Tax Issues in Albert’s long awaited 2015 Budget

Alberta finally released its long awaited budget yesterday and, well, it is not pretty. The province is facing large deficits for at least the next few years, and given the assumptions these predictions were based upon, more realistically for a number of years after that as well. While there is lots to talk about regarding Alberta’s spending behaviour, its government’s dependence on oil revenues, and its assumptions about oil prices and the Canada-US exchange rate (and if you are interested, go look at the twitter feed for Trevor Tombe, Stephen Tapp, and Kevin Milligan or Trevor’s post budget Macleans piece.), there are three tax topics that are worthy of some discussion: income taxes, sales tax, and user fees.

In the Minister’s budget speech, he said

For a generation now, Alberta has been conducting a unique and failed experiment with regressive flat income taxes.

Rich, middle-income or poor, in Alberta under conservative government you paid a 10% income tax rate.

No jurisdiction in Canada at any level and under any party – including the recently-defeated Conservative government in Ottawa – followed this income tax model because it is wrongheaded, grossly regressive and unfair.

As we detailed in Bill 2 in the spring sitting of this legislature, we confirm today that we are abolishing this flat income tax model. We are replacing flat taxes with a normal, fair, progressive income tax system.

Just as a reminder, in 2001 under Ralph Klein, Alberta adopted what it called a flat tax system. All tax payers faced a tax rate of 10%, regardless of income. It did adopt a generous basic personal amount, the highest in Canada actually which by 2014 had increased to $17,787. This means that Alberta residents could earn $17,787 tax free, but every dollar above that faced a tax rate of 10%, making for a quite a steep kink point for those around the exemption amount. Here is what that regime looks like:

Alberta budget 1The Alberta NDP (and the former PC government had a similar plan as well) has thrown out this flat tax system by raising the rates on high income earners. However, it kept the lowest rate at 10%. Here is what the regime looks like under the old flat tax system and the implementation path for the new regime, keeping in mind that the basic personal exemption is indexed so that it increases with inflation.

Alberta budget 2I question the Minister’s claim that they are “replacing flat taxes with a normal, fair, progressive income tax system,” given that the steep kink point continues to exist. While the system is more progressive at higher income levels, it continues to place a large burden on those just above the exemption amount. I also question the claim that the Alberta flat tax model was “grossly regressive” given the benefits that accrue to lower income Canadians due to the generous exemption amount the flat system allowed the province to have.

To consider both these claims, let compare Alberta to BC which does have a more progressive income tax system. For this I am using BCs 2015 tax rates. The income thresholds in BC are also indexed to inflation so for 2016 it is expected that the thresholds will change marginally.

Alberta budget 3

Here you can see that under the BC system, the tax rate kicks in a lower income level, but when they kick they are lower rates.

Perhaps the best way to understand the costs and benefits of these contrasting systems is to consider taxes paid through the income spectrum. Here is a table that shows provincial income taxes paid (federal taxes are ignored because they are the same regardless of province) based on various levels of taxable income.

Taxable Income BC 2015 Alberta 2016 Alberta 2015 Alberta 2014
10000 3.1372 0 0 0
20000 509.1372 134.9 178.7 221.3
30000 1015.1372 1134.9 1178.7 1221.3
70000 4272.268 5134.9 5178.7 5221.3
100000 7109.7719 8134.9 8178.7 8221.3
120000 9914.8577 10134.9 10178.7 10221.3
150000 14324.858 13134.78 13303.595 13221.3

So the advantage of Alberta’s system is that the lower amounts of taxable income end up paying less income tax due to the generous exemption amount, but that benefit is quickly dominated by the lower rates in BC’s system. So it is wrong for the Minister to suggest that Alberta’s system is “grossly regressive” and it is also wrong for the Minister to suggest that their new tax rates are truly progressive. Alberta’s system definitely has some benefits to both low and high income earners, but the cost is a higher burden on moderate income earners.

The second topic is that related to a provincial sales tax. The Notley government has ruled out a sales tax in Alberta, despite its large deficit. That is unfortunate as a sales tax could have been used to plug the deficit or used to avoid/reduce distortionary income taxes. Yes, it could serve a dual purpose and there can be a short and long term implementation path, but that often seems too much for people to handle. Plug the deficit in the short term and then as revenues recover, use the revenues to reduce income taxes. This paper published by the School of Public Policy shows the opportunity cost of not having a PST along with an implementation path. This paper estimates that such a tax could raise $8B in revenues, and provides options of how this revenue could be allocated over the longer term as government revenues recover.

Too many people also get caught up in debates about the regressivity of a consumption tax. The regressivity, however, is dependent on implementation. After all, an income tax can be regressive, and suggested by the Minister himself, but we can ensure progressivity through implementation. One of the easiest ways to address regressivity of a consumption tax is through a means tested tax credit as exists for the GST, a tax credit that can indeed be paid monthly without significant added cost. Here is a paper that shows how this worked in Quebec.

The third topic is related to user fees, a topic that I know a fair amount about. The Notley government has also chosen to not rely on user fees as a source of revenues. I imagine that the argument here is similar to that levied against consumption taxes: user fees are regressive. I have previously written about regressivity of user fees here; the bottom line is that regressivity is a function of implementation, not the tool itself. From a tax payer’s perspective, user fees also impose a great deal of accountability on the government, something that I think Albertan’s would like. User fee revenue cannot be used like tax revenue. Tax revenue goes into general revenues and can be spent in any way the government likes. In contrast, revenue from user fees must be earmarked and solely used to offset the costs of providing the good or service. In addition, the size and form of the fee must be based on the size and form of the costs. A user fee can’t be set at whatever rate the government feels is right, it must be set according to costs. Economists like user fees because not only are the efficient, but they have a high level of accountability built into them. User fees keep the government in check and that check is built right into the revenue instrument.

Along these three tax issues, there is room for a good, informed debate in Alberta about how to move forward. There is another budget just around the corner and it is never, ever too late to really start thinking about the type and style of tax system best suited for the province and its tax payers.