How the taxman keeps us from falling off the cliff
There was much hue and cry as the United States approached
the “fiscal cliff” at the end of the
year: Would it plunge into the
financial abyss, or would a way be
found to address the potential
Let’s turn our attention to a key
component of that scenario — taxation.
All income tax structures must
identify two essential ingredients
in order to determine the amount
of revenue that the state will collect. First, one must identify the
tax base, and, second, one needs
to determine the tax rate that
applies to that base.
In theory, the tax base determines how much is taxable. In
practice, as Greece and Italy teach
us, the issue is who really pays the
theoretical tax. Thus, reduction of
taxable income by special exclusions, deductions, credits and evasion will affect the amount of tax
revenue that the state generates.
One can increase or decrease
revenue by enlarging or contracting the tax base. The smaller
the base, the higher the rate that
one must apply in order to generate a specified amount of revenue. Conversely, the larger the
tax base, the lower the rate
needed to generate a predetermined amount of revenue. A system that taxes all forms of income
equally will produce a larger tax
base than a system that excludes
certain forms of income. For
example, the Canadian income
IMAGINEGOLF / ISTOCKPHOTO.COM
tax system taxes the full amount
of business income but only one-half of capital gains. This means
that the tax base is reduced by
one-half of the excluded (
nontaxable) capital gains.
The second element in determining revenue is the tax rate
that one applies to the base. In
theory, the higher the rate, the
greater the revenue collected
from the tax base. Thus, ignoring
tax evasion and avoidance, in a
static model, a tax rate of 40 per
cent will produce a greater
amount of revenue than a rate of
20 per cent. Unfortunately, the
economy is not static, but
responds to dynamic stimuli.
There are three different
aspects to tax rates: marginal,
average and effective.
top marginal rate is 29 percent.
Hence, as marginal rates rise, the
total tax payable increases by a
rate that is more than proportional to the increase in income.
For example, an individual who
earns $30,000 taxable income
will pay basic federal tax at a marginal rate of 15 per cent; an individual who earns taxable income
of $200,000 will pay at a federal
marginal rate of 29 per cent.
taxable income, however, the
average rate is 24 per cent, which
is five percentage points lower
than the individual’s marginal
rate (based on 2012 rates).
parisons, marginal and average
rates of tax are not particularly
helpful because they do not take
into account the differences in
calculating the taxable base to
which one applies the rate. For
example, assume that country A
taxes net income at 45 per cent
whereas country B taxes net
income at 40 per cent. On the
surface, it would appear that
country B has the lower rate on
comparable amounts of net
income. If, however, country A
allows generous deductions in
calculating income — such as,
mortgage interest—that country
B does not permit, it is entirely
possible that the effective rate of
tax in A is lower than that on
equivalent income in B.
In Canada, few, if any, corporations actually pay tax at the nominal statutory rate. For example,
the Mintz committee found that
the average federal effective rate
for corporations operating in all
industries was 16 per cent. Indeed,
many profitable companies do not
pay any income tax at all for any
number of reasons. The companies may be operating in industries
that have substantial tax incentives, rebates, accelerated expense
writeoffs or even tax holidays.
Preventing falling off the fiscal
cliff requires determination and
strong leadership to ensure the
economic well-being of many
countries, including the United
States and, by implication, Canada. We expect our leaders to pull
us out of the economic mess they
put us in. One can only hope that
they will not make a great leap
forward from the cliff.
The marginal rate is the level of
tax that applies at the top dollar of
a taxpayer’s income. The Federal
We obtain the “average rate” of
tax by dividing the total payable
by the tax base. The average rate
reflects the weighted average of
all of the marginal tax rates. For
example, the average rate of the
individual who has $30,000 in
taxable income is $4,500. In this
case, the average and the mar-
ginal rates are equal because only
one marginal rate applies to all of
the income. In the case of an
individual who has $200,000 in
A taxpayer’s “effective rate” is his
or her total tax payable divided
by net income before exclusions
and exemptions. In the above
example, assume that the indi-
vidual who has taxable income of
$200,000 earned $60,000 of
capital gains in the year. By
excluding one-half of the capital
gains from taxable income, the
individual has, in effect, reduced
his or her tax base by $30,000.
Thus, the individual’s effective
tax rate is 21 per cent, the tax pay-
able divided by “real” net eco-
nomic income of $230,000.
Prof. Vern Krishna, CM, QC, LSM is
tax counsel at Borden Ladner Gervais
LLP and executive director of the CGA
Tax Centres, University of Ottawa
Family Law Associate
Epstein Cole, a leading family law firm, is looking for exceptional
candidates to join our team.
If you have been a lawyer for more than two years and have a
passion to practise family law in an environment of excellence
and collegiality, then we invite you to send a letter of application,
a detailed résumé, academic transcripts and references, in confidence
to Catherine O’Neill at firstname.lastname@example.org.
393 University Avenue, Suite 2200, Toronto, ON M5G 1E6
Tel: 416 862 9888 Fax: 416 862 2142
Gilbert Kirby Stringer LLP is a twelve lawyer personal injury/insurance litigation firm.
Our practice is restricted to Civil Litigation with an emphasis on insurance/personal injury work.
We have an immediate opening for a Litigation Associate with two to three years of relevant
experience. A solid academic record and previous involvement in insurance defence work is
Please submit resume in confidence to:
Gilbert Kirby Stringer LLP
145 King Street West, Suite 1920
Toronto, Ontario M5H 1J8
Fax: 416-363-1379 / Email: email@example.com
Insurance Litigator – Accident Benets
We are looking for a highly motivated individual with at least two years accident benet litigation
and arbitration experience (preferably defense) to join our growing legal department. Additional
experience with tort and property insurance claims is an asset.
We offer a generous compensation and benets package commensurate with experience. Please
forward your resume and cover letter by email in condence to the attention of Mark Fonseca,
Assistant Vice President, Legal Services at mark.fonseca@UnicaInsurance.com.