[HALIFAX] — Because of the way that the tax and welfare systems work together, the highest tax rates in Atlantic Canada are not paid by the well-off, but rather by the least well-off in our society. In fact, combining the clawback of welfare benefits with the impact of the tax system, the highest marginal tax rates in Newfoundland, Nova Scotia, New Brunswick and PEI are paid by people trying to escape from welfare dependency and enter the labour market at the minimum wage. Such families pay marginal rates in excess of 100 percent on income between $13,187, where federal and provincial income taxes kick in, and the level at which welfare clawbacks ends.
These are just some of the findings of a new study published today by the Atlantic Institute for Market Studies, Taking a Road Less Taxing: The Atlantic Provinces and the National Child Benefit. (Requires Adobe Acrobat Reader) The paper goes on to make a creative proposal for provincial tax and welfare benefit reform that would considerably reduce this vicious welfare trap and improve incentives for people working at the bottom of the income scale.
The study is timed to coincide with the release by Ottawa of hundreds of millions of dollars available to the provinces to combat child poverty. This money would make the proposed tax and welfare reforms virtually costless to provincial treasuries.
The problem:
Consider a family of four on social assistance with a single wage earner who makes minimum wage. Suppose he or she has an opportunity to work overtime and make an extra couple of thousand dollars. If he or she decides to work this overtime, the family will see its income fall as a result of its welfare clawback combined with payroll and income taxes.
Specifically, every dollar the sole wage earner in a Newfoundland family of four earns between $13,187 and $16,368 results in a drop in take-home pay of 15 to 25 cents. Such a family earning exactly $13,187 must receive a pay increase of at least $3,751 before its income rises by a single penny.
In PEI, a marginal rate of over 100 percent stretches over a range of $6,341 (between $13,187 and $19,528), and in Nova Scotia, such rates stretch over $4,796 (between $13,187 and $17,983). Families in New Brunswick are the least punished, losing less than a dime for every dollar earned over an income range of “only” $3,219 (between $13,187 and $16,406).
The result of the stacking of welfare clawbacks, social insurance premiums, and income taxes is a social safety net that traps those unfortunate enough to be caught in it.
The solution:
Fortunately, in 1997, the provinces and Ottawa reached two important agreements, one about benefits directed toward children and the second about the provinces’ flexibility in designing their own tax systems. Together these agreements give the Atlantic provinces a historic opportunity to improve the lives of low-income families with children—without costing those provincial governments a cent of their own money.
In the first agreement, the National Child Benefit (NCB) agreement, the federal government agreed to supplement the refundable tax credit it provides to low-income families with children. Provinces can choose to allow welfare families’ overall cash payments (federal and provincial) to rise by the amount of the NCB supplement or to reduce provincial welfare payments by that amount and redirect the consequent savings to other programs directed toward children. Ottawa has spent $1.7 billion on the supplement over the past two years and has committed itself to spending $2.5 billion more between now and 2004. Of that total investment of $4.2 billion, the amount of NCB money going to welfare recipients in Atlantic Canada and therefore potentially available to their provinces over 1998 through 2004 will be $44.9 million in Newfoundland, $6.7 million in Prince Edward Island, $71.8 million in Nova Scotia, and $51.6 million in New Brunswick.
In the second federal-provincial agreement reached in 1997 — the tax-on-income (TONI) agreement — the provinces got greater flexibility in setting their own tax policy. TONI allows them to levy their income taxes not on federal taxes paid, as in the past, but on taxable income (hence “tax-on-income”). In practice, this innovation means that provinces can now set their own rate structures and sets of exemptions, including new per-child exemptions. Ottawa will be ready to administer this new tax system beginning in January 2001.
These two agreements provide an opportunity for the Atlantic provinces to make great headway in addressing the goals of the NCB program and simultaneously improve their own tax systems. Instead of simply allowing the NCB money to pour into the welfare system with its perverse disincentives for low-income families, the Atlantic provinces could make many of their poorer citizens much better off by reducing welfare payments by the amount of the new child benefit and redirecting the money saved to a provincial $2000-per-child exemption under the tax-on-income system.
Such an exemption would reduce, by 10 to 12 percentage points, the marginal tax rate welfare families face, and it would do so over the exact income range in which that rate exceeds 100 percent in all the Atlantic provinces. Introducing a per-child exemption would put more money in the hands of poor working families by increasing their motivation to stay in the work force and receive a higher return for their work.
Easing the transition from welfare to work would enable more Atlantic Canadians to escape the poverty trap of welfare for a more rewarding life in the work force. This policy would be a winner for all Atlantic Canadians, and the timing of the NCB and TONI agreements means that their governments could do it without injecting new money from already tight provincial budgets.
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For more information, please contact:
Brian Lee Crowley, AIMS President, 902-499-1998 or [email protected]