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Part 2
Tax Evaluations
and Research Reports

Distributional Impact of the
Federal Personal Income Tax System and Refundable Credits:
Analysis by Income, Sex, Age and Family Status

Introduction

The federal personal income tax system is progressive—that is, a taxfiler’s effective tax rate increases with income and higher-income taxfilers have higher average tax rates than lower-income taxfilers. In a progressive tax system, higher-income taxfilers bear a proportionally greater income tax burden than lower-income taxfilers.

This study analyzes the degree of progressivity of the federal personal income tax system and its impact on the distribution of income in Canada. Analyzing the distributional impact of the federal personal income tax system is of particular interest because personal income taxes, on average, represent more than 55% of federal tax revenues and about 45% of total federal revenues.[1] Studies have also shown that the personal income tax plays an important role in income redistribution.[2]

This study presents an analysis of the before- and after-tax income of Canadian taxfilers in 2008, the latest year for which data is available.[3] Thus it takes into account measures that took effect in 2008 or earlier—for example, the Child Tax Credit, the Working Income Tax Benefit (WITB) and pension income splitting—but not those effective after 2008, such as the enrichment of the WITB announced in Budget 2009. It also takes into account the Canada Child Tax Benefit (CCTB) and the Goods and Services Tax (GST) Credit, two income-tested refundable credits that are delivered through the personal income tax system.[4] The impact of the personal income tax system on income distribution is analyzed by income, sex, age and family status.

It is generally accepted that the personal income tax burden is borne primarily by the individuals paying the tax, but this may not always be the case. For example, given their international mobility, highly skilled professionals may receive additional compensation from their employers for taxes payable in a given country.[5] For the purposes of this study, it is assumed that the personal income tax burden, rather than being shifted, is borne by those who pay the tax.

Also, with the exception of pension income splitting, the analysis presented in this study is based on the assumption that each taxfiler is an independent economic agent. [6] Economic transfers occurring between taxfilers (e.g., spouses that pool their incomes and pay common expenses out of this pooled income) are not taken into account given the lack of information on the nature and magnitude of these transfers. Depending on circumstances, the results presented in this study could be different if such transfers were taken into account.

The distributional impact of some tax measures may change from year to year, notably because of the business cycle. These measure-specific variations, which would not be captured in this study, may not necessarily have a significant distributional effect overall. For instance, while the year 2008 was marked by an economic slowdown, comparisons with prior years show that this did not significantly affect the overall distributional impact of the tax system and of its main components.

Individuals are affected differently by the tax system at different stages of their lives, in particular because their financial situation and family status change over time and because different components of the tax system benefit different age groups. The analysis presented in this paper focuses on one specific taxation year, using a very large sample of taxfilers. As such, while the analysis does not follow taxfilers over time, it does provide a representative snapshot of the effect of the tax system on the various types or profiles of taxfilers that currently form the population.

In assessing the distributional impact of the tax system, it is important to keep in mind that income redistribution is only one of many outcomes of the tax system. The key objective of a tax system is to raise tax revenues in a way that is fair, simple and economically efficient. Most of the credits, deductions and other specific rules that make up the tax system were put in place to achieve this general objective. For instance, the tax system contains a number of personal deductions and tax credits to recognize that some individuals have a reduced ability to pay tax due to certain non-discretionary expenses, such as above-average medical expenses, and that others must incur costs to earn income. Other measures may serve structural purposes such as avoiding double taxation or recognizing prior-year losses. Nevertheless, most tax measures will have an impact on the distribution of income among taxfilers. It is also important to recognize that the tax system is only one mechanism through which the Government can redistribute income and that there are many government programs providing benefits to lower-income Canadians.

The highlights of this study are as follows. The federal personal income tax system is progressive overall, largely because of the progressive statutory tax rate structure (including the Basic Personal Amount) and, to a lesser extent, the GST Credit and the CCTB. The remaining credits, deductions and rules that make up the tax system have a small overall impact on the distribution of income. The tax system also changes the distribution of income among different groups of taxfilers, in particular to the benefit of women, youth, seniors and members of single-parent families.

This study is divided into three parts. The first part presents an analysis of the progressivity of the federal personal income tax system. The second part discusses the impact of the personal income tax system as a whole on the distribution of income among taxfilers grouped by income class as well as by sex, age, and family status. The third part discusses the distributional impact of the main components of the federal personal income tax system (e.g., tax rates, deductions and credits).

Progressivity of the Federal Personal Income Tax System

Various components of the federal personal income tax system contribute to its progressivity. First, individuals are taxed according to a progressive tax rate structure, in which the tax rate increases at specified taxable income thresholds. Since 2001, there have been four tax rates applicable to taxable income thresholds that are generally indexed annually to inflation. In addition, taxfilers may claim the Basic Personal Amount (also generally indexed annually to inflation) as a credit, which effectively exempts taxable income below this amount, thus creating a fifth tax rate (0%).

Chart 1 shows the statutory tax rates and tax brackets for 2008 (taking into account the Basic Personal Amount), as well as the average tax rate of a taxfiler claiming the Basic Personal Amount, but no other exemption, deduction or credit. A taxfiler’s average tax rate is generally lower than the statutory tax rate that applies to the last dollar of taxable income earned by this taxfiler. This is due to the exemptions, deductions and credits that may be claimed as well as the fact that the first dollars of taxable income are subject to tax rates that apply to the lower-income tax brackets. The average tax rate gradually increases with taxable income (which, by assumption, is equal here to this taxfiler’s total income), progressively approaching the tax rate applicable to the highest tax bracket.

Chart 1 - Federal Statutory Tax Rate abd Average Tax Rate for a Taxfiler Claiming Only the Basic Personal Amount (2008).For details, refer to previous paragraph.

An examination of aggregate average tax rates for all taxfilers reveals a similar pattern when the impact of the overall federal personal income tax system is considered, that is when, in addition to statutory tax rates and the Basic Personal Amount, all of the deductions and credits actually claimed by taxfilers are taken into account. As shown in Chart 2, the personal income tax system is progressive overall—in 2008, the average effective tax rate (equal to the total taxes paid less refundable tax credits, divided by pre-tax income) increased from -22.3% for taxfilers who had the lowest pre-tax incomes (deciles D1 and D2) to 19.7% for taxfilers in the highest percentile (P100), that is, those with the highest pre-tax incomes. Negative effective tax rates reflect the refundable tax credits that taxfilers can claim, as is further explained in the next section.

Chart 2 - Average Effective Tax Rate by Total Pre-Tax Income (2008).For details, refer to previous paragraph.

Overall Impact of the Income Tax System
on the Distribution of Income

A progressive tax system such as the federal personal income tax system has an impact on the distribution of income among taxfilers with different incomes. This impact can also be seen on the distribution of income among different groups of taxfilers, for example, between men and women or between people in different age groups. This can occur if these groups have different average pre-tax incomes or if certain aspects of the tax system apply only to certain groups, regardless of their income (for example, when a credit is available only to taxfilers with children).

This section presents an analysis of the overall impact of the federal personal income tax system on the distribution of income among taxfilers. Absolute changes in income due to taxes are discussed first, followed by changes in income distribution among groups of taxfilers.

Absolute Changes in Income

A first step in analyzing the tax system’s impact on the distribution of income is to consider its impact on taxfilers’ income in “absolute” terms, that is, how much their income increases or decreases as a result of the tax system. Table 1 classifies all taxfilers in 2008 into three groups:

  • Those who paid a net positive amount of tax;
  • Those who benefited from refundable tax credits in excess of their tax payable, so that they received a net positive transfer through the federal personal income tax system; and,
  • Those whose income did not change (zero tax payable, or tax payable equal to refundable credits).

The box below provides examples of taxfilers in each of these three situations.

Examples of the Impact of the Personal Income Tax
System on Income for 2008

Example 1: An individual who paid a net positive amount of tax

A single individual without children had pre-tax employment income of $68,000 and contributed $8,100 to a Registered Retirement Savings Plan. This individual paid about $8,500 in tax after claiming tax credits for the Basic Personal Amount, the Canada Employment Amount, Employment Insurance premiums and contributions to the Canada Pension Plan. This individual was not eligible for any income-tested benefits (e.g., the GST Credit). The after-tax income of this individual was $59,500 ($68,000 - $8,500), which was 12.5% lower than pre-tax income. This individual’s effective tax rate for 2008 was therefore 12.5%.

Example 2: An individual who received a net positive transfer

A single mother with one child had pre-tax employment income of $14,500 and received $1,200 in Universal Child Care Benefits. She was entitled to a number of tax credits (including those for the Basic Personal Amount and the amount for an eligible dependant, as well as those related to employment), which reduced her tax liability to zero. In addition, she received about $5,060 in income-tested benefits (including the GST Credit, CCTB and WITB). Her after-tax income was $20,760 ($14,500 + $1,200 + $5,060), which was 32% higher than her income before tax. This individual’s effective tax rate for 2008 was therefore -32%.

Example 3: An individual whose income did not change

An individual had $16,000 in pre-tax income and was entitled to claim sufficient credits to reduce her tax liability to zero. This individual did not receive any income-tested benefits because her spouse is a high-income earner. Overall, this individual’s income was unchanged by the tax system. This individual’s effective tax rate for 2008 was therefore 0%.

The results show that more than 30% of all taxfilers saw an increase in their total income as a result of the application of the federal personal income tax system. In total, these taxfilers received about $12.1 billion in net transfers, the equivalent of 11.6% of their total pre-tax income. Nearly 12% of taxfilers were unaffected by the tax system, neither paying tax nor receiving a transfer.

Table 1
Tax Status of Taxfilers (2008)
  Number of
Taxfilers
(thousands)
Number of
Taxfilers
(% of total)
Pre-Tax
Income
($ billions)
Tax
Paid
($ billions)
After-Tax
Income
($ billions)
Total 24,908 100.0 1,015.7 95.8 919.9
  Paid net tax 14,309 57.4 880.5 107.8 772.6
  Received a net
   positive transfer
7,697 30.9 103.7 -12.1 115.7
  Other (zero tax/zero
   net transfer)
2,902 11.7 31.5 0.0 31.5

Table 2 classifies taxfilers according to how much their income changed due to taxes. About 2 million taxfilers saw their income increase by more than 15%. More than 60% of this group is made up of low-income women. Those whose income fell by more than 15% were primarily in the two highest deciles (D9 and D10), and three-quarters of them were men.

Table 2
Impact of the Tax System on Income, by Sex and Pre-Tax
Income Decile (2008) (thousands)
  Number of Taxfilers
 
Change in Income Total Men Women
Total 24,908 12,124 12,784
Increase of more than 15% 2,061 599 1,462
  D1-D4 1,831 534 1,297
  D5-D8 230 65 164
  D9-D10 0 0 0
Increase of 15% or less 5,636 2,331 3,304
  D1-D4 4,507 1,860 2,647
  D5-D8 1,111 461 650
  D9-D10 17 10 7
No change 2,902 1,220 1,683
  D1-D4 2,556 993 1,563
  D5-D8 313 205 108
  D9-D10 34 21 12
Decrease of 15% or less 12,872 6,875 5,997
  D1-D4 1,068 441 627
  D5-D8 8,308 4,244 4,064
  D9-D10 3,496 2,190 1,307
Decrease of more than 15% 1,437 1,099 337
  D1-D4 1 0 1
  D5-D8 2 1 1
  D9-D10 1,434 1,098 336
Note: Income classes are defined in the annex.

About 7.7 million taxfilers received a positive transfer in 2008 through the tax system, in large part because of the CCTB and the GST Credit. Without the CCTB and the GST Credit, only 1.7 million of these 7.7 million taxfilers would have still received a positive transfer (see Table 3).

Table 3
Taxfilers Receiving a Net Positive Transfer and
Situation Excluding the CCTB and GST Credit (2008)
  Number of Taxfilers
  (thousands) (% of total)
Taxfilers receiving a net positive transfer 7,697 100.0
Situation of these taxfilers excluding the CCTB
 and GST Credit:
   
  Receive a net positive transfer 1,746 22.7
  Pay net tax 1,090 14.2
  Other (zero tax/zero net transfer) 4,860 63.1

Changes in the Distribution of Income Among Taxfilers

Chart 3 and Table 4 summarize the aggregate impact of the federal personal income tax system on the distribution of income among various groups of taxfilers. Chart 3 shows the changes due to taxes (in percentage points) in the share of total income for various groups of taxfilers, as well as their average effective tax rates; Table 4 shows the changes in percentage terms. The main results are as follows:

  • Taxfilers in the two highest deciles (D9 and D10), that is, those with the highest pre-tax incomes, saw a decrease in their share of total income. Taxfilers in the first eight deciles saw an increase in their share of income.
  • The share of total income rose by 1.39 percentage points for women as a result of the application of the tax system.
  • The share of total income increased for taxfilers under age 45 and for those age 65 and older, while it fell for taxfilers age 45 to 64.
  • Taxfilers in families with two income-earning spouses (two-earner families), a greater proportion of whom are in the upper deciles, saw a decrease in their share of total income, while taxfilers in all other types of families—particularly single-parent families—saw their share of total income increase.
  • Men in the two highest deciles experienced a larger decrease in their share of total income than women in the same deciles (see Table 4), reflecting the higher average income of men in these two deciles.
  • As a whole, women under age 45 in the four lowest deciles saw the largest percentage increase in their share of total income (see Table 4).
Chart 3 - Percentage Point Changes in the Share of Total Income Due to Taxes and Average Effective Tax Rate by Group of Taxfiler (2008).For details, refer to previous paragraphs.
Table 4
Changes in the Share of Total Income Due to Taxes,
by Sex, Age and Pre-Tax Income (2008) (%)
    Age Group
   
Sex and Pre-Tax income Overall Change
in Share
<45 45-64 65+
Men—Total -2.3 -0.9 -4.2 0.1
  D1-D4 16.9 19.0 17.6 12.6
  D5-D8 3.1 3.1 2.3 4.5
  D9 -2.6 -2.7 -2.5 -2.5
  P90-P99 -6.3 -6.5 -6.3 -4.8
  P100 -11.9 -12.7 -12.3 -9.5
Women—Total 3.5 6.3 0.4 4.6
  D1-D4 22.3 31.7 18.0 13.1
  D5-D8 4.5 5.8 2.8 5.1
  D9 -2.2 -2.0 -2.3 -2.2
  P90-P99 -5.2 -5.5 -5.3 -3.6
  P100 -9.0 -10.8 -9.8 -5.8
Note: Income classes are defined in the annex.

Table 5 compares the proportion of taxfilers within various groups whose share of total income increased or decreased by less than 5% as a result of the personal income tax system with those whose share increased or decreased by 5% or more. About three-quarters of the taxfilers whose share of income decreased significantly (i.e., by 5% or more) were men; consequently, a greater proportion of men than women saw their share of income decrease significantly. A large majority of taxfilers age 65 or older saw their share of income increase significantly. More than 40% of taxfilers in the two highest deciles saw their share of income decrease significantly, while more than 95% of taxfilers in the four lowest deciles saw their share increase significantly.

Table 5
Distribution of the Number of Taxfilers by Change in Share of Income (2008)
  Change in Share of Income  
 
Group Increased by
5% or More
Increased or Decreased
by Less Than 5%
Decreased by
5% or More
Total
By sex        
  Men 44.8 42.3 12.9 100.0
  Women 61.6 34.2 4.3 100.0
By age group        
  Under age 45 57.0 35.9 7.0 100.0
  45 to 64 39.7 48.0 12.3 100.0
  65 and older 70.8 24.5 4.7 100.0
By pre-tax income        
  D1-D4 95.3 4.7 0.0 100.0
  D5-D8 36.3 63.6 0.1 100.0
  D9-D10 4.0 54.0 42.1 100.0
Note: Income classes are defined in the annex.

Tables 6a and 6b provide a breakdown of the 5% of all taxfilers who experienced the largest percentage increases and decreases in their share of total income as a result of the personal income tax system. Close to 40% of taxfilers whose share of total income increased the most were women in the lower deciles who were either in single-parent families or in families with one income earner (one-earner families) with children. More than 70% of taxfilers whose share of total income decreased the most were men in the highest decile—primarily men in two-earner families or single men without children.

Table 6a
Taxfilers With the Greatest Increase in Share of Total Income (2008)
    Share of Total Income
   
  Number of
Taxfilers
(thousands)
Before Tax
(%)
After Tax
(%)
Taxfilers in deciles D1 and D2      
  In single-parent families      
    Women age 25 to 44 110.4 0.054 0.152
    Other women 74.6 0.036 0.085
    Men 16.4 0.007 0.017
  In one-earner families with children      
    Men 110.2 0.037 0.121
    Women 298.3 0.076 0.270
  In one-earner families without children      
    Men 43.4 0.001 0.004
    Women 131.6 0.006 0.020
  Single individuals without children      
    Men 147.8 0.001 0.005
    Women 122.0 0.001 0.004
  Other taxfilers 5.4 0.005 0.012
Taxfilers in deciles D3 and D4 age 25
 to 44 in families with children
127.1 0.178 0.331
Other taxfilers 58.1 0.095 0.169

 

Table 6b
Taxfilers With the Greatest Decrease in Share of Total Income (2008)
    Share of Total Income
   
  Number of
Taxfilers
(thousands)
Before Tax
(%)
After Tax
(%)
Taxfilers in the highest percentile      
  Men in two-earner families 106.7 5.638 4.790
  Other men 52.9 2.628 2.236
  Women 38.1 1.649 1.414
Taxfilers in the highest decile
(excluding the highest percentile)
     
  Single men without children 165.4 1.899 1.724
  Men in two-earner families 459.8 5.703 5.178
  Men age 25 to 64 in one-earner families 105.7 1.415 1.283
  Women age 25 to 64 who are single
   without children or in two-earner families
186.5 2.263 2.059
  Other taxfilers in the highest decile 50.7 0.642 0.584
Other taxfilers 79.4 0.580 0.540
Note: Income classes are defined in the annex.

Distributional Impact of the Income Tax System by Major Component

This section analyzes the impact of the progressive tax rate structure and of the other major components (deductions, credits, etc.) of the federal personal income tax system on the distribution of income among taxfilers. The progressivity of a tax system and, more generally, its impact on the distribution of income, is a function of both the progressivity of the tax rate structure and the distribution among taxfilers of tax reductions resulting from deductions, credits and other measures that make up the tax system.

Table 7 shows the distributional impacts of the main components of the federal personal income tax system as measured by changes in the Gini coefficient,[7] while Table 8 shows changes in the distribution of income for different groups of taxfilers attributable to each component.

The most significant changes in income distribution are due to the progressive tax rate structure (including the Basic Personal Amount) and, to a lesser extent, the CCTB and GST Credit. The progressive tax rate structure alone accounts for about three-quarters of the decrease in the Gini coefficient and most of the redistribution of income that occurs between the groups of taxfilers listed in Table 8. Furthermore, the progressive distributional impact of the tax rate structure is entirely attributable to its direct impact on tax payable (i.e., to the fact that higher-income taxfilers pay tax on their income at higher tax rates), since its indirect interactions with the rules that determine taxable income result in a small increase in the Gini coefficient.[8] Tax credits other than the Basic Personal Amount, the CCTB and the GST Credit contribute less than 10% to the overall progressivity of the tax system, in part because the Basic Personal Amount must be claimed before other credits and because taxfilers may not have sufficient tax owing to fully utilize those credits.

Table 7
Change in the Gini Coefficient Attributable
to Major Components of the Tax System (2008) (change in Gini coefficient)
Change due to: Impact Calculated
Under a
Non-Progressive
Tax Rate Structure
Additional Impact
Resulting From the
Progressive Tax
Rate Structure1
Overall Impact
Tax rate structure n/a -0.0308 -0.0308
  Of which: Basic
   Personal Amount
n/a -0.0130 -0.0130
Adjustments to pre-tax income2 0.0007 -0.0010 -0.0003
Deductions -0.0006 0.0029 0.0023
Non-refundable credits -0.0027 n/a -0.0027
CCTB -0.0079 n/a -0.0079
GST Credit -0.0032 n/a -0.0032
Other refundable credits3 -0.0007 n/a -0.0007
Overall impact of the tax system -0.0144 -0.0289 -0.0433
1 Difference between the impacts calculated using existing progressive rates and using a single rate of 18.9% (see the annex for information on how this rate was calculated).
2 The following rules are taken into account: partial inclusion of capital gains, gross-up of dividends from taxable Canadian corporations and pension income splitting.
3 Includes the WITB, the Refundable Medical Expense Supplement, the refund of investment tax credits and the tax credit for trust income in Part XII.2 of the Income Tax Act.

 

Table 8
Changes in Distribution of Income Among Taxfiler Groups Attributable
to Major Components of the Tax System (2008)
(percentage points, unless otherwise indicated)
  By Sex By Age Group By Pre-Tax Income
 


  Men Women <45 45-64 65+ D1-D4 D5-D8 D9-D10
Initial distribution of pre-tax
 income (%)
60.6 39.4 39.6 44.5 15.9 9.7 36.0 54.2
Progressive tax rate structure -0.9 0.9 0.6 -0.8 0.2 1.2 1.7 -2.9
  Of which: Basic Personal Amount -0.3 0.3 0.2 -0.3 0.1 0.7 0.3 -1.0
Adjustments to pre-tax income1                
  Calculated using a single tax rate 0.0 0.0 0.0 0.0 0.0 0.0 -0.1 0.1
  Additional impact of progressive
   tax rate structure2
0.0 0.0 0.0 0.0 0.0 0.0 0.1 -0.1
Deductions                
  Calculated using a single tax rate -0.1 0.1 -0.1 0.1 0.0 0.2 -0.2 0.1
  Additional impact of progressive
   tax rate structure2
0.1 -0.1 0.0 0.1 0.0 -0.1 -0.2 0.3
Non-refundable credits -0.1 0.1 -0.1 -0.2 0.4 0.2 0.1 -0.2
CCTB -0.3 0.3 0.5 -0.3 -0.2 0.6 0.0 -0.5
GST Credit -0.1 0.1 0.1 -0.1 0.0 0.2 0.0 -0.2
Other refundable credits3 0.0 0.0 0.0 0.0 0.0 0.1 0.0 0.0
Final distribution of after-tax
 income (%)
59.1 40.9 40.4 43.3 16.3 12.0 37.4 50.6
  Total change -1.5 1.5 0.8 -1.2 0.4 2.2 1.3 -3.6
Distribution of number of
 taxfilers (%)
48.7 51.3 46.6 35.3 18.1 40.0 40.0 20.0
Note: Income classes are defined in the annex.
1 The following rules are taken into account: partial inclusion of capital gains, gross-up of dividends from taxable Canadian corporations
and pension income splitting.
2 Difference between the impacts calculated using existing progressive rates and using a single rate of 18.9% (see the annex for information on how this rate was calculated).
3 Includes the WITB, the Refundable Medical Expense Supplement, the refund of investment tax credits and the tax credit for trust income in Part XII.2 of the Income Tax Act.

Conclusion

This study has presented an analysis of the progressivity of the federal personal income tax system, including refundable credits, and its impact on income distribution in Canada, based on an analysis of the before- and after-tax income of Canadian taxfilers in 2008. The federal personal income tax system is progressive overall in that the average effective tax rate of higher-income taxfilers is higher than that of lower-income taxfilers. The progressive nature of the tax system is mainly due to the progressivity of the tax rate structure (including the Basic Personal Amount). The GST Credit and the CCTB also contribute to its progressivity, though to a lesser extent. The other credits, deductions and rules that make up the tax system have a small distributional impact. In addition, the tax system changes the distribution of income among groups of taxfilers, in particular to the benefit of women, youth, seniors and members of single-parent families.

Annex: Methodology

Income Classes

The income classes used in this study are defined as follows:

Income Classes (2008)
Income Class Pre-Tax Income Range ($)
1st and 2nd deciles (D1-D2) 0 – 10,354
3rd and 4th deciles (D3-D4) 10,355 – 20,323
5th and 6th deciles (D5-D6) 20,324 – 35,802
7th and 8th deciles (D7-D8) 35,803 – 58,178
9th decile (D9) 58,179 – 80,555
10th decile (D10) 80,556 and over
90th to 99th percentiles (P90-P99) 80,556 – 216,411
100th percentile (P100) 216,412 and over

Data Sources and Definitions

The data used in this study are from a sample of federal personal income tax returns filed for the 2008 tax year.[9] The analysis therefore does not take into account individuals who did not file a return for 2008, most of whom were under 25. A number of low-income individuals living with higher-income individuals also did not file a federal income tax return for that year.

A taxfiler’s pre-tax income is defined as total income for federal tax purposes, plus or minus certain adjustments so that it more closely reflects actual income. Specifically, a taxfiler’s pre-tax income is his or her total income for tax purposes[10] plus the non-taxable portion of capital gains, and minus the gross-up of dividends from taxable Canadian corporations and the amount of pension income transferred from a spouse or common-law partner. A taxfiler’s pre-tax income therefore includes certain taxable government transfers (e.g., Employment Insurance benefits and the Universal Child Care Benefit) but excludes tax-exempt income for which no data is available (e.g., scholarships and lottery winnings). Net capital losses incurred during the year are also excluded, as well as losses carried forward from a previous year. Where spousal and child support payments are deductible by the payer, they are included in the income of the recipient.

Tax paid is net federal tax before the Quebec Abatement (if applicable), minus the various refundable credits for which the taxfiler is eligible, in particular the CCTB and the GST Credit. Tax paid is adjusted to account for the fact that when a couple takes advantage of pension income splitting, the resulting tax savings accrue to both spouses. Tax paid is thus calculated assuming that the tax savings resulting from pension income splitting are shared evenly between the spouses.

Data for the CCTB and GST Credit

Data for the CCTB and the GST Credit were calculated using a tax simulation model based on the features of these two measures. Amounts paid were calculated for families for the 2008 tax year (for payments made between July 2009 and June 2010) and then, in the case of the CCTB and the GST Credit in respect of a child, allocated to the spouse or common-law partner claiming a deduction for child care expenses, or if neither of the spouses or partners is claiming such a deduction, allocated randomly between the spouses or partners.[11]

Assumptions Underlying the Analysis of the Distributional Impact of the Personal Income Tax System by Major Component

The decomposition of the tax system’s impact on the distribution of income presented in the section “Distributional Impact of the Income Tax System by Major Component” is based on the following assumptions:

  • Amounts included in the total income of each taxfiler, amounts allowed as a deduction in calculating taxable income, and credits claimed by taxfilers are taken as given. Changes in tax payable attributable to each component are therefore a function only of the rates at which these amounts are evaluated and are not a function of possible changes in the amounts. For instance, in calculating the tax savings associated with an amount allowed as a deduction, the fact that the deduction will reduce tax payable, thereby possibly reducing the total amount of non-refundable credits that can be claimed, is not taken into account.
  • The tax savings associated with deductions and the rules affecting the calculation of total income[12] depend in part on the progressivity of the tax rate structure (e.g., a deduction is worth more for a taxfiler in the highest tax bracket than for one in the lowest tax bracket). The portion of tax savings that can be attributed to the progressivity of the tax rate structure was calculated as the change in total taxes paid when the tax savings are evaluated using the existing progressive tax rate structure rather than a single tax rate. For this purpose, a single tax rate of 18.9% was used, which corresponds to the rate that would generate the same tax revenues in 2008 as under the existing system if it were applied to pre-tax income (i.e., total income before any deductions and before the other rules affecting total income) rather than taxable income.
  • The tax savings associated with the rules defining total income are calculated before those associated with the deductions allowable in calculating taxable income. This affects the relative impact of these two components of the tax system given the progressive tax rate structure.
  • The tax savings resulting from credits are calculated at the rates applicable in 2008. These savings are not affected by the progressivity of the tax rate structure.

[1] See Department of Finance Canada, Fiscal Reference Tables, October 2011, Table 3.

[2] See Dagmar Dyck, “Fiscal Redistribution in Canada, 1994–2000,” Canadian Tax Journal, vol. 5(4), 2005, pp. 974–1006; and Marie-Anne Deussing, Federal Taxes and Transfers Across Canada: Impact on Families, Department of Finance Canada, Working Paper 2003-21, October 2003.

[3] Methodological details on the main variables used in the study are discussed in the annex. All amounts are in 2008 dollars. Figures in tables may not add up to totals due to rounding.

[4] In this study, references to the personal income tax system include these two credits.

[5] See Jonathan R. Kesselman and Ron Cheung, “Taxation Impacts on Inequality in Canada: Methodologies and Findings,” in David A. Green and Jonathan R. Kesselman, Dimensions of Inequality in Canada, UBC Press, 2006, p. 389 ff.

[6] The tax benefits resulting from pension income splitting are assumed to be shared equally by spouses. See the discussion
in the annex.

[7] The Gini coefficient measures the degree of inequality in the distribution of income among individuals or groups of individuals. This index can range from 0 (equal distribution) to 1 (maximum inequality). Overall, the federal personal income tax system reduces the Gini coefficient from 0.5197 to 0.4764—a reduction of 0.0433 or approximately 8%.

[8] These interactions arise because measures that reduce taxable income provide a greater benefit to higher-income taxfilers in a tax system with a progressive rate structure. These interaction effects are evident in the “adjustments to pre-tax income” and “deductions” rows of the middle column in Table 7.

[9] The sample was created by the Canada Revenue Agency. More information on the sample.

[10] Corresponding to line 150 of the federal income tax return.

[11] In practice, the CCTB is paid to the person who is primarily responsible for the care and upbringing of a child, and this person is generally presumed to be the female parent if there is a female parent who lives with the child.

[12] The following rules are taken into account: partial inclusion of capital gains, gross-up of dividends from taxable Canadian corporations, and pension income splitting. Other rules related to the calculation of total income, in particular various exemptions, have not been included due to a lack of data on the changes in total income that result.

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