Nova Scotia’s welfare trap

Who do you think pays the highest tax rates in Nova Scotia? Those earning over $80,000? Over $100,000? Over $250,000? It’s none of the above. In fact, the highest marginal tax rate in Nova Scotia falls on poor families with kids when those families struggle to move off welfare and into paid work. Such families with a single wage earner pay marginal rates in excess of 100 percent on income between $13,187, where federal and provincial income taxes kick in, and the level at which welfare clawbacks ends.

Paying a marginal tax rate of over 100 percent, of course, means that such families literally make themselves worse off by working. Every dollar the sole wage earner in a Nova Scotia family of four earns between $13,187 and $17,983 results in a drop in take-home pay of around 15 cents. Such a family earning exactly $13,187 must receive a pay increase of at least $4,796 before its income rises by a single penny.

How does this happen? Because of the way the welfare and tax systems conspire together to trap poor people on social assistance. Basically, for every dollar of income earned by working, families on social assistance lose 75 cents of welfare benefit. Income taxes start at absurdly low levels of taxable income: $13,187. Cross the $13,187 dollar threshold, which is roughly what someone might be earning on minimum wage, income taxes and EI and CPP premiums are taking a bite out of your take home pay. And the government starts to claw back other benefits, like your GST credit and your Canada Child Tax Benefit.

Add these taxes and benefit clawbacks together, and someone earning $14,000 as the sole wage earner for a family of four, actually loses just over 15 cents of take home pay for every extra dollar of wages earned. At $16,000, the loss is just under 15 cents. It’s only when their income passes the threshold of around $21,000 that their marginal tax rate falls to a more “normal” 39.8 percent or so.

This is about the most perverse social policy one can imagine. Statistics Canada data are very clear: the most effective way for people to escape low income and make themselves better off is not for the government to raise welfare rates. It is for people on low incomes to get into the labour force and work more hours. Even if wages are initially low, people quickly improve their situation because low wages are merely the first rung on a ladder that leads to higher wages as people establish the skills and discipline that make them valuable employees.

But when people try to escape welfare by working they face this huge barrier of perverse incentives in the tax and benefits system. Because the system literally leaves people worse off by working over this crucial income range (the first steps off welfare and into paid work), it literally rewards people not to work. This is what’s known as the welfare trap, and there is a great deal of research that establishes that these barriers do in fact discourage people from working as much as they could.

Fortunately, it is now possible to change this perverse system, to reward low-income people for working, and yet not have it cost provincial taxpayers a dime.

That’s because the federal government is upping its payments to low income families with children under the National Child Benefit. In this province alone, the feds will send around $71.8-million to low-income families with children between 1998 and 2004.

Ottawa has invited the provinces to lower their provincial welfare payments by the same amount as these new payments, thus leaving the incomes of welfare recipients with children unchanged. Ottawa wants the provinces then to devote that money to innovative programs to help families with children out of poverty.

One way we could do that would be to take the savings generated by Ottawa’s NCB money, and devote it to a $2000 per-child exemption under the provincial income tax system. While such an exemption would not make the welfare trap disappear, it would substantially lower the depth of the trap, by largely eliminating provincial income tax on low-income families with children. Details are available at

Such a reform of the tax and benefits system would mean that people would have more incentive to work whenever possible, and that more children would learn from the example of their parents the value of work. That’s good social policy and good economic policy too.