax cut resulting from a reduction in the GST rate,
   • $2.4 billion will go to banks, insurance companies, and financial institutions,
   • $600 million will go to doctors, dentists, and other healthcare professionals,
   • $900 million will go to residential landlords, and
   • $1.2 billion to public sector bodies.
   
   That leaves only $24.9 billion available to individual Canadians, and even then, that amount will only make it into their hands if businesses and merchants actually pass the entire GST savings on to their customers.

5. Finally, from the perspective of the Canadian economy as a whole, as the following findings from a 2004 study by the Federal Department of Finance demonstrates, cutting personal income taxes improves economic growth and prosperity three times better than cutting consumption taxes like the GST.
   
   Long-Run Economic Well-Being Gain From Revenue-Neutral Tax Reductions*
   
   • Sales tax on capital goods: $1.3 (economic well-being gain per dollar of tax reduction)
   • Personal capital income tax: $1.3
   • Capital tax: $0.9
   • Corporate income tax: $0.4
   • Average personal income tax: $0.3
   • Wage tax: $0.2
   • Consumption tax: $0.1
   • Weighted average gain: $0.3
   • Capital cost allowances: $1.4
   * The revenue loss is assumed to be recovered through lump-sum taxation

David Douglas Robertson is a Tax Lawyer and practises with Fasken Martineau DuMoulin LLP in Toronto, Ontario.