Citizens want the government’s hand out of their pocket.
The often-stated certainties of death and taxes may not be quite so straightforward, at least in today’s economy. In Canada, taxes are increasingly being avoided. How so?
Economists estimate the size of Canada’s underground economy might be as much as $200 billion. If they’re right, this represents approximately 20 percent of the country’s gross domestic product (GDP) – nearly as much as the GDP of Portugal, Norway, or Denmark.
Academics who track this information report that American underground activity is increasing at 5.6 percent. If the same holds true in Canada, then this cash market is growing at almost twice the rate of Canada’s GDP.
Why are more Canadians evading taxes? I would suggest it is a self-inflicted wound by our federal and provincial governments because of their increasing desire to keep their hand in the taxpayer’s pocket.
Economic research by the Fraser Institute indicates that between 1976 and 1995, the tax burden on Canadians increased significantly. Taxes such as the much-loathed federal GST – and the Liberal government’s failure to keep its promise to remove it – are one reason for the exponential growth in Canada’s underground economy.
As well, the increasing transparency in government spending is jading the taxpayers’ sense of moral obligation because it diverts more dollars to the politicians. Expenditures in the billions, such as those incurred by the unpopular gun-control legislation and the federal government’s sponsorship scandals, provide justification for small businesses to participate in this growing cash economy.
Fuelling the underground economy even further is the fact that a majority of Canadian business is transacted by small and medium enterprises (SMEs). A small firm with only two or three employees is, in most provinces, subject to at least 42 statutes that require compliance. In many cases, failure to comply with the regulations results in the levying of significant financial sanctions by the government. The collection of GST for the federal government, and remittance of payments to the Workers’ Compensation Board, Canada Pension Plan, Employment Insurance (EI) and other statutory requirements to comply with 38 other pieces of legislation consume just too much non-billable time for the small-business owner.
Accordingly, it is understandable that small firms engaging the services of an office cleaner, carpenter or gardener often participate in this cash economy. Both parties are quite content to set an adjusted price in consideration of not having to spend half a day completing and filing reports and returns.
Entrepreneur Arjan Asnani, president of Prima Impex Ltd., points out that most small operators already have their hands full doing business. He is leading a small team of four that leverages his family connections to India to import a range of textile products for Canadian corporations such as the Bay and Zellers.
“Most small businesses are skinny on the ground. I do it all. I empty the garbage, do the accounting and the marketing. At the end of the day, I have little energy left to fill out government forms and file the reports and returns they demand. They do not pay me for my time. I do it reluctantly.”
The growth of online commerce is exacerbating the situation. For example, there were more than 40 million regular users of eBay in 2003, up from 23 million in 2002. eBay’s legal position is that the sellers are responsible for paying taxes. Intuitively, I suspect that few of the millions of Canadian eBay sellers report these transactions and remit taxes.
It is unfortunate that governments have created this tax-evasion environment. This myopic view will result in a growing number of Canadians not participating in the nation’s social safety nets. In the decades ahead, participants in this underground economy will become a significant problem as they retire from the workplace with little income. If economists are correct that up to 20 percent of the income generated in Canada is unreported, then one can conclude that Canadians paying taxes are contributing 20 percent more than their fair share.
So how can Canada stop the exponential growth in this cash economy? A number of European countries have adopted a flat tax system. The concept emerged in the American presidential elections as a platform issue. It has yet to be adopted by the Americans but imagine for a moment that they did adopt a 15-per-cent flat tax. The economic sucking sound of Canadians moving south would be deafening.
Asnani welcomes the idea. “To reduce my non-productive record-keeping would be wonderful. What value is added to the Canadian economy by accountants filling out forms and finding creative deductions, and then government workers reviewing them? Spend the money producing something of value for Canadians. Even growing potatoes with the funds would be money better spent.”
Canadians do not have to look abroad to see the success of this concept. We only have to watch Alberta’s government. Alberta led the way by successfully implementing a flat tax system (10.5 percent) that collapsed multiple tax rates into a single marginal lower tax rate. They have provided fatigued taxpayers with the same rate of income tax regardless of how much they earn. They have cut out many of the deductions, exemptions, exclusions and various tax credits in favour of a simplistic tax system.
This tax system frees the government of high administrative costs, reduces non-productive accounting records and reporting, and encourages small businesses and individuals to once again join the mainstream economy. By broadening its tax base with lower tax rates, there will be less economic incentive to go underground in Alberta.
Asnani said he is considering moving his business to Alberta to capitalize on the tax breaks, which he says will make his small firm more competitive in the global marketplace. “The provincial government seems to me to be interested in and supportive of small business.”
Canada’s underground economy must be harnessed and brought into the mainstream. Government must adopt new mental models and consider innovative solutions such as the flat tax success in Alberta.
Government must immediately eliminate the heavy administrative burden they continue to layer on Canadian small businesses.
Note: This article was originally published in 2005.
