Monday, November 5, 2012

The cost to Canadians of pension splitting

We had a lively discussion over Lisa Philipp's paper today, during which a question arose regarding the cost of pension splitting to the budget, i.e., how much does pension splitting cost as a matter of tax expenditure analysis?  Note for non-Canadian readers, the pension splitting issue is as follows: Canada has individual filing only, no joint filing.  But for various reasons, in 2007 Canada introduced what amounts to joint filing with respect to private pension income, i.e., one spouse can deduct and the other include up to half of an annual pension income stream (some restrictions apply)--this is not for a federal pension income but strictly for income generated from private retirement savings.  A ready answer to the TEA question was not immediately found, but I've since had a look at the Tax Expenditures and Evaluations 2011 Report, found the data and made this handy chart:

So we can see that pension income splitting created a $840 million hole in the budget in 2007 and it has increased since then to about $925 million.   In class someone pointed out that pension splitting rule incidentally increased the value of a related tax benefit, namely the pension income credit, i.e., the amount of pension income a taxpayer is allowed tax-free (currently $2,000).  Sure enough the TEA report explains in fn 39: "The introduction of pension income splitting in 2007 increases the number of individuals claiming the Pension Income Credit and thus increases the value of this tax expenditure (i.e. spouses who previously did not have pension income)".  Putting the two pension benefits together yields this:

So we can see the cost of the credit increased by about $110 million in 2007, dropped a bit in 2009 and by 2011 was again about $100 million higher than it was in 2006.  It therefore seems plausible to attribute about $100 million of the credit's cost to the pension splitting rule, bringing the total TEA cost of the latter to about a billion per year.

That is about 0.4% of the total annual budget (which is currently about $245 billion) or about 4% of the annual budgetary deficit (currently about $26 billion).  Not huge perhaps, but not to be dismissed as nothing, either, especially when we know there is scant policy here: this is a straight up tax giveaway for Canadians with private pensions, i.e., higher income retirees.  Political pandering?  A quick scan of the TEA list shows it is in the league, TEA cost-wise, of the working income tax benefit and the medical expense tax benefit.  I am now very curious how many Canadians share the pension splitting benefit, both alone and in comparison to other tax expenditures.  I don't know how to find that though, so will leave the discussion right here.

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