In the continuing Canadian Taxes A to Z 2018 odyssey, I'm like the marathon runner who is past the half way point on the course. 14 letters down, 12 to go! I promise to keep up the pace, and finish prior to tax deadline time. Today, M is for Marginal Tax Rate.
MARGINAL TAX RATES LEAD TO TAKE HOME INCOME
To know your marginal tax rate is to know how many cents of every dollar you make will stay in your pocket if you continue to earn more income throughout the year. The reason we don't just use the term "tax rate" without the word "marginal" is because we don't use a flat tax system in Canada (nor does any country with a "progressive" tax system).
Marginal tax rate is the percentage rate that will be applied to the next dollar you earn. To take Ontario as an example, your combined federal and provincial tax rate on the first $42,960 you earn is 20.05%. That doesn't mean you'll necessarily lose that much of your income, since you'll be entitled to various deductions, but the "margin" bump up to the next tax bracket (24.15%) happens when you earn more than $42,960.
The top bracket in Ontario of 53.53% kicks in at over $220,000 in net income (there are several in between brackets). Meaning you get to keep just slightly more than 46 cents of every dollar you earn.
A lot of countries now try to keep their top marginal rates under 50%, since they saw that income tax rates which used to range up to about 80% at the top end simply encouraged a flight of the wealthy (and their capital) to lower tax jurisdictions.
TOP PROVINCIAL TAX BRACKETS SIMILAR BUT KICK IN AT DIFFERENT TIMES
Other provinces have different rates at different marginal brackets. The finishing top marginal tax rates tend to be somewhat similar among the provinces, but may kick in much sooner (or later) than in Ontario.
In Quebec, on the first $43,055 of income you pay at a rate of 27.53% (almost 50% higher than in Ontario). The top marginal rate of 53.31% is very similar to Ontario's top rate, but kicks in at $205,842 in income, sooner than Ontario's top marginal rate.
By comparison, in Alberta, on the first $46,605 you pay at a rate of 25%, meaning for lower income earners Alberta actually taxes you more than in Ontario! But the high end tax bracket for Alberta doesn't max out until you hit $307,547 in income, and then at a rate of only 48%. Meaning Alberta taxes the poor more, and the rich less than in Ontario.
HOW TAX POLICY FAVOURS PASSIVE OVER ACTIVE INCOME
The other thing to know about marginal tax rates in Canada is that you only pay tax on capital gains at 50% of the normal rate. So even if you're in the top tax bracket in Ontario, your marginal tax rate for capital gains would only be 26.76%. You'll also get a bit of a tax break on marginal rates for Canadian dividend income.
Some think it unfair that those with active income (from employment or self-employment) pay taxes at a higher rate than those with passive investment gains. But like a lot of things tax, that's just the way it is. Not unlike it being potentially unfair that those whose primary owned residence goes up massively in value pay no tax at all on those capital gains, whereas those who rent get no similar tax break.
Gordon S. Campbell is a tax lawyer practicing throughout Canada who has argued tax cases as high as the Supreme Court of Canada. Learn more at acmlawfirm.ca/taxlaw.