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Tax Breaks: A Lesson in Foregone Revenue
A new report by B.C.’s Auditor General calls on political decision-makers to pay more attention to all types of government spending – particularly indirect spending that’s actually undertaken via tax policy. In B.C., billions of public dollars are provided every year in tax preferences and incentives to support various policy goals. These tax-based measures, also referred to as tax expenditures, have remained mostly intact over the last 25 years, without much change. This is important to note because without careful analysis, tax expenditures can carry on without considering their effectiveness or if they’re still required.
What Are Tax Expenditures…and Why Do They Matter?
While the principal function of the tax system is to raise revenues to fund government programs, services, and public administration, the tax system is also used to achieve public policy objectives through the application of specific provisions, notably tax expenditures. Tax expenditures are preferential tax rates, exemptions, deductions, deferrals and non-refundable tax credits offered to individuals and corporations in support of policy objectives. For example, ostensibly for environmental reasons, B.C. does not charge provincial sales tax on purchases of bicycles.
Tax expenditures may have benefits, but they come at a cost. Essentially, they represent foregone revenue that the government could collect if it didn’t offer these breaks. They are considered indirect spending (or spending through the tax system), as the government chooses to give up revenue in exchange for measures that are intended to achieve certain policy outcomes (Table 1). In the 2016-2017 fiscal year, tax expenditures in B.C. accounted for over $7 billion. The bicycle example above equated to $23 million in foregone revenue in that year.
Direct Spending and Spending Through the B.C. Tax System:
|Policy Objective||Direct Spending||Tax Expenditures|
|Sales tax exemption for children's clothing
Sales tax exemption for food
Sales tax exemption for prescription drugs
Medical expenses income tax credit
|Economic objectives||Grow BC, Feed BC and Buy BC initiatives
Refundable tax credits for film and television industry
Higher education and skills training
|Lower small business corporate tax rate
School and rural property tax assessment exemption for industrial properties
Non-refundable income tax credits for tuition and education
|Environmental objectives||Forest Carbon Management
Innovation Clean Energy Fund
Caribou Recovery Program
|Sales tax exemption for bicycles
Fuel tax exemption for alternative fuels
*All taxpayers can claim a basic non-refundable tax credit for their income tax, known as the personal amount. This non-refundable tax credit is subtracted off taxable income each year. Each government federally and provincially allows taxpayers to claim a percentage of their non-refundable total tax credits and reduce their taxes payable by that amount. In contrast, refundable tax credits are paid by the government to taxpayers through a series of payments through the year.
Source: Understanding Tax Expenditures, Office of the Auditor General of B.C., October 2018.
Main Examples of Tax Expenditures
In the Budget and Fiscal Plan 2017/18 – 2019/20, three items make up over 58% of the total tax expenditures reported (Figure 1): the provincial sales tax exemption for food purchases ($1.18 billion), the property tax home owner grant ($809 million), and federal personal income tax measures ($2.27 billion). Regarding the latter, British Columbia shares the cost of some federal income tax expenditure programs because under the tax collection agreement between B.C. and Ottawa, the province has agreed to give up policy control of the income tax base in favour of reducing administration and compliance costs and “maintaining a consistent income tax system across the country.”
B.C.'s Tax Expenditures, 2016/17
What’s the issue?
Given the amount of indirect spending that is provided through B.C. tax expenditures, the Auditor General’s report takes issue with the lack of oversight surrounding this entire area of fiscal policy. Currently, most of the spending on tax expenditures goes unexamined. Decision-makers should recognize that when they are voting on the budget, the numbers for program expenses do not include tax expenditures. As it stands, tax expenditures tend to be accepted year after year without much critical analysis.
Direct spending and tax expenditures should be considered together, to allow legislators and others to understand the full suite of costs associated with government policies, programs, and services. Currently, tax expenditures are included in an appendix section of the budget, but they are not counted as part of direct spending in the Estimates section. As a consequence, tax expenditures tend to be overlooked. This is problematic for two reasons:
- Some tax expenditures may be outdated and no longer effective in supporting policy objectives agreed to by legislators, and yet continue to be a drain on government revenues.
- The existence of tax expenditures means that other activities, industry sectors, and types of spending are apt to end up being taxed more heavily, in order to make up for the revenue that the government loses every year from existing tax expenditures.
Political decision-makers should periodically take a fresh look at tax expenditures and ask if each measure continues to make sense. The Legislative Standing Committee on Finance and Government Services is probably the body best placed to do this work. The Committee should undertake a major review of all tax expenditures every three years and publish a public report to shed light on these spending-like measures – which, when added up, represent a significant slice of overall B.C. government expenditures.