Governments finance the goods and services that they provide in various ways, including through taxing, investing and borrowing activities.
The first of these activities – taxation – can take several forms. In Canada, sources of funds that help to finance federal initiatives include personal income taxes, corporate income taxes, consumption taxes and social security contributions.
This HillNote provides information about the revenue, rates and rationale relating to federal personal income taxes in Canada. Other HillNotes discuss corporate income taxes, consumption taxes and social security contributions.
Revenue
Figure 1 shows that, in 2019–2020, personal income tax revenue totalled $167.6 billion and represented 41.3% of total federal tax revenue and social security contributions.
Figure 1 – Federal Tax Revenue and Social Security Contributions, 2019–2020 ($ billions)
Notes: “Social security contributions” are Canada Pension Plan and Quebec Pension Plan (CPP and QPP) contributions, and Employment Insurance premiums. The QPP operates exclusively in Quebec, with the CPP operating in the rest of Canada. For the purposes of this figure, QPP contributions are combined with contributions to the CPP, giving rise to the term “federal.”
“Consumption taxes” are the Goods and Services Tax, the Harmonized Sales Tax, energy taxes, customs import duties, other excise taxes and duties, and fuel charges.
“Other taxes and revenue” are non-resident income taxes, revenue from federal enterprise Crown corporations and similar entities, net foreign exchange revenue and revenue from other programs.
Sources: Figure prepared by Nathalie Pothier, Library of Parliament using data obtained from: Statistics Canada, “Table 10-10-0015-01: Statement of government operations and balance sheet, government finance statistics (x1,000,000),” Database, accessed on 16 February 2021; and Receiver General for Canada, Public Accounts of Canada 2020, Volume 1, 2020.
As shown in Figure 2, as a percentage of gross domestic product, Canada’s personal income tax revenue in 2018 was higher than the average for Organisation for Economic Co‑operation and Development (OECD) countries and the highest among the Group of Seven, or G7, countries.
Figure 2 – Revenue from Personal Income Tax, and Other Taxes and Contributions, as a Percentage of Gross Domestic Product, All Levels of Government, Selected Countries, 2018
Note: “Other taxes and contributions” includes corporate income taxes, social security contributions, payroll and workforce taxes, property taxes, taxes on goods and services, and other taxes.
Source: Figure prepared by Nathalie Pothier, Library of Parliament using data obtained from Organisation for Economic Co-operation and Development (OECD), “Revenue Statistics – OECD Countries: Comparative Tables,” Database, accessed on 30 March 2021.
Rates
Over time, the number of federal personal income tax brackets, each bracket’s income thresholds and the tax rates applicable to those brackets have changed. Figure 3 shows changes in the number of personal income tax brackets and their respective rates since 1987.
Figure 3 – Personal Income Tax Brackets and Rates in Canada, 1987–2021
Note: The personal income tax brackets and rates have been unchanged since 2016.
Source: Figure prepared by the Library of Parliament using data obtained from Canada Revenue Agency, Tax packages for all years.
Federal personal income tax rates for the 2021 taxation year are:
- 15.0% on the first $49,020.00 of taxable income;
- 20.5% on taxable income between $49,020.01 and $98,040.00;
- 26.0% on taxable income between $98,040.01 and $151,978.00;
- 29.0% on taxable income between $151,978.01 and $216,511.00; and
- 33.0% on taxable income exceeding $216,511.00.
The income thresholds for tax brackets, as well as certain other amounts within the personal income tax system, are indexed to inflation every year.
In Canada, various sources of domestic and foreign income are taxed, although individuals can claim a tax credit for taxes paid in foreign countries. Taxable income includes income from employment or self-employment, pensions, rental properties, royalties, financial investments and numerous government benefits; some of these benefits relate to Government of Canada COVID-19–related payments. Certain other sources of income are not taxed, such as most lottery winnings, gifts, inheritances, and selected life insurance and government benefits.
Unlike in some other countries, in Canada, personal income taxes are generally calculated based on individual – rather than family – income. While Indigenous peoples in Canada are subject to the same income tax rules as other residents of Canada, some individuals who are a Status First Nation might qualify for specific tax exemptions outlined in Section 87 of the Indian Act. From a personal income tax perspective, these exemptions apply to income earned on a reserve or that is considered to be earned on a reserve.
Taxpayers are entitled to earn income tax-free up to a defined amount known as the basic personal amount, and those aged 65 and older can also claim the age amount if their income does not exceed a specific amount. Moreover, taxpayers may claim an amount for a spouse, common-law partner or eligible dependant. This amount, which is equal in value to the basic personal amount, is reduced on a dollar-for-dollar basis by the net income of the spouse, common-law partner or dependant.
As well, the personal income tax system contains credits and deductions that recognize a variety of personal expenses that may be incurred during the year. These expenses include certain costs relating to child care; employment; medical expenses; union dues; contributions to pension plans and the Employment Insurance program; and charitable donations. As well, credits and deductions are available for various individuals, including some Canadians who have disabilities; volunteer firefighters and search-and-rescue volunteers; and Northern residents.
Since 2007, spouses or common-law partners can split their eligible pension income, with up to 50.0% of that income allocated to the spouse or common-law partner with the lower income.
The federal dividend tax credit can be claimed by investors to reduce income taxes payable on the dividends that they receive from taxable Canadian corporations.
Finally, since 1972, capital gains – which occur when an asset’s sale price exceeds its purchase price – have been taxed. Since 18 October 2000, 50.0% of this capital gain has been taxed; this rate has varied over time.
Rationale
Through the Income War Tax Act, Canada’s federal government first imposed a tax on personal income in 1917 to finance participation in the First World War. Previously, almost all federal revenue had been derived from tariffs, excise taxes and revenue from postal services.
The personal income tax system is one policy instrument that governments use to redistribute income among tax filers. In theory, that system could affect decisions that individuals make about the quantity of labour they supply and the amount of money they save or spend.
Regarding labour supply decisions, an increase in personal income tax rates might change the number of hours that individuals decide to work. For example, individuals might work more to compensate for the lower amount of take-home pay. Alternatively, they might work less because the lower amount of take-home pay might lead them to prefer non-work activities. That said, the number of work hours might be decided by employers or a collective agreement, rather than by employees.
Similarly, changes in personal income tax rates might lead individuals to change their saving and spending decisions. For instance, when these rates rise, individuals might save more to compensate for the lower after-tax rate of return on their income-producing investments. Alternatively, they might save less because the reduced amount of after-tax investment income might lead them to spend now rather than save for later consumption. However, individuals might not change their saving and spending decisions when personal income tax rates rise. For example, these decisions may be based on a desire to maintain a lifestyle that is similar to that of their peers.
Empirical studies have not demonstrated a consistent and significant general relationship between labour supply and saving and spending decisions on one hand, and the personal income tax system on the other hand.
Related Resources
Department of Finance Canada, “Gender-Based Analysis Plus of Existing Federal Personal Income Tax Measures,” Report on Federal Tax Expenditures – Concepts, Estimates and Evaluations 2019, 28 February 2019.
Office of the Parliamentary Budget Officer, Ready Reckoner.
Organisation for Economic Co-operation and Development, Taxing Wages 2021, OECD Publishing, Paris, 2021.
Authors: Simon Richards and Brett Stuckey, Library of Parliament
Categories: Economics and finance