Drive Green: Company Car Tax Shift

Recommendations for Budget 2006

Recommendation Summary
Implement the Green Budget Coalition’s Drive Green: Company Car Tax Shift proposal, modeled on a successful measure introduced in the United Kingdom. This proposal would encourage employees to drive more fuel-efficient company vehicles by shifting some of the tax burden from green cars to gas guzzlers, and is designed to:

  • Reduce vehicle greenhouse gas emissions by one megatonne of CO2 per year,
  • Ensure the federal government incurs no income tax revenue loss, and
  • Avoid the loss of jobs in Canadian automobile assembly plants.

Revenue Change
Under this proposal the federal government incurs no income tax revenue loss.

Benefits for Canadians

  • Achieve reductions in greenhouse gas emissions in Canada,
  • Reduce other air pollutant emissions which cause smog and associated human health impacts,
  • Reduce transportation fuel costs for businesses and employees,
  • Lower domestic barriers to the introduction of economic instruments that have already been adopted in many other parts of the World, and
  • Progress towards a comprehensive, integrated strategy for reducing greenhouse gas emissions in the transportation sector.

Background and Rationale
Under the Kyoto Protocol Canada has committed to a greenhouse gas (GHG) emission reduction target of 6 percent below 1990 levels. Canada’s current greenhouse gas emissions are 32 percent above that target. During the same period emissions from passenger vehicles have grown by about 15 percent.

Canada will only meet its Kyoto targets by employing a full range of integrated emission reduction measures. As such, there is a growing consensus in government and the private sector that we must make greater use of market-based mechanisms, including economic instruments.

Economic Instruments
The Green Budget Coalition’s Drive Green: Company Car Tax Shift proposal is an economic instrument that combines a financial incentive with an accompanying disincentive. Canada trails behind most other OECD countries in the use of economic instruments, particularly financial disincentives. The OECD’s 2004 Environmental Performance Review of Canada states:
The government should make clear that subsidies and tax incentives are tools for use during a transition period only, and that voluntary approaches should be supplemented by more conventional use of regulations (e.g. limits on fuel consumption by cars, promotion of clean fuels) and economic instruments. [p.193]

In recognition of this shortcoming, the Government of Canada outlined, in Budget 2005: Annex 4, the importance of economic instruments in meeting our economic and environmental goals simultaneously. In particular, the government considered the potential for using the tax system to pursue broader government objectives (in addition to its basic role of generating revenue).

One such objective is the correction of “negative environmental externalities”, which occur when an individual or company does not pay the full cost of polluting. Economic markets typically do not account for the external costs of pollution, thus understating the actual costs to society. This is characterized as a “market failure” by economists.

Under certain conditions, government may be able to correct for such market failures by using economic instruments to establish improved price signals that incorporate the true societal cost of pollution.

Many other governments have significant experience with using economic instruments, and fiscal disincentives in particular, to reduce GHG emissions. Several countries, among them Sweden, Norway, and New Zealand, have implemented GHG taxes that embed the social cost of GHG emissions into some or all activities that emit GHG emissions. In addition to these broad economic instruments, governments around the world have also implemented more targeted taxes and subsidies aimed at reducing GHG emissions from particular technologies or processes, and have made changes to tax systems with the same goal.

In the United Kingdom, a successful recent tax change aimed at reducing GHG emissions involves reform of the tax treatment of company cars. The new policy in the UK provides more favourable tax treatment for company cars that produce low GHG emissions.

Recommendation
The Green Budget Coalition proposes the introduction of a Company Car Tax Shift, based on this successful UK measure. This proposal would encourages employees to drive more fuel efficient company vehicles (pick-up trucks are excluded) by shifting some of the tax burden from green cars to gas guzzlers.

Under current tax rules, employees who receive company cars pay additional income tax based on the cost of the vehicle. Under this proposal, employees who drive lower emission company cars would enjoy a tax reduction below the current rate, while those who choose cars with elevated tailpipe emissions would be taxed at an increased rate.

The Company Car Tax Shift is an economic instrument designed to reduce greenhouse gas emissions, lower transportation costs for business and employees, protect jobs, and remain cost effective while also reducing other tailpipe emissions which cause smog.

Projected Impacts
An extensive modeling study of the Company Car Tax Shift was prepared by MK Jaccard and Associates Inc., projecting the proposal’s environmental and economic impacts over the next 15 years. A “base” scenario was modeled using the parameters set out in the following table (a number of alternative policy scenarios were modeled as well).

Overall, the study prepared by MK Jaccard and Associates Inc. shows the following results:

Greenhouse gas emission reductions
The Company Car Tax Shift proposal is expected to reduce GHG emissions by about 0.3 Mt of CO2 by 2010 and by about 1.0 Mt of CO2 annually by 2020.

Government revenue
The policy is almost revenue neutral with respect to federal government income tax revenue. There is a projected revenue surplus of $5 million in 2010 and $6 million in 2020. Overall, the cost of the policy was calculated at $38 per tonne of CO2 reduced by 2020. This loss is associated with reductions in federal fuel excise tax revenue, which is an inevitable impact of any policy to reduce emissions from the passenger transport sector.

Employment
Employment in Canadian automobile manufacturing plants is expected to grow slightly slower under this proposal than under the business-as-usual scenario.

Budget 2005 criteria
Evaluation using the criteria in Budget 2005 shows that the policy is well targeted and environmentally effective for the niche market that it affects. It can be expected to improve economic efficiency since it corrects negative environmental externalities by providing improved price signals. Overall, there are minimal impacts on fairness. Finally, the policy is considered relatively simple, since it only involves changes to existing tax rates, and all institutions and mechanisms required to carry out the policy are already in existence.

Alternative and Complementary Policies
The government could also introduce regulations for the effective reduction of greenhouse gases in the transportation sector.

Contact:
Pierre Sadik, David Suzuki Foundation
613-594-5845

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