Issue in Focus The Need for Tax Simplification A Challenge and an Opportunity

Transcription

1 Issue in Focus The Need for Tax Simplification A Challenge and an Opportunity By C. Scott Clark and Len Farber

2 About the Authors C. Scott Clark is currently President of C. S. Clark Consulting and previously served as Assistant Deputy Minister, Associate Deputy Minister, and Deputy Minister of Finance. Len Farber is currently a Senior Advisor at Norton Rose OR LLP and previously served as General Director responsible for Tax Policy in the Department of Finance. About CGA-Canada Founded in 1908, the Certified General Accountants Association of Canada (CGA-Canada) is a self-regulating, professional association of 75,000 Certified General Accountants (CGAs) and students. CGA-Canada develops the CGA Program of Professional Studies, sets certification requirements and professional standards, contributes to national and international accounting standard setting, and serves as an advocate for accounting professional excellence. CGA-Canada actively seeks to engage in emerging public policy issues by developing research and analysis on a range of topics related to accounting, economic and social issues affecting Canadians. CGA-Canada is recognized for heightening public awareness, contributing to public policy dialogue, and advancing public interest. For more information, contact can be made through: North Fraser Way, Burnaby, BC, Canada, V5J 5K7 Telephone: Fax: Sparks Street, Ottawa, ON, Canada, K1R 7S8 Telephone: Fax: Electronic access to this report can be obtained at ISSN By the Certified General Accountants Association of Canada, Reproduction in whole or in part without written permission is strictly prohibited. 2 Issue in Focus

3 The Need for Tax Simplification A Challenge and an Opportunity August 2011 Foreword... 4 Introduction... 5 The Nature of Tax Complexity The Reason for Tax Complexity The Need to be Responsive The Need for Fairness The Need for Certainty The Need for Tax Revenues... 9 The Evolution of the Personal Income Tax (PIT) System The Need for a PIT Review The Need for a CIT Review Why Now? Closing Comments References The Need for Tax Simplification A Challenge and an Opportunity 3

4 Foreword According to Benjamin Franklin, taxation was an absolute certainty in this world. Taxation continues to be an inescapable fact of life in our modern global world. For CGA-Canada and our members business and accounting leaders across the country taxation has always been a key area of interest and concern. While tax rates may have come down in recent years, Canada s income tax system has become increasingly complex and compliance costs have continued to grow at an unsustainable rate. Businesses and individuals are subjected to hundreds of various taxes from all levels of government taxes that are unnecessarily complex and difficult to understand, often cumbersome and labour-intensive, and even duplicative or contradictory from one jurisdiction to another. On an international scale, Canada s tax system is among the most complex in the world this hurts our economy and adversely affects small and medium size enterprises (SMEs) as well as individual taxpayers. Canadians want governments to make taxes simpler, fairer and more efficient. Against this backdrop, CGA-Canada commissioned the following paper to provide an overview of a number of central issues surrounding the topic of tax simplification, to build awareness of the need for tax simplification, and to promote discussion among the many interested stakeholders in a way that makes a meaningful contribution to an important subject of public policy. One might wonder why a national organization serving thousands of professional accountants and business leaders would be a strong advocate for tax simplification, as an overly complex tax system requires the expertise of professionals who can navigate all its twists and turns. The answer is simple. Tax simplification is in the public s best interest it is good for taxpayers, businesses and government, as well as Canada s economy. Our members, CGAs in business, industry and private practice overwhelmingly tell us that it is the number one issue they want governments to tackle. You might say it is because CGAs look beyond the numbers to see the implications and opportunities they reveal. As always, we would be honoured to have your comments and we invite your input on this issue. Anthony Ariganello, CPA (Delaware), FCGA President & Chief Executive Officer CGA-Canada 4 Issue in Focus

5 Introduction There have been very few attempts to simplify the tax system since its creation in The reason is very clear. Tax simplification comes at a very high political cost, since any reform will involve choices and trade-offs, and have both winners and losers. Governments will be facing major fiscal pressures in the coming decade with demographic trends putting significant upward pressure on program spending, while at the same time reducing potential economic growth and the growth of government revenues. Governments will be faced with making very difficult spending and tax decisions, if they are to succeed in putting in place a sustainable fiscal structure, a structure that will lead to a lower government debt burden for future generations. This challenge for governments presents both a problem and an opportunity for achieving some level of tax simplification. On the one hand, it presents a problem because the political cost of expenditure and tax decisions may be high. On the other hand, it represents an opportunity because tax simplification can yield substantial savings and thereby contribute to the creation of a sustainable fiscal structure. The benefits coming from a policy of reducing the tax burden on Canadians will be much greater with tax simplification and reform. The Nature of Tax Complexity The complexity of the Income Tax Act (ITA) has been debated, written about, studied, and paid a lot of lip service over a very long period of time. It is easy to support tax reform. The challenge remains in identifying the roadmap. The unfortunate reality is that tax reform brings with it a whole range of competing policy issues that do not lead to a single conclusion or a single result that would necessarily please anyone, let alone everyone. Tax simplification has many dimensions. For some, tax simplification means easier to read and understand tax law. The focus of this view is on the Income Tax Act that has grown from its beginning in 1917, as the Income War Tax Act, an Act of 11 pages in length including regulations, to the ITA today, which contains some 2800 pages, including regulations and commentary. One significant reason for its growth is the simple fact that while a multitude of special measures have been introduced into the ITA since its inception, next to nothing has been removed from it. The Need for Tax Simplification A Challenge and an Opportunity 5

6 The ITA has grown not just in size, but also in complexity, and it is this steadily increasing complexity that concerns the professional tax community lawyers, accountants, tax administrators, policy makers and the Courts that interpret the tax law. These professionals are well versed in the law and understand the rules, but they still complain about its complexity and constantly argue for its simplification and reform. Why is the ITA so complicated for even the seemingly sophisticated tax expert? The quick answer is that these experts find the ITA complex because it is just that complex. The ITA has evolved from a few pages of general principles in 1917 to the exhaustive and intricate system that comprises the Act today, with special rules for all sorts of circumstances and business arrangements that were not prevalent almost one hundred years ago, and in some cases not prevalent even five years ago. The age of the global economy, the increasing complexity of transactions and the fast pace of information exchange have forced a sense of urgency, if not panic, on policy makers to introduce ever-changing rules and regulations in an effort to respond to particular circumstances, or at least control their economic results and impact on the treasury. For Canada s SME sector which has long voiced concerns about Canada s tax system being inefficient, full of red tape and labour-intensive tax simplification is synonymous with reducing the overall compliance burden. Businesses in Canada pay a whopping $12.6 billion a year to meet their compliance requirements in addition to their taxes remitted according to the Canadian Federation of Independent Business. i For taxpayers at large, the notion of referring to the ITA or reading and understanding particular provisions of the ITA is not a consideration. Taxpayers are more focussed on the tax return and the administration of the ITA as it affects them personally. The Canada Revenue Agency (CRA) has made significant inroads in dealing with that form of complexity by initiating online filing of returns. Basic tax returns can now be filed online and software packages, which guide tax filers through the forms with relative ease, are widely available. In this case, complexity of the tax system for this constituency is more administrative in its nature and deals with the ease with which filing can be accommodated. 6 Issue in Focus

7 The Reason for Tax Complexity Complexity arises from the simple fact that we require the tax system to serve a number of conflicting purposes. First, we want the tax system to respond to changing financial and economic circumstances. Second, we want the tax system to ensure fairness for taxpayers. Third, we want the tax system to provide taxpayers with a reasonable degree of certainty. Finally, and perhaps most importantly, we want the tax system to preserve government tax revenues. The Need to be Responsive Since at least the 18 th century, governments have used the tax system to carry out economic and social policies in addition to raising revenue. Canada s current system includes literally hundreds of special tax rules designed for very specific groups and purposes. Some of the better known include: Registered Retirement Savings Plans (RRSPs) and pension plans, to encourage taxpayers to provide for their retirement; The investment tax credit, to encourage investment in particular regions and particular assets; The Canada Child Tax Benefit (CCTB), to support lower-income families; The charitable donations tax credit, to encourage philanthropy; Registered Education Savings Plans (RESPs), to encourage saving for post-secondary education; The Children s Fitness Tax Credit, a non-refundable tax credit to encourage sports and physical activity for children and youth; The temporary tax credit for home renovation; and The Scientific Research and Experimental Development (SR&ED) Tax Incentive Program, to support industrial research and development and encourage business innovation in Canada. Without these and scores of other special rules the tax system would be much simpler, but governments would have to stop using the tax system to influence behaviours. Each special tax rule has its own constituency both individuals and corporations that have grown used to seeing the tax system as the delivery vehicle for the indirect government spending that benefits them. Removing special tax rules, especially those that have been in place for a long period of time and have a strong political constituency, is not easy to do. The Need for Fairness The tax system is also committed to fairness. Given the wide variety and extreme complexity of economic and social situations which the tax system must accommodate, it is impossible for the tax system to be fair without being complex. The fact that there is no agreed-upon definition of fairness makes it even more difficult. Tax The Need for Tax Simplification A Challenge and an Opportunity 7

8 fairness means different things to different people, and issues of tax fairness raise questions for which there is no straightforward answer. Because of these issues, tax fairness is not given high priority, at least with respect to individual taxation. Tax fairness is best represented by the progressivity of the income tax system. In other words, individuals with higher income pay a higher proportion of income tax because they can afford to do so. However, this desire for fairness can rapidly collide with economic efficiency. The higher the marginal tax rates on income, the greater the disincentive to work, save and invest. This reduces economic opportunity. In short, tax fairness is in constant conflict with tax efficiency. For example, the capital dividend account rules for private corporations exist so that capital gains realized by a small business or holding company will be taxed the same as gains realized directly by an individual shareholder. Tax fairness demands that a capital dividend account provide that the untaxed gain in the corporation flow to the shareholder tax-free to prevent double taxation. However, tax efficiency would not concern itself with the ideals of fairness and not provide for the flow through of the gain on a tax-free basis. In the case of the ITA s debt forgiveness rules, it is easy to imagine a far simpler system for instance, the rules could just require all forgiven commercial debt to be included in the income of the debtor, as is done in the United States. However, borrowed money used in a business context is expended on a variety of business related activities that are given tax recognition under the ITA, such as business assets that are depreciated, money spent on salaries and wages, acquisition of investments, etc. Since the amounts expended on such business related inputs are deducted in some fashion for tax purposes, the forgiveness of any of the debt that remains unpaid should, as a policy matter, be included in income in the year the debt is forgiven. Instead, in the interest of fairness to debtors who are often in financial distress, debt forgiveness under Canada s system is applied first to reduce the cost of a debtor s properties and tax pools or any other related property, with only the remaining balance being brought into income. This is intended to provide relief from immediate taxation and defer the recognition of income into the future. Understandably, most taxpayers seem to think fairness generally trumps simplicity. After the debt forgiveness amendments were first released in 1994, the federal government received several compelling submissions that led to further relieving changes, allowing debtors to reduce the tax cost of properties and pools of related companies rather than recognizing income. This has greatly complicated the rules, but the alternative was untenable even though it would have pursued an objective of simplification. 8 Issue in Focus

9 The Need for Certainty The third reason for tax complexity is the desire for tax certainty, especially for business. Corporations are involved in much more complex financial transactions today than they were 10 or 20 years ago. Complex transactions result in complex tax law, if taxpayers and their professional advisors are to be given the certainty they require to complete multi-million or billion dollar transactions. The role of tax professionals in this process is often overlooked. Government treasury departments are always under pressure from tax advisers to provide more certainty and more detail in the law so that the tax advisers can better counsel their employer corporations and their clients. On the government side, legislative drafters are justifiably wary of vague language and general propositions, given how the Courts usually interpret tax legislation. In recent years, governments have learned at very great expense that the Courts often will find taxpayers liable to tax only when they violate the specific provisions of the law. This means tax law must constantly evolve to reflect changing economic and financial circumstances which serve to create uncertainty. The Need for Tax Revenues Ultimately, the tax system exists to provide revenue for government. This overriding goal often makes new tax rules necessary, however undesirable. For example, the collapse of the Manufacturers Sales Tax was one reason, although not the only one, for the creation of the Goods and Services Tax (GST). As well, the need for government revenue led to the introduction of the capital tax on large corporations when deficits were perennial and governments aimed to eliminate them. Taxes on banks and special high-income surcharges are other examples of initiatives to replenish the federal coffers. It is also necessary to preserve and protect the tax system against inappropriate tax avoidance. That is why there are lengthy rules dealing with subjects such as dividend stripping, preferred share after-tax financing, sale-leasebacks, limited partnerships, dividend rentals, income-splitting, loss trading, non-recourse financing and tax shelters. The Need for Tax Simplification A Challenge and an Opportunity 9

10 The Evolution of the Personal Income Tax (PIT) System In Canada, the most fundamental reform of the personal income tax (PIT) system was introduced in 1971 by the federal government, following the report of the Royal Commission on Taxation (the Carter Commission ). After extensive research and public consultation, the Carter Commission made several conclusions in its 1966 report. First, the commission concluded that people, not corporations or other legal entities, ultimately pay taxes. Second, taxes should be seen to be fair and a progressive income tax system best reflects the concept of fairness. However, to reduce the negative impact on work, savings and investment incentives, the commission recommended that the top PIT rate should not exceed 50 per cent (at the time of the commission it was close to 80 per cent). Third, the commission concluded that the definition of income should be made as broad as possible including full taxation of capital gains, gifts, inheritances, workmen s compensation and strike pay. Finally, the family should be the basic unit of taxation. Not all of the Carter Commission s recommendations were implemented. Nonetheless, the reform resulted in a number of important structural changes. First, progressivity of the PIT system was maintained with the top federal marginal rate reduced from 80 per cent to 47 per cent, generally in line with the commission s recommendations. Second, base broadening was much more moderate than originally recommended with only half of realized capital gains becoming taxable, and Unemployment Insurance benefits, scholarships and fellowships also becoming subject to taxation. Importantly, the individual remained the basic unit of taxation. The next major PIT reform occurred in 1988, at which time seven of the ten tax brackets were eliminated; most deductions were converted to non-refundable credits (an approach that is more progressive because it gives the same tax benefit to all taxpayers regardless of their income); the tax base was broadened (e.g. mainly through increased taxation of capital income); and finally, certain tax preferences were reduced or eliminated (e.g. elimination of the $500 employment expense deduction and the $1,000 annual deduction of interest income). Perhaps more importantly, the second phase of the 1988 tax reform included the introduction of the GST in The GST shifted the overall tax burden towards consumption, and in doing so contributed to a more economically efficient tax system. The Five-Year Tax Reduction Plan, introduced in the 2000 federal budget, implemented certain structural reforms, including the reintroduction of full indexation of the PIT system and the elimination of the high-income surtax. The plan also provided significant tax relief, largely within the prevailing tax structure, through lower tax rates, higher brackets and enriched tax benefits, 10 Issue in Focus

11 particularly for low and middle-income families with children (under the Canada Child Tax Benefit) and students. Beyond these two major reforms and the changes announced in the 2000 federal budget, the PIT system has evolved largely on an incremental basis, mostly in response to pressures or changes in the policy-making environment. More than a hundred personal income tax changes (including a dozen new credits and deductions) have been introduced since 1994, in some cases as a result of targeted reviews (e.g. charities measures in Budget 2004 and disability tax measures in Budget 2005). Since the election of the Conservative government in 2006, targeted incentives have become commonplace in each budget. Perhaps the most important was the inclusion of tax splitting of pension income for seniors. The government has now promised to double the Children s Fitness Tax Credit as well as create a new Adult Fitness Tax Credit, and to allow income splitting for families with children under age 18 provided the deficit is eliminated by The main characteristics of the PIT system are: The tax base (income) is defined broadly, though not comprehensively (e.g. non-taxation of capital gains in principal residences, gaming winnings); Taxable income is generally all taxed the same, regardless of the source, although there are exceptions (e.g. exemption for scholarships, reduced taxation of capital gains); The individual and not the family is the taxation unit, although some recognition is given for the incremental costs of supporting family members (e.g. equivalent-to-spouse credit, credits for supporting persons with disabilities) and several measures have a family dimension (e.g. transferability of education-related credits and medical expenses tax credit, child care expense deduction, family income-tested claw back of GST credit and pension income splitting); Income is virtually always taxed in the year received, with only very modest income averaging (limited to retroactive lump-sum settlements including CPP/QPP lump sums); For 2011, a simple rate/bracket structure has been introduced (just four rates, plus a Basic Personal Amount that creates a de facto zero rate on the first $10,527 of income for 2011); A high degree of progressivity with the top statutory rate starting at an income level of $128,800. Income in this top bracket is taxed at about nine percentage points higher in Canada than in the United States (the top U.S. bracket is not reached until about $380,000 U.S.); and, There are a large number of targeted tax relief measures primarily targeted to families with children, students, persons with disabilities and charitable donors. The Need for Tax Simplification A Challenge and an Opportunity 11

12 The Need for a PIT Review While the PIT system has incrementally evolved over the years, its key structural elements and core underlying assumptions have not been reconsidered for at least 20 years and, in some cases, for almost 40 years. During this time there have been significant changes in society and the economy, and no evaluation has been done to confirm whether the basic structure or targeted measures fairly reflect these changing realities. For example: The increase in non-standard employment (self-employment, temporary and part-time) suggests greater self-reliance for retirement incomes (e.g. savings), and may raise questions of horizontal equity. The combination of progressivity and lack of income averaging in the current system means that those whose income varies widely from year to year will often pay more tax than someone with a similar but stable income. A rapidly aging population has implications on labour market participation, lifelong learning and disability supports. It also means a growing share of taxpayers are moving from their peak earning years to lower-income (and lower tax) retirement years, with potential implications for long-run sustainability of PIT revenues. Rising income polarization characterized by real income growth among higher-income groups and stagnation at lower income levels has implications for the progressivity of the PIT system. Investment capital and skilled workers can cross international borders more easily than before, putting greater pressure on the competitiveness of our tax regime vis-à-vis other jurisdictions. The concept of family is becoming more diverse (e.g. higher proportions of children living in single-parent or blended families), with implications for eligibility and design of family-oriented tax measures. Longer life spans and later child rearing is contributing to the rise of the sandwich generation, those working adults caught between the often conflicting demands of raising dependent children and caring for aging parents or other relatives. This growing phenomenon has repercussions on labour force participation as well as Canada s income support and health care systems. Technology has made it possible for an individual to generate services anywhere in the world and provide services to anyone, anywhere. As well, while the numerous incremental changes may have helped to address specific concerns at specific points in time, they have also resulted in steadily greater complexity because they aggregate and rarely, if ever, are special tax rules removed from the system. Complexity is a concern not only for the fairness and cost considerations cited above, but also because it is self-perpetuating, as small fixes give rise to unanticipated outcomes that in turn must be corrected (e.g. modifications to the Canada Child Tax Benefit to more fully reflect the diversity of family structures). 12 Issue in Focus

13 The multiplicity of new measures makes it very difficult to determine whether these elements continue to interact well as a system (e.g. whether there are important overlaps or gaps). For example, tax measures available for caregivers include: three different measures that recognize non-itemized expenses; the ability to claim itemized expenses under the Medical Expense Tax Credit, up to a limit of $10,000 with the June 2011 budget removing that cap; and, in some cases, transfers of unused credits such as the Disability Tax Credit. The availability and amount of tax relief can thus differ based on the dependant s income, characteristics, age and relation to the supporting person. Despite persistent calls to reduce the tax burden, which were spurred by significant federal surpluses in the late 1990s, it does not appear that reform or simplification of the PIT is a major issue among the general public or any political party. In fact, in the most recent election campaign, all political parties were making promises that would complicate the tax system even further than is already the case. Interest to reform the PIT system albeit typically limited to specific aspects of the system comes mainly from economists, economic think tanks, national organizations and special interest groups. Various proposals, representing diverse political philosophies, include: The tax base should be shifted towards consumption (the exact opposite to what has been done by the federal government in recent years); The income tax base should be broadened; Tax rates should be reduced (proponents are divided as to whether cuts should favour lower or higher-income taxpayers); Spousal amounts should be eliminated or enhanced to recognize the new concept of partner; The tax system should be streamlined (e.g. through introducing a flat tax); Corporate taxes should be eliminated as per the Income Trust model. The House of Commons Standing Committee on Finance, in its report on Pre-Budget consultations 2004, recommended that the federal government undertake a comprehensive review of the personal taxation system in Canada, including: The value of the basic personal amount; The value of the spousal/equivalent-to-spouse amount; The thresholds of the income tax brackets; The income tax rates; and Differential treatment of dual- and single-income households. The Need for Tax Simplification A Challenge and an Opportunity 13

14 In addition, this parliamentary committee stated this review should be undertaken with a view to ensuring that Canada s personal taxation system is both fair and as competitive with other countries, particularly the United States, as possible. Moreover, in the review of the personal taxation system, the committee believed particular attention should be paid to how the system might be modified to assist those with low income. ii Notwithstanding the potential interest in a PIT review, it is important to recognize that any significant structural changes would be costly. For example, just reducing each current tax rate by 1 per cent would cost about $5 billion annually to the federal treasury. Since fiscal resources are likely to be limited in the near-term, any changes to the PIT system would have to be revenue neutral with respect to other changes in the overall tax system (PIT, CIT, and GST). Inevitably this means difficult political trade-offs, which may dampen the enthusiasm of policy makers. The emergence of a majority government in the recent election may provide an opportunity for tax reform, since earlier efforts at tax reform were all done under majority governments. Any review of the PIT system, keeping simplification in mind, should focus on identifying potential improvements in terms of efficiency, fairness, simplicity or sustainability, taking into account changes in society and the economy. This review could conceivably cover issues such as: What is the appropriate tax base what is included, what is excluded (e.g. lotteries, capital gains, government assistance, scholarships)? How much progressivity is reasonable (rates, brackets and basic exemptions)? Are high marginal effective tax rates hurting Canada s productivity and growth? What is the appropriate tax unit individuals, families, households, other? How should savings/investments (including integration between the personal and corporate income tax systems) be taxed? How can our PIT system be competitive with that in the U.S.? Are there alternative ways to define income for income-tested tax benefits? Can the tax burden be shifted from PIT and if so, to where? What needs to be done to establish a fair and effective tax administration (e.g. reducing the compliance burden and the size of the underground economy)? Are tax expenditures adequately evaluated on a value-for-money basis and on an on-going basis similar to program spending? Are fairness enhancements (e.g. employment expenses, education costs, charitable donations, medical expenses, stock options, income averaging) necessary, or would a single broad-based credit be better? Through previous pre-budget submissions as well as appearances before the House of Commons Standing Committee on Finance, CGA-Canada has suggested a few starting points on ways to 14 Issue in Focus

15 simplify and streamline Canada s tax system. For example, this would include removing some of the out-dated sections of the Income Tax Act that are no longer relevant and only add to the clutter, confusion and complexity of the ITA; codifying the ITA so that it is easier for the average taxpayer to understand and to meet the requirements; and implementing a sunset provision for unlegislated tax proposals. Furthermore, given the widespread belief that targeted tax measures add layers of complexity to the tax code, it follows that any exercise in personal tax simplification should consider the removal of many of the targeted tax credits (e.g. children s fitness tax credit, the myriad of itemized expenses for the medical expense tax credit, volunteer firefighters tax credit, children s arts tax credit, family caregiver tax credit, tuition fee tax credit for examination fees). To replace these targeted tax credits, income tax brackets and rates would be adjusted accordingly to be revenue neutral, which would allow lower tax rates for all and support labour force participation. Family taxation should be considered on an elective basis under specific conditions that would recognize the 21 st century view of a family and remove any discrimination in the tax system that does not accord equal benefits to taxpayers in similar circumstances because the Income Tax Act has not kept pace with changing views. To emphasize, it would be extremely valuable for the federal government to review the literally hundreds of targeted tax measures in the personal tax system to determine their relevancy and need, and whether delivery of support can be done on a more universal and equitable basis. Only with a full review of the benefits and detriments associated with Canada s complex system, as it exists today, can simplification truly be achieved. This is a task that could be undertaken by an independent panel of experts. Given the need for fiscal neutrality, any reform of the PIT system should also consider selective reforms to the corporate income tax system. The Need for a CIT Review Equally important as the need to simplify the PIT system is the need to reform the corporate income tax system (CIT) on a selective basis. The corporate tax system in Canada is a very sophisticated system that combines a number of essential elements that have undergone significant change over the past two decades or more. As a result of globalization, free trade initiatives, the mobility of capital and the emergence of The Need for Tax Simplification A Challenge and an Opportunity 15

16 developing economies which has added to the competitiveness of the international marketplace, Canada has reviewed its corporate tax regime, removed impediments to investment (e.g. capital taxes) and lowered statutory and effective corporate tax rates to levels below other major industrialized economies. In fact, the Government of Canada has legislated a corporate tax rate of 15 per cent beginning in 2012 and has encouraged the provinces and territories to adopt a uniform corporate tax rate of 10 per cent for a combined federal-provincial-territorial statutory corporate income tax rate of 25 per cent. This commitment to lower corporate tax rates which actually began in 2000 may well have encouraged federal Finance Minister Jim Flaherty to launch public consultations on the taxation of corporate groups and to release a paper in November 2010 entitled The Taxation of Corporate Groups. One proposal involving the idea of a corporate loss transfer system would effectively establish a legislated tax loss transfer system for groups of Canadian corporations either on a wholly owned basis, a related basis or some other means. The topic of loss consolidation or a loss transfer system is a recurrent topic that has been discussed and debated over many years, with no conclusion ever being reached. Indeed, this is one of the major structural corporate tax reform issues that was last reviewed in 1985 when a white paper with proposed legislation was released. While such a proposal would inevitably yield more complexity depending on how it is implemented it has been a sought-after mechanism to replace the existing administrative accommodation. It is an important issue for two reasons it focuses attention on what is fair and equitable as well as what is the appropriate unit of taxation. Within a corporate group, fairness and equity would suggest that a legislated mechanism be available to permit income and losses from the various members of the corporate group to be aggregated and offset against each other. As the various provinces move to a uniform corporate tax rate of 10 per cent across-the-board, a corporate loss transfer system with appropriate recognition of inter-provincial movement of losses that can be accommodated through the provincial allocation formula is both doable and necessary to provide certainty and fairness. In 1988, several important corporate tax reforms were undertaken to eliminate certain distortions in the system. Of significance was the reduction of federal corporate tax from 36 per cent to 28 per cent and then to 21 per cent in Also the single-stage manufacturers sales tax was replaced by the GST in 1991, and capital taxes were eliminated by Significant effort over time has been spent in making the corporate tax system competitive and ensuring a Canadian tax advantage internationally. For instance, The capital cost allowance (CCA) system has been improved dramatically over time and continues to be a focus for change, bringing CCA rates in line with economic depreciation; 16 Issue in Focus

17 Capital taxes have been eliminated both at the federal and provincial levels; and The general corporate income tax rate will be reduced at the federal level to 15 per cent by 2012, and the federal government is seeking the collaboration of provinces and territories to establish a uniform corporate income tax rate of 10 per cent for a combined rate of 25 per cent. For foreign source income, Canada has a well developed and competitive tax system for taxing cross-border business activities, and the Advisory Panel on Canada s System of International Taxation has reviewed this area extensively and tabled a host of recommendations in December 2008 the majority of which would make the system fairer, with many proposals on the administrative side designed to simplify compliance with the system. The Advisory Panel s final report also contained several recommendations that would advance the objective of simplifying the corporate tax system in relation to foreign source income, while rationalizing the system at the same time. Some of the panel s recommendations referred to: Taxation of outbound and inbound direct investment; Non-Resident withholding taxes; and Measures designed to better facilitate compliance and ease administration. iii The costs to business of complying with the CIT system are significant and those costs are not equally shared across sectors. The Technical Committee on Business Taxation, chaired by Jack M. Mintz and mandated to report to federal Finance Minister Paul Martin in December 1997, reviewed this aspect as part of its research. It examined many issues in the business tax field dealing with economic efficiency, fairness and simplicity as objectives for business taxation. It determined that compliance costs tended to increase with the number of foreign affiliates and after adjustments were made for business size and other characteristics were found to be 85 per cent higher in the mining, oil and gas sectors because of the complexity of legislation, frequency of legislative changes and volume of reporting rules. iv In previous submissions, including its written brief to the Advisory Panel on Canada s System of International Taxation, CGA-Canada has advanced specific ideas for simplification. v These ideas were relevant then and are equally relevant today. Areas like corporate reorganization, debt forgiveness and the taxation and repatriation of foreign source income are complex areas of both policy and law, but the current economic climate provides an opportunity to move forward on several of these fronts when the costs associated with them would be sustainable. The Need for Tax Simplification A Challenge and an Opportunity 17

18 Why Now? There is no better time than present to modernize Canada s tax regime. For the average taxpayer, Canada s tax legislation is out-dated, unclear and challenging to understand, often requiring the services of professional accountants and lawyers. Even for tax practitioners and professionals, there is a strong belief that filing requirements are unnecessarily complicated and that decisions and interpretations are difficult to obtain on a timely basis. For Canada s SME sector, in addition to the costs associated with an unsustainable compliance burden, businesses often pay an even greater price in terms of lost opportunities time that could be better spent on much more productive endeavours instead of determining how much tax to pay. In sum, there is a multitude of reasons and widespread public support in favour of making needed improvements to Canada s tax system. For the government, the system is costly to administer and maintain. Faced with a tight fiscal situation and the requisite to control public expenditures, the federal government will need to look for efficiencies and low-cost initiatives as it manages its top priority the economy. Taking concrete steps to address tax measures or policies that add complexity to the tax system is an obvious solution. Moreover, now that Canada has a stable, majority government, with an election unlikely for four years, the time is right to deal with pressing long-term issues like taxation and to make modernizing Canada s tax system a priority. The benefits of tax simplification are clear. It means increased compliance rates and lower compliance costs for taxpayers. It means less paperwork for business and lower administrative costs for government. It means a stronger system with a more secure tax base and predictable revenue. Some of Canada s trading partners including Australia, the United Kingdom and the United States are realizing that inefficient tax systems reduce their competitiveness, and they. are taking steps to strengthen and streamline their tax regimes. One notable example is Australia s Future Tax System Review, established by the commonwealth government in 2008 to recommend changes that would position the country to deal with the demographic, social, economic and environmental challenges of the 21 st century. The resulting report made 138 recommendations and last year the government announced a concrete agenda and timeline for implementing them. One of the key findings of the report was that of the 125 different taxes levied by Australian governments, 90 per cent of the country s revenue came from just 10 of them. vi It makes one wonder about the value of the other 115 taxes. Studies suggest the same sort of inefficiency exists in Canada s tax system. 18 Issue in Focus

19 Canada with all its fiscal advantages cannot afford to fall behind its global neighbours and risk becoming a less attractive place to do business. Canada needs a 21 st century tax system a simple, fair, efficient and transparent tax system with low, internationally competitive tax rates. Closing Comments In conclusion, the ideas presented in this paper are intended to highlight some of the central issues surrounding Canada s tax system as well as the need for tax simplification and reform. Moreover, the views expressed are done so with the objective of stimulating debate and discussion on a public policy matter that concerns and affects all Canadians and likely leaves us with more questions than answers. Undoubtedly, one of the most significant challenges associated with simplifying taxation is identifying a starting point. We are all keenly aware that Canada s tax system is an intricate and interdependent patchwork of complex rules and regulations, but we also need to learn from our global neighbours other like-minded industrialized nations. Tax simplification is well within the public s best interest it is good for taxpayers, businesses and government, as well as the economy. Tax simplification is not only desirable and beneficial, it is achievable. We believe the federal government should look at how Canada s tax regime could be simplified and streamlined to help build a strong, competitive 21 st century economy. As discussed, it is our view that modernizing the personal income tax (PIT) system is long overdue and necessary, and it would lead to significant simplification. To kick-start this process, a review of the multitude of targeted tax measures in the PIT system, to be conducted possibly by an independent panel of experts, is worthy of consideration. As for the corporate income tax (CIT) system, reform could be more selective. The CIT system has evolved over the last 20 years, corporate income tax rates are historically low and internationally competitive, and Ontario is now part of the Tax Collection Agreements administered by the Canada Revenue Agency as are the majority of provinces and all the territories which means reduced compliance costs as well as increased savings and efficiencies. That being said, areas like corporate reorganization, loss consolidation and other select areas could be modernized to facilitate an ease of compliance with certainty and fairness and greater administrative efficiencies. Moreover, the recommendations of the Advisory Panel on Canada s System of International Taxation as well as aspects of the report of the Technical Committee The Need for Tax Simplification A Challenge and an Opportunity 19

20 on Business Taxation all raise specific areas that are ripe for review. Again, matters such as these could be put to a newly created panel of experts, who could be given a specific mandate to consult widely, generate debate, build consensus, and provide an action plan to the Prime Minister on ways to simplify and modernize Canada s tax legislation. This approach would be entirely consistent with the current government s commitment to uphold two pillars of democracy those of transparency and accountability. 20 Issue in Focus