Automatic Tax Filing: A Challenging Idea for Canada

In Canada, most government cash benefit payments require recipients to file a tax return. Individuals who fail to participate in the tax system, often the most vulnerable in society, may forgo important government benefits (or even entitlements to government services when such services are tied to tax return information). The September 2020 Speech from the Throne committed the federal government to “work to introduce free, automatic tax filing for simple returns to ensure citizens receive the benefits they need.”<br><br>This Commentary first describes various levels of possible filing automation. First of all, some countries do not require tax filing at all for people in simple tax situations, particularly employees for whom tax withheld at source by the employer and remitted to the tax authority is adjusted throughout the year such that the total amount withheld at the end of the year corresponds to the exact tax liability. Individuals facing a more complicated tax situation, or eligible for additional tax relief, must often file a tax return. In other countries, particularly in Scandinavia, tax filing is quasi-automatic: eligible taxpayers with basic sources of income receive prepopulated tax forms with their tax liabilities already computed by the tax authority; taxpayers need only verify the prefilled information for accuracy.<br><br>The completeness of prepopulated tax forms and the accuracy of computations prefilled by the tax authorities depend on the complexity of filers’ tax situations. The greater the number of taxpayers with basic tax returns, the more practical it would be to fully automate tax filing. Provided the Canada Revenue Agency obtains reliable basic personal information on tax filers, we estimate that only one in three potential tax filers would have a “basic” tax return – i.e., a tax return for which the CRA would already receive sufficient information from third parties to accurately compute taxes and benefits.<br><br>Therefore, we argue that the Canadian tax code contains too many deductions and credits recognizing specific personal circumstances, expenses, or activities to make a widely available, fully automatic filing system practical. On balance, the current self-assessment with Auto-Fill by the CRA is well adapted to Canada’s complex tax system, and making it more automatic would require a fundamental simplification of the underlying tax system.<br><br>The Commentary concludes that fully automatic filing for all is a blunt instrument to get to the narrower problem of non-filing eligible benefit recipients. We estimate that about 4.2 percent of potential tax filers – or more than 1 million people – do not participate in the tax system, but likely should. More targeted strategies to reach these people are preferable, such as decoupling the requirement to file a tax return from eligibility to receive benefits. Despite practical challenges, establishing a new body specifically tasked with delivering income-tested benefits to Canadians could make this possible, better serving the poverty-reduction objectives of government support programs that are now tied to tax filing.