• Equalization is the Government of Canada’s most important program for reducing fiscal disparities among provinces. Equalization payments enable less prosperous provincial governments to provide their residents with public services that are reasonably comparable to those in other provinces, at reasonably comparable levels of taxation.

• The purpose of the program was entrenched in the Canadian Constitution in 1982:

"Parliament and the government of Canada are committed to the principle of making Equalization payments to ensure that provincial governments have sufficient revenues to provide reasonably comparable levels of public services at reasonably comparable levels of taxation." (Subsection 36(2) of the Constitution Act, 1982)

• Equalization payments are unconditional – receiving provinces are free to spend the funds on public services according to their own priorities.

Equalization Framework

• In October 2004, the Government of Canada announced a new framework for Equalization following two meetings of First Ministers. As a result of this announcement, a number of important changes occurred:

• Normal formula-based calculations of provincial entitlements were suspended, provincial payment shares for 2004-05 were fixed on the basis of historical data, and an interim formula was used to allocate payments for 2005-06.

• A new financial "framework" for Equalization was legislated, and overall payments were increased by $2 billion to $10.9 billion for 2005-06. This amount is legislated to grow at 3.5 per cent in each subsequent year.

• A review of the Equalization program by an independent Expert Panel was announced. The Panel will submit its report in Spring 2006.

• Following consideration of the report of the Expert Panel and consultations with provinces, a new allocation formula will be introduced for 2007-08 and beyond.

Equalization Payments for 2006-07

• Equalization allocations to provinces for 2006-07 were announced by the previous government in November 2005 but were not legislated.

• Budget 2006 proposes that more current economic and fiscal data be used to determine 2006-07 Equalization payments.

• For those provinces where there is a decline from the amount they had been advised of in November 2005, a one-time adjustment will be made to offset this decline.

Calculation of Equalization Payments before the New Framework

• Prior to the introduction of the New Framework, Equalization payments were calculated according to a formula set out in federal legislation and regulations. Provinces with revenue raising ability, or fiscal capacity, below a threshold or standard amount received Equalization payments from the Government of Canada to bring their capacity up to that standard:

• The fiscal capacity of a province is a measure of its ability to raise revenues from each of 33 revenue sources – including personal income tax, corporate income tax, sales taxes, property tax, and other sources – assuming that province levies average tax rates.

• The standard measured the average fiscal capacity of the five "middle income" provinces – Quebec, Ontario, Manitoba, Saskatchewan and British Columbia.

• Equalization payments were also subject to a "floor" provision, which protected individual provinces against any large year-to-year declines in payments.

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