Cost of tax compliance in Canada—no relief in sight
For millions of Canadians, the tax return deadline is a reminder of the drudgery and cost of complying with an increasingly complicated income tax system. Back in 2016, to the excitement of many, Prime Minister Justin Trudeau’s government promised to review the tax code with an eye on improving its fairness and efficiency. More than two years later, Canadians are still waiting for meaningful action.
Flashback a century ago when the federal government introduced the personal income tax. Taking a long view helps us understand just how complex the income tax code has become. For instance, in 1917, it took about 4,000 words to describe the Income Tax Act. Now, it takes more than a million.
Or look at it another way: the number of pages (after standardizing the font, margins and page sizes) increased from a mere six pages in 1917 to 1,412 pages a century later. That’s 235 times more pages.
Of course, the world and the way governments tax have changed, introducing new challenges and rules that may require clarification. So perhaps some of the additional complexity is unavoidable. But when Canada Revenue Agency officials, tasked with administering the system, don’t understand the rules, you know the system has become too complex.
According to a recent auditor general report, almost 30 per cent of the answers provided by CRA officials to queries from the public were wrong. Some questions received answers that were wrong more than half the time. And at least one question was answered incorrectly more than 80 per cent of the time. Clearly, there’s a problem when even CRA officials can’t accurately interpret the tax code.
In recent years, the addition of “tax expenditures”—credits, deductions and other special preferences to the tax code—which provide special tax breaks for particular activities (donating to a political party, volunteering as a firefighter, buying a home, etc.) has made the system more complicated. From 1996 to 2014, the federal government added 27 personal tax expenditures, for a total of 128.
The result? Due to these special tax breaks, overall tax rates must be higher to make up for lost revenue. And they increase compliance costs—as claiming a tax credit typically requires a tax-filer to maintain receipts, fill out additional forms and carry out various calculations—while doing nothing to improve economic incentives such as increased work effort or entrepreneurship.
But again, the Trudeau government promised to simplify the tax code, mainly by eliminating ineffective or wasteful tax expenditures. However, actions taken to-date have amounted to little more than fiddling with the system.
The government has eliminated a few tax credits such as the children’s fitness tax credit and the public transit tax credit, and consolidated credits for caregivers. But it also introduced new tax credits including a credit aimed at teachers, and cancelled the planned elimination of the labour-sponsored venture capital corporations tax credit—a credit that research consistently shows to be economically harmful to entrepreneurial finance.
Overall, Ottawa has done little-to-nothing to reduce the number of tax expenditures or meaningfully simplify the tax code. In fact, in some ways the government has increased complexity by, for instance, introducing new rules for private corporation taxation.
This is unfortunate because tax complexity imposes real costs. Some Canadians pay directly by hiring accountants and lawyers to assist with tax preparation and planning. Others purchase software designed to walk them through the maze of tax expenditures and confusing rules. But there are also indirect costs, namely the value of the time it takes to understand the tax rules, compile relevant materials (such as receipts), and complete tax forms.
All told, the latest available estimates suggest Canadians spend $7 billion complying with the personal income tax system each year, representing $500 per household. But it doesn’t have to be this way. A more simple tax system can free Canadians from these unproductive costs.
Sadly, there’s little sign of relief coming from the federal government.