Policy paper examines potential benefit of focusing on compliance gap amid pandemic-fuelled surge in federal spending
As Canada’s massive federal spending on emergency pandemic measures threatens to cast a long economic shadow, several tax policy proposals have been advanced on how the government can reasonably replenish its coffers.
But even before the country can consider the merits of a wealth tax, a consumption tax, or a tax on digital services, a new paper from C.D. Howe argues that the Canada Revenue Agency should focus on measuring and closing a crucial tax gap.
Citing recent research from the U.S., authors Pierre-Pascal Gendron and Richard M. Bird noted that simply strengthening the administrative effectiveness of the existing tax structure could reduce the country’s tax gap – “owed taxes” worth an estimated 17.5% of actual U.S. revenues – and raise up to US$1 trillion in additional taxes over the next decade.
While there’s no simple common understanding of the term “tax gap” in the literature, Gendron and Bird asserted that the best measure to use is the “compliance gap.” They pointed to a definition from the Canada Revenue Agency, which in 2016 defined the tax gap as “the difference between the taxes that would be paid if all obligations were fully met in all instances and the tax actually paid and collected.”
Explaining that tax gap estimates are usually made for particular taxes – the corporate income tax, the personal income tax, and GST/HST, for example – the authors stressed that the reliability of such estimates depends on multiple factors including the availability and quality of data, timeliness in publishing the findings of audits, and the interpretation of figures.
And while many countries have already come out with official tax gap estimates by 2017, some are more thorough than others, they added. In the CRA’s case, it has produced tax gap estimates and separate reports for the GST/HST, the federal personal income tax, the federal corporate income tax, and the excise tax on cigarettes.
Based on estimates released by the CRA in 2014, Gendron and Bird estimated the total tax gap for that year should reasonably fall between $14 billion and $18.2 billion in 2014 dollars, representing anywhere from 6.4% and 8.3% of actual total tax revenues, which was approximately $218.5 billion. Extrapolating the dollar tax gap to 2019/2020, when total actual revenues for taxes that had tax gap estimates was $264.5 billion, they placed the total tax gap for the year between $16.9 billion and $22.0 billion.
However, the two stressed that the tax gap can never be fully eliminated in practice, as experience around the world indicates that raising revenue by reducing compliance gaps is “a more difficult, longer and more resource-intensive task than most people seem to understand.” In Canada’s case, they estimated that putting additional administrative resources and effort into the exercise would only lead to a revenue increase of $3 billion a year, or a “highly improbable $5 billion” a year at most.
“[N]o matter how much the administration of the existing law can and should be improved, it alone is most unlikely to resolve the eventual revenue crunch if expenditures are to be maintained, let alone further expanded,” Gendron and Bird said. “Unless a substantial increase in growth occurs to shore up revenues, some changes in tax policy are also likely to be needed.”