Midterm 1 - History, Policy, Constitution

Question 1

History: Constitutional Position

What is the constitutional source of FEDERAL power to tax? What does it include?

Answer 1

s. 122 of the BNA (now Constitution Act) - right to collect CUSTOMS and EXCISE taxes (most important at confederation was INDIRECT taxes (e.g. customs & excise taxes)
s. 91(3) gave power to raise funds “by any mode or system of taxation” –> very broad

Question 2

History: Constitutional Position

What is the constitutional source of PROVINCIAL power to tax? What does it include?

Answer 2

s. 92(2) of BNA –> Power over DIRECT taxation and LICENSE fees
- BUT only able to tax WITHIN the province and for provincial purposes

Question 3

History: Constitutional Position
Identify the definition of DIRECT and INDIRECT taxation that has been accepted and applied in Canadian Cases. Cite the case it’s from.

Answer 3

Bank of Toronto v Lambe (1887, Privy Council)

• DIRECT tax = one demanded from the PERSON who is to pay it (e.g. income tax)
• INDIRECT tax = one demanded from a person w/ intention that they will INDEMNIFY FROM ANOTHER (e.g. excise tax, customs tax)

Question 4

History: Constitutional Position

What is a CRITIQUE of the definition of indirect and direct taxation?

Answer 4

Distinction is difficult to determine in practice b/c not easy to see who bears burden (E.g. corporate tax)

Question 5

History: History of Tax in Canada

When did PROVINCIAL income taxation begin?

Answer 5

early 20th century: BC & PEI
1923-1939: Five more provinces
1962: remaining 3 provinces

Question 6

History: History of Tax in Canada

What forms of DIRECT taxation did the provinces use?

Answer 6

• provinces could only tax DIRECTLY

- e.g. PROPERTY tax; CORPORATION tax, INHERITANCE tax

Question 7

History: History of Tax in Canada

When did FEDERAL INCOME TAXATION begin? What was the Act called? Why?

Answer 7

1917 (as a result of WWI)

Income War Tax Act

Intended as temporary measure to help fund the war effort

Question 8

History: History of Tax in Canada

What happened to the Income War Tax Act of 1917 after WWI ended?

Answer 8

Not repealed, but continued with lower tax rate.

Question 9

History: History of Tax in Canada

What were the Tax Rental Agreements? When were they put in place?

Answer 9

1941 - Provinces agreed to abandon income taxes and let FEDERAL gov collect it

• Provinces compensated with grants
• 1947 - Provinces except Ontario & Quebec agree to enter into 5-year agreements –> ON joined in 1952

Question 10

History: History of Tax in Canada

What were the 1962 Tax Collection Agreements? What did they replace? Describe them.

Answer 10

1962 - Replaced tax rental agreements

• provinces imposed own income taxes at own rates –> fed would CONTINUE TO COLLECT
• provincial rate as PERCENTAGE of fed tax rate –> FEDERAL Act became basis of provincial tax
• renewed every 5 years

Question 11

History: History of Tax in Canada

Under the Tax Collection Agreements, what was the initial agreement (re corporate taxes) and what changed later?

Answer 11

• Initially, all provinces except Quebec and ON agreed to Fed collecting both personal AND corporate income tax
  Later: AB opted out of corporate tax collection - ON signed on for JUST personal tax –> then entered into agreement in 2006 for corporate taxes (after 2008)

Question 12

History: History of Tax in Canada

Under the Tax Collection Agreements, what change was made in 1997?

Answer 12

1997 –> Provinces entered into new agreements allowing them to COMPUTE PROVINCIAL TAX DIRECTLY on taxable income rather than as a percentage of federal tax

Question 13

History: Tax Reform
What led to tax reform in Canada (what was the name of the report)? What was the general philosophy of the report? What Act changed taxation in Canada?

Answer 13

Carter Commission Report (in response to 1962 widespread agreement that revision was necessary) - led by Kenneth Carter-accountant
General philosophy: ALL gains should be taxed
Act: Income Tax Act (enacted 1971, in force 1972 )

Question 14

History: Tax Reform

What were the recommendations of the Carter Report? What was the response to it? What was the end result for tax reform?

Answer 14

Recommendation: ALL gains should be taxed (with appropriate deductions to balance out) —–> Response: STRONG opposition –> government White Paper –> adopted only some recommendations (e.g. taxation of capital gains) —> Result: 1971 Act BROADENED tax base, RESTRUCTURED tax rates, partial INTEGRATION of corporate & personal income tax

Question 15

History: Tax Reform

Explain how the 1971 Act broadened the tax base. How did it treat deductions?

Answer 15

MAIN base broadening = tax one-half capital gains
Other broadening of income: adult training allowances, research grants, scholarships, EI benefits
Deductions: INCREASED –> incl. employment deduction, pension & savings plan contributions, capital losses, EI premiums, child care, moving expenses

Question 16

History: History of Tax in Canada

Explain how the 1971 Act changed the rate structure.

Answer 16

• Increased personal and spousal exemptions; creating tax-free bracket & reducing rates at top bracket
• INCREASED rate overall b/c increased deductions & exemptions overcompensated for tax of capital gains
• Capital Gains inclusion only really affected higher tax brackets

Question 17

History: Tax Reform

Describe how the new Act INTEGRATED corporate and personal taxes

Answer 17

• PARTIAL integration by TAXING DIVIDENDS through (dividend to sole-shareholder) gross-up and (dividend tax credit) deduction scheme.
• INTENDED to achieve NEUTRALITY between income through corporation and income through person/sole proprietorship/partnership
• But there ARE still differences due to imperfections in the scheme/exceptions and such.

Question 18

History: Indexing

Describe the introduction of INDEXING. Explain what indexing is.

Answer 18

Indexing = increase to account for inflation

1971 - 88 - Many changes, particularly important was intro of INDEXING of deductions and tax brackets

Question 19

History: Indexing

Explain what happened to indexing in 1986.

Answer 19

1986 - Partial de-indexing
Only indexed for inflation > 3% –> allowed gov revenue to increase w/o increasing tax rates
- inflation moved people to higher brackets

Question 20

History: MacEachern Budget

Describe the initial intention, and the result, of the MacEachern Budget of 1981

Answer 20

INTENTION - close loopholes/preferences –> broaden tax base and reduce rates
Result - strong opposition so ONLY lowered tax rates

Question 21

History: Tax Reform of 1988

Discuss the 1988 tax reforms.

Answer 21

1987 - PC Gov White Paper -> Recommended 1) FLATTENING of structure, 2) BROADENING of tax base, 3) conversion to TAX CREDITS, and 4) GENERAL ANTI-AVOIDANCE RULE

Question 22

History: Tax Reform of 1988

What tax reform was suggested in the 1987 but not implemented until 1990?

Answer 22

Introduction of GST –> enacted in Excise Tax Act (Part IX) in 1990

Question 23

History: Tax Reform of 1988

How did the 1988 tax reforms broaden the tax base?

Answer 23

1) got rid of many tax loopholes (aka preferences)

2) taxed MORE of capital gains (to 3/4)

Question 24

History: Tax Reform of 1988

How did the 1988 reforms change the rate structure?

Answer 24

1) REDUCED tax brackets –> flattening
2) bottom two rates HIGHER than before –> but CREDITS helped
3) TOP rate lowered –> to help competitiveness

Question 25

History: Tax Reform of 1988

Explain the shift from certain DEDUCTIONS to CREDITS.

Answer 25

• pre-88 DEDUCTIONS shifted to CREDITS
• POLICY: deductions helped HIGHER income more than lower income (b/c of tax rate) –> CREDITS more fair
• EFFECT: same tax savings for all

Question 26

History: General Anti-Avoidance Rule

Briefly describe the intention/effect of the GAAR.

Answer 26

• s. 245 (introduced 1988)
• CODIFIED earlier case law
• intended to deal w/ general anti-avoidance, but VAGUE and application UNCERTAIN

Question 27

History: Changes between 1988-2005

IDENTIFY three significant reforms between 1988 and 2005

Answer 27

1) Rate changes - lower existing brackets + add fourth bracket
2) Lowered capital gains tax
3) amended to cover same sex spouses
4) income-tested GST credit & child tax benefit
5) doubled penalties for repeated failure to file

Question 28

History: 2005 - Present

ID 3 significant reforms from 2005 to now

Answer 28

1) GST reduced
2) Lowest tax rate reduced
3) increased personal & spousal tax credits
4) higher depreciation rates (Capital Costs Allowace) for environmentally friendly energy gen equipment
5) increased tax relief for low income

Question 29

History: 2005 to Present

Explain what a Capital Costs Allowance is. How is it used to implement policy?

Answer 29

Policy - increase investment in certain areas (eg environmental tech)

CCA = increase depreciation rates on capital costs (reduces tax in current years)

Question 30

Policy: Objectives

ID and briefly describe 6 objectives of income tax system

Answer 30

1) raise revenue - large source for fed
2) redistribution of income
3) regulation of private activity
4) stabilize economy
5) correct market failures
6) promote activities

Question 31

Policy: Evaluative Criteria

Briefly list and describe the 3 evaluative criteria

Answer 31

1) Equity - fairness/equality for taxpayers
2) neutrality - avoiding distortion to market and decisions
3) simplicity - administrative practicality (ie ease to enforce and interpret, etc)

Problem: 3 criteria often conflict

Question 32

Policy: Evaluative Criteria

List and briefly describe the 2 principles of Equity

Answer 32

1) Benefit Principle - contribution proportional to benefits derived
2) Ability to pay principle - Carter Commission view - based on ability to pay -> b/c equitable
- consider horizontal and vertical equity

Question 33

Policy: Evaluative Criteria

Briefly describe horizontal and vertical equity

Answer 33

a) Vertical Equity - greater ability to pay = greater tax

b) Horizontal Equity - similar circumstance = similar treatment (hence Carter Commission recommendation to tax FAMILIES)

Question 34

Policy: Evaluative Criteria

Briefly describe Neutrality and compare with Equity

Answer 34

Neutrality - neutral system designed to bring minimum change in allocation of resources
Distinction - neutral not necessarily EQUAL -> but violating neutrality usually = violating equity (eg deductions)

Question 35

Policy: Evaluative Criteria

Describe the simplicity criteria and the purpose.

Answer 35

Simplicity = comprehensible, certain, convenient, difficult to evade

Because - keeps costs low, more effective –> THEREFORE MOST IMPORTANT CRITERIA

Question 36

Policy: Progressivity

Describe the effectiveness of work incentives and investment incentives.

Answer 36

Work incentives - MINIMAL impact empirically

Investment incentives - SOME effect -> b/c shared risk of loss

Overal effect - distortion of allocation of resources

Question 37

Policy: Progressivity

Explain the relationship between tax rates and avoidance

Answer 37

Higher tax rate = increased diversion of resources to AVOIDANCE efforts

Question 38

Policy: Progressivity

Explain the effect of taxation on distribution of income

Answer 38

• Ginni Coefficient IMPROVED as a result of taxation

- MAJORITY of change due to TRANSFERS, rather than tax

Question 39

Policy: Flat Rates and Dual Rates

Note: Not important learning objective –> just briefly describe

Answer 39

Flat rate = same rate for everyone regardless of income (advantage - simplicity, disadvantage - not truly flat)
Dual rate = progressive rate for labour, flat rate for capital (advantage - competitive)

Question 40

Tax Expenditures: Public Scrutiny

Explain the accountability problem with tax expenditures,

Answer 40

Tax expenditures = revenue foregone via tax concessions

Not accounted for in fed budget until 1979 -> made it hard to determine their impact (and cost)

Question 41

Tax Expenditures: Public Scrutiny

Explain how the accountability problem w/ tax expenditures was aaddressed

Answer 41

1979 - no attempt to measure COST of benefits –> but did begin to identify them –> saw the large number of concessions and their cost –> led to ENVELOPE budgeting system (ie includ. tax expenditures)

Question 42

Tax Expenditures: Public Scrutiny

Explain how tax expenditures were intended to be addressed in 1981 budget –> were they successful? Why?

Answer 42

1981 Budget - intended to reduce tax concessions and allow reduction in tax rates –> strongly opposed so only reduced rates –> STOPPED PUBLISHING tax expenditures

Question 43

Tax Expenditures: Public Scrutiny

Describe the reintroduction of tax expenditure accounts publication and changes to preferences in 1985-1988

Answer 43

• 1985 - tax expenditure publication (only one-time)
• 1988 - many tax prefs eliminated + rates lowered
• 1992-Present - tax expenditure reporting resumed and continued

Question 44

Tax Expenditures: Difficulties of Description

Identify the bases on which tax expenditures should probably be assessed

Answer 44

1) Identification –> could include deductions and credits, whereas some might not be –> need BENCHMARK structure that defines non-pref allowances

Question 45

Tax Expenditures: Difficulties of Description

What are Negative Tax Expenditures? How are they noted in the reports?

Answer 45

measures that discourage behavior -> lead to MORE tax revenue

• noted as offset against positive tax expenditures
• included as memorandum items separate from positive expenditures

Question 46

Tax Expenditures: Difficulties of Description

How are tax expenditure costs estimated?

Answer 46

• by simulating the CHANGE IN FEDERAL REVENUE if that provision alone was eliminated
• PROBLEM - removing concession –> affects behavior –> difficult to account for impact

Question 47

Tax Expenditures: Alternatives

Explain how tax expenditures should be analyzed. How do they impact tax neutrality and equity?

Answer 47

Neutrality and Equity - violate equity and neutrality –> need to be assessed based on ACHIEVEMENT of their OBJECTIVE(s)

Question 48

Tax Expenditures: Alternatives

Identify problems with tax expenditures compared to direct subsidies.

Answer 48

Problems

• upside-down effect of deductions + can’t help no income
• difficulty measuring + limiting size
• administrative problem + complexity

Question 49

Tax Expenditures: Alternatives

Describe the problem with direct subsidy programs

Answer 49

1) hard to control and target
2) administratively costly (different transfer, different staff)
3) discretionary - risk of vulnerability to pressure

Question 50

Tax Expenditures: Alternatives

Describe what a negative income tax would do

Answer 50

negative income tax system –> replace variety of programs w/ single income-tested basis for programs