Another tax cut gimmick? Opening thoughts on income splitting

There is a crisis of poverty and homelessness in Canada. A poll released by the CCPA yesterday found that Canadians across all regions and demographic categories feel that the gap between rich and poor is growing. There are major challenges that require attention, such as fighting climate change. A poll in the Vancouver Sun the other day found that almost three quarters feel that the world as we know it could end in two or three generations.

And yet the federal Tories are obsessed with finding ever more clever ways to NOT act on issues that matter, and to in fact reduce our capacity to act in the future. Income splitting is an example of a reform to the tax system that would cost $5 billion per year. With that kind of price tag, we really need to think about the opportunity costs. If the wedge issue in the next federal election is big tax cuts versus fighting poverty and climate change, bring it on.

Stephen Gordon at Worthwhile Canadian Initiative comments:

[I]f you had $5b of public money to allocate, this particular example of inequity comes very, very low on my own personal list of priorities. I can see the logic for income-splitting, but why not make the change revenue-neutral by increasing income tax rates at the same time? (Alright, we already know the answer to that one.)

Besides, horizontal equity isn’t the only consideration. Since the gains would largely go to those at the upper ends of the income distribution, vertical equity should be taken into account as well.

… In case the Conservatives have really run out of ideas for spending that money, here are a few:
• Beefing up transfer programs such as the GST rebate and/or the Child Tax Credit
• An Earned Income Tax Credit
• Make it easier for students from low-income households to pursue post-secondary education (no, this does not mean reducing tuition fees).

And if they really, really feel that they have to cut taxes, they should be cutting corporate taxes, which are high by international standards. The payoff here would be increased investment and productivity. Canada’s low rate of productivity growth is a chronic problem, and is much more important than the one that income-splitting would solve.

I’m open to arguments on both sides of the income splitting issue. I might even support a revenue-neutral shift to income splitting, as Gordon contemplates. But I think that this issue is framed in a confusing way by proponents. Consider this example from coverage in the Toronto Star:

Under current tax law, a family in which one spouse works, earning $80,000 a year, and the other spouse has no income will pay $12,460 in federal income tax. Under income splitting, the couple would pay a combined total of $8,940, a saving of $3,520, according to calculations by the Canadian Taxpayers Federation.

A family in which one person earns $60,000 and the spouse earns $20,000 currently pays total federal income taxes of $10,280. Under income splitting, that family would pay a total of $8,940, a saving of $1,340.

A family with two partners earning $40,000 each pays a combined federal income tax of $8,940. There would be no change under income splitting.

I get the premise of treating equal families equally. But the problem in this oft-cited example is that there is a hidden assumption about how families can structure their income. If I earn $60,000 and my spouse $20,000, we cannot just decide that my spouse should stop working and that instead I should earn $80,000 per year. The actual choice is me earning $60,000 and my spouse not working.

Whereas the family with one earner making $80,000 could choose to have the spouse enter the labour market and earn whatever he/she could get. And if that spouse stays at home, the family derives an economic benefit from that situation, whereas in the $60K/20K case there are additional costs of participating in the labour market such as transportation and child care. So the two families are not actually equivalent.

16 comments

  • The economic effect of two income vs one income households is something I’ve been thinking about for a while and I’ve come to believe that two income households has caused more harm then good and should be discouraged.

    Some problems caused by having a large majority of household with two incomes include:

    Lower wages because of higher labour supply

    Higher housing prices because people are willing to pay as much as they can afford to get the house they want. With everyone having two incomes, it drives housing prices up to the point where you can’t get one without having two incomes

    These two effects mean that a household who is limted to one income by choice or circumstance more often ends up in poverty and homelessness.

    There are other problems with two incomes like:

    Increase transportation cost because it is more impractical to live near two different workplaces

    Decreased technological innovation because labour is cheaper and easier to find

    Finally there is the vast amount of time lost to work that could be used enjoying life

    If only a few households had two incomes, then these problems would exist and those few households really would be able to double thier standard of living. When everyone does it things shift so that having two incomes leaves you no better off then having one under the old system.

  • True, it is the same in sport and one of the reasons roids are banned. The first players who use roids get an advantage once everyone in the league is doing it not only is the advantage gone but there is a massive cost in terms of health.

    The analogy however only goes so far. Many people work because they need the income. One way to make the income splitting more sound would be to put a cap on the total amount of income that could be split so that say only a maximum of twenty thousand could be transfered to the spouse.

  • A few comments – based on ongoing discussion with Erin Weir here at the CLC. First, the comparisons of tax levels based on different combinations of earnings into household income are misleading if they do not take into account the value of unpaid work and employment expenses. The hypothetical $70,000 sole earner family may pay more income tax than a 2 times $35,000 dual earner family, but the former is well ahead in terms of real economic welfare. Second, if we want to support a period of parental care for children, expanding EI parental benefits would be much more fair and effective. Third, the biggest beneficiaries of income splitting would be very high income earners who could transfer large amounts over the top tax threshold of more than $100,000 to a spouse in a lower bracket. Not very fair when you consider income splitting is of no benfit at all to singles, including single parents, and couples with low or relatively average earnings.

  • I’m at home with my kids I work just as hard as parents who get paid to work. I’m not asking you to pay me I’m asking for a fair shake in the tax department. This also goes for most parents who do not make the same amount. Women generally only make 70% of a mans salary so statistically they will be making less than the spouse. Therefore they will also save on taxes. 2 income families and one income families do work just as hard as the other, and any other thoughts on that would be discriminatory against the stay at home moms work. We do not eat bon bons all day and watch soaps. You know that as well as I do. What I do is equal to daycare and other mothers who get paid. In the end we should all be treated the same with no discrimination.

  • Sara,

    I do not doubt at all that you work hard to raise your kids. It is a lot of work that is under-appreciated in our society.

    But, I do not get how the current system is discriminating against your family. I’m presuming you are in a one-income household. As it is, your spouse already gets a deduction of close to $8,000 for you against his/her taxes.

    Some families do not have a spouse whose income alone is sufficient to raise a family, and thus the other spouse must work. You are fortunate that you do not have to. But if you did choose to do that, of if you felt it important to have continuity in your career, you would be able to have a larger family income (after deducting the costs of child care and transporation, etc).

    When these factors are considered I’m not convinced your situation is one that should be characterized as discrimination.

    A final thought: What if you were a single mother? Income splitting would not benefit you at all. And yet single mothers are the poorest demographic of all. If any group merits special attention (income splitting will cost on the order of $5 billion) that is where I would put my money.

  • Thanks for not doubting my hard work, many do.
    I appreciate your thoughts on this.
    I believe single parents should be able to split the income with the children as they do in France. That is on my personal lobbying agenda.
    Also while I was married with a child we only made $18,000 a year. We lived with inlaws, low rental apartments etc.. adding I grew up with a single mom, lower than trailer park boys.
    I know poor and I would want anyone to have to deal with that but we do. Putting all our money into a childcare system that only helps non-profit daycare is not worth it. These daycares do not prioritize on the low incomes they prioritize on the workers.
    If I went to work yes I would have a lot more materialistic stuff but I much prefer to go without just to be with my children. There are a lot of parents out there who are also doing this in poverty and others who go to work crying because they want to be with their kids.
    The system only counts towards daycare workers not the parents. We need to get parents what they need that will ensure they as parents make the best decisions for their children without financial blackmail.
    Yes, I get a tax break for being at home and we get one for each child but under that tax break I am a non-working dependent. That is what got me to advocate in the first place.
    Just to give you a few ideas I’ve been working on is,

    Fund the child it will fund the system
    tax credits
    refundable tax breaks
    income splitting
    daycare tax breaks for non-profit as well as profit

    We have a daycare association who is all for funding the child. Unfortunately I can’t do it all at once and income splitting right now is a good way to go with the news. Each part I will bring one by one, but they will be done.
    Remember income splitting has no bias, same sex marriage, race, color etc… or even common law it will be done. We need to make sure that single parents recieve it as well. That I can promise I will work towards.

    Honestly we have always brought up our kids on our own, and I am the type of person to give the shirt off my back to those who need it. I did daycare myself for years and didn’t charge the parents because they needed the money more than me. I’m good with finances and our lives have been hard but we worked together and got this far. This is not a fight for me this is a fight so my 3 daughters can choose a daycare of sort or staying at home but with full financial and emotional support for their own government.

    Sara

  • Sara, thanks for bringing a different perspective to this discussion. An important point is that, if the single-earner makes $36,000 or less and is therefore already in the lowest tax bracket, the family would barely benefit from income splitting. By nominally shifting up to $18,000, the stay-at-home spouse could claim the basic personal credit but the earning spouse would lose the spousal credit, which is almost equivalent.

    Income splitting only benefits people in higher tax brackets. Indeed, someone making $230,000 with a stay-at-home spouse would save $9,000.

    In 1999, the Standing Committee on Finance unanimously reported that “a dual-earner couple with the same total income as a single-earner couple is not as well off as the latter. Not only are there additional employment related expenses that must be incurred with respect to the second worker, the value of unpaid work in the home, or leisure, must also be taken into account.” Similarly, the Ontario Fair Tax Commission noted, “it has been shown that single-earner couples may have greater ability to pay than two-earner couples with the same income.”

  • the Ontario Fair Tax Commission noted, “it has been shown that single-earner couples may have greater ability to pay than two-earner couples with the same income.”

    and what do they base this on?

    first the parents who use daycare get a childcare tax credit of $7,000 which equals our non-working tax credit. That remains equal but the double income to single income still does not remain equal.
    I childcare my own children just as a daycare workers does.
    Do you get what I mean.

  • I believe that the Fair Tax Commission’s statement was based on the same factors that the Standing Committee identified. The dual-earner household incurs additional costs associated with the second spouse working outside the home. The single-earner household gains additional benefits from all of the unpaid (and untaxed) work done by the spouse who stays home. If both households receive the same financial income, the single-earner couple is much better off and relatively more able to pay taxes.

  • the single earner family has costs as well. During the duration of the work day ex: 8-5 the home is not in use. The single income family is using utilities, food, water etc… adding additional costs to the house.
    Our expenses are the same as a daycare.
    When a double income family pays for daycare, utilities, food, water etc.. are all incured in the daycare costs. Our costs are incured in our personal finances.
    Therefore it is not fair.

  • Sara,
    Thanks again for engaging with us on this issue. A few points to consider:
    Deductions for spouse and for childcare are not equivalent because of who gets to make the deduction. The former is claimed by the higher-earning spouse and its value is the tax savings on that spouse’s income — because it is reduces taxable income its value is the top marginal tax rate paid (i.e. if that person earns, say, $150,000, its value is 29%*$7,000 for federal income tax plus the associated provincial tax rate). This child care deduction, in contrast, is claimed by the lower earning spouse, and is much more likely to be applied to income in a lower tax bracket.
    Second, operating expenses such as utilities are not necessarily equivalent because there are fixed costs. The incremental cost associated with utilities for a day at home is relatively small — and most stay-at-home parents in reality go out and do stuff to educate and entertain their children, too.
    The point is that a one-income family and two-income family with the same dollar income are not in fact equivalent because of all the factors mentioned above. I’m open to seeing some studies that account for all of these factors.
    The reality is that income splitting is extremely costly. It might be acceptable if it was done in a revenue neutral way, but that was not what was floated. Without revenue neutrality, income splitting gives tax cuts to families who need them the least, while forgoing alternative uses of that money, including expanding child care or income support for single parents.
    Finally, there is evidence that high-quality child care (i.e. early learning) is beneficial for the children themselves. Quality is, of course, key. Some stay-at-home mothers will be excellent at this; but others will not. So I’m not sure why, in public policy terms, we would want equivalence anyway. We do not make the field level for home-schoolers vis-a-vis K-12 education because there are broad societal benefits from having a public education system. The same logic applies to child care.
    People can and will choose to home-school their child or be a stay-at-home parent if they want and their financial circumstances allow it — but if there is a bias in public policy it should be towards a high-quality public system.

  • Finally, there is evidence that high-quality child care (i.e. early learning) is beneficial for the children themselves.

    That is the evidence I completely dispute, to put money in the lobbying and hands of the daycare workers takes away from the children. You’ve seen what has happened to the money over the years. I also dispute that putting a poor kid in daycare is a better solution than having a parent raise the child.

    I believe that if you are poor you don’t have a lot to give your kid but that does not make you a bad parent. Also instead of putting the money in the hands of a social program without choices takes away the rights of the parent.

    Income Splitting is already done through the rich and double income families, it is only fair to do it with all. Our Child Tax Credit and many more things are based on family taxes so therefore it all needs to be treated that way.

  • I respect your opinion, Sara, though I disagree that all parents are the best for their kids all of the time. Parents, rich or poor, have all of the flaws that humans do — you seem to be living in a world where there is never neglect or abuse of children by parents.

    And you seem blind to benefits of having children in a high-quality learning environment that includes some basics like socializing with other kids, accepting other authority figures and role models, as well as cognitive development, and as is increasingly common, ESL. Perhaps you are a super-mother who can do all of these things better — good for you and your kids — but don’t assume that this is the case for everyone.

    I also do not understand why you have such antipathy for daycare workers, an underpaid lot for the work they do. If anything, their pay should be more in line with teachers, which would draw more professionals into the field.

    Putting a child in daycare is a choice that does nothing to take away right from a parent. If anything, the two are complementary.

    Anyway, I sense you are taking a moral position, which puts this discussion at an impasse. I’d like to see some evidence in support of your position. But that is a whole different matter, far from the topic of this post, which was income splitting.

    You may want to make such comments on this post by Andrew: http://progecon.wordpress.com/2006/11/15/big-payoff-from-pre-school-programs/

  • you seem to be living in a world where there is never neglect or abuse of children by parents.

    I grew up in that world and I know some HORRIBLE parents…

    And you seem blind to benefits of having children in a high-quality learning environment that includes some basics like socializing with other kids, accepting other authority figures and role models, as well as cognitive development, and as is increasingly common, ESL. Perhaps you are a super-mother who can do all of these things better — good for you and your kids — but don’t assume that this is the case for everyone.

    I don’t assume that is the case for everyone, and no I am not perfect. I assume the parents know what is best for their children, some will and want daycare for early learning but others know and want to do it themselves. This is not like a doctor where it is life threatening, this is teaching children how to learn and be good people.

    I also do not understand why you have such antipathy for daycare workers, an underpaid lot for the work they do. If anything, their pay should be more in line with teachers, which would draw more professionals into the field.

    That I disagree with, they are not teachers, they do not go through training like teachers do.

    Putting a child in daycare is a choice that does nothing to take away right from a parent. If anything, the two are complementary.

    I agree, but by only funding one there is not choice it is financial bribary. What about all those parents at home who can’t afford anything and are forced to leave their children when they don’t want to? No one considers them, they are told too bad.
    Those parents have a right to be home as much as a parent has a right to work. This has to go both ways.

    Very true, I am a mom of 3 girls and I get personal with this. Not mad though, I hope you know that. I want choice for a lot of things and this is one of them. Income SPlitting will recognize the mom at home and the mom who is working and only getting 70% of a mans pay as well. This will help families more than anything else, morally right and economically fair. The money coming from income splitting will go right back into the economy as fast as it goes out.
    I will check out the post thank you.
    also I have a fund the child report you might want to see, can you email me again?

  • 2002- June – Strategic Counsel issues “Canadian Attitudes on the Family’ and finds that 71% of those asked say the current tax system makes it difficult for families to have one parent home with the kids. The majority felt the biggest threat to a family today is economic.

    They did not say no daycare spaces, they said the tax system.

  • A correction to something I wrote in the comments above, emailed to me by Jon Kesselman:

    “The dependent spouse credit has a value to the other (tax-filing) spouse that is independent of the filer’s own marginal tax
    rate; it is one of those so-called nonrefundable tax credits, the value of
    which is computed by taking the “deduction-equivalent” amount and multiplying it by the bottom-bracket marginal tax rate. So there is no income-tilt to this particular provision.”

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