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Kevin Milligan is Associate Professor of Economics at the University of British Columbia

As the Official Opposition, the NDP has a new opportunity to influence what policy issues generate public debate. At its first post-election press conference last week, the NDP seized the opportunity by pushing the newly re-elected Conservative government to improve funding for arts and culture. Having arts policy as the first item on the agenda is certainly a break from the past, and perhaps a refreshing one. However, before they're ready for centre stage, the NDP's tax policy proposals still need some more rehearsal time.

A key component of the NDP plan is to introduce income averaging for artists. Research indicates that average earnings for those in the cultural sector is quite low -- with an average of only $23,500 in the 2001 Census. While the Census doesn't contain information for consecutive years, it seems likely that artists' earnings are more volatile than for other Canadians. If someone has volatile income year-to-year, a progressive tax system can impose a heavier burden on that person than someone with the same total income split evenly across the years.

A simple example makes this clear. Imagine we had two tax brackets. Income up to $10,000 pays zero tax, and income over $10,000 pays 20 per cent. Someone with $30,000 of income split evenly over three years would pay no tax, as the $10,000 would fall entirely in the first bracket each year. However, someone who earned $0 in the first two years but $30,000 in the third would pay $4,000 of tax ($30,000 less $10,000, times 20 percent). In this way, more volatile income leads to higher tax burdens. This extra burden of volatile income is a well-known problem with income taxation, with much of the important work on the topic done in the 1930s and 1940s by Canadian-born Nobel Prize winner William Vickery.

The NDP is correct that in theory, income averaging can moderate the tax burden caused by fluctuating incomes. It does this by fictively shifting income out of high income years and into lower income years for tax purposes. This shifting, it is expected, will deliver lower average tax burdens.

For decades, there were mechanisms in place to help people average their incomes to avoid the perils of progressive taxation on volatile income. These mechanisms were restricted in 1981 and finally put to rest in the tax reform of 1988. Why did income averaging die? Is it worth bringing back?

I see three reasons why income averaging deserved its death, and should stay that way.

First, the averaging mechanisms became extremely complicated. There were rules to make sure high-income people didn't use income averaging as a tax dodge. There were adjustments for inflation. There were special rules for trusts. In short, income averaging added a substantial administrative burden to the tax system.

Second, we don't have so many tax brackets any more. In 1971, there were 17 different federal tax brackets. The income ranges for these brackets were much smaller in the past, meaning you were more likely to be bumped into a higher bracket with volatile income. Now in 2011, with only four broad brackets, volatile income creates fewer problems.

Third, the rate structure is much flatter now. Federal tax rates in 1971 ranged from 11 per cent up to 80 per cent. For 2011, the rates range from 15 per cent to 29 per cent. Moreover, at lower incomes the phase-out of refundable credits like child benefits and the GST credit often leads to lower-mid income people having higher marginal tax rates than higher income people. This can be seen in the accompanying graphs, which show the tax and benefit repayment owing on an extra dollar of income for a single person and for a two parent, two child family in British Columbia in 2008. (Also see Appendix A of this C.D. Howe article by Alexandre Laurin and Finn Poschmann or Figures 7 and 8 of this article by me for the Canada West Foundation.) This pattern of marginal non-progressivity of taxes obviates or even reverses the need to shift income out of high income years.

Many Canadians support the presence of a healthy cultural sector in our society. However, income averaging is an extremely clumsy apparatus for supporting the arts -- to the extent it would even help at all. Let the debate on support for culture flourish, but let's keep income averaging out of it.

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