Ontario’s tax system hurts marginal earnings of low-income individuals

by Jessica Rapson

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  • In Ontario, the increase in taxes and decrease in benefits that follow from an income increase substantially depress marginal earnings for low earners, reducing additional income gains by 70% to over 100%
  • These low marginal earnings may disincentivize individual efforts to increase income at lower earning levels
  • A lack of coordination between federal and provincial taxation policies and benefit programs may be responsible

Low-income earners in Ontario are eligible for a range of federal and provincial benefits intended to help those in financial need. For example, the Canada Workers Benefit (CWB) is intended to improve work incentives and supplement the earnings of low-income workers, while the Ontario sales tax credit (OSTC) rebates some of the sales tax paid by low to moderate income earners. 

While, these benefits are intended to provide support to low earners, the degree at which they are phased out as income increases, in combination with increasing required contributions to Employment Insurance (EI) and the Canadian Pension Plan (CPP), appears to have the unintended consequence that earning more money can yield low earners a lower percentage of their gross income than the same increase in income for high-earners. Furthermore, there is evidence of several instances where earning additional income actually decreases the net income of low earners.

These perverse consequences likely result from a lack of coordination between taxation policies and benefit programs, whose effects combine together to depress marginal income increases for low earners. To give an example, if a single earner with no young dependents who earns $14,000 a year in gross income — which is well below the poverty line — makes an additional $1,000 from their job, they lose a portion of their previous government benefits such as the CWB, the HST credit, and Ontario Works. In addition, this individual would also be required to contribute more to CPP and EI, while also paying a portion of their income in federal taxes. These losses of benefits and additional taxes add up to total approximately 80% of the additional $1,000 they just earned, meaning that their effort to increase their income by $1,000 only amounts to a $200 increase in net income. An individual in similar living circumstances who makes $100,000 a year gets to keep $566 of every $1,000 increase to their gross income.

Such effects are substantially worse for low earners with young dependents due to rapid decreases in childcare benefits that are enacted as income increases. For example, a married family that earns just $32,000 in gross income and consists of only one earner and four young dependents would actually lose money if they increased their gross income by $1,000. Specifically, this family would lose 117% of the $1,000 they earned, resulting in their net income decreasing by $177 from what it was before they increased their earnings. If the same family was making $100,000 a year instead, they would have kept $471 of the $1,000 increase in gross income. These results are depicted in the lower graph, highlighting the peculiar effects on marginal income caused by the combined effect of taxation policies and benefit programs.

Jessica Rapson is a Master of Public Policy student at the Munk School of Global Affairs and Public Policy. She is also a Senior Researcher at the G7/G20 Research Group and Researcher at the Policy, Elections, and Representation Lab. Her research focuses predominantly on environmental, economic, and evidence-based policy. She aspires to work for the Federal Government to help improve the use and collection of data in the public sector.


3 Comments Add yours

  1. Kerim Zhu says:

    Under this system, low income people are not motivated to work hard, but willling to keep poverty; in other hand, rich people have little benefit from marginal earnings only. It is policy failure which is common in many countries. Hence, Government really needs to refresh the mind and figure out a creative way to provide relief to low income individuals but still lead them to be confident and pursue eudemonia in the meanwhile.

  2. Jason Fleming says:

    Great article. I just wanted to add: if a low-income person saves for retirement, using an RRSP, he/she will be similarly punished when they take money out of their RRSP (since it is taxed as ordinary income). I realize that this article was written pre-COVID but I also wanted to mention that any CERB benefits received are taxable. Hopefully people will have enough savings to pay the extra income tax in the 2020 tax year.

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