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The ONW Salon:

Susanna Kelley (ONW Moderator):  The federal Liberal plan to close tax loopholes has been generating a lot of heat from small business owners, lawyers, accountants and doctors who don't like the proposal. Is it a fair plan?

 



RichardMahoney:

Our moderator, and ONW supremo Susanna Kelley, asks the right question about the Liberal government's proposals to adjust some of the tax benefits now enjoyed by incorporated small businesses in Canada:  Is it a fair plan?

By that measure, surely the answer is a resounding yes. Finance Minister Bill Morneau and the Department of Finance have argued for some time that similarly situated taxpayers should be treated similarly. And they are right.

A little bit of background here: small businesses, and all corporations in Canada, are taxed at a different, and usually significantly lower rate, than individuals. Small businesses themselves pay a lower rate than larger corporations. What this has lead to is a huge increase in the number of individuals who have incorporated in order to take the income from their work in the company, rather than personally.

There are lots of benefits to incorporation. But the tax benefits these proposals attempt to level are two-fold. Let's use an example to illustrate. Let's say I am a doctor in private practise and my neighbour is a doctor working for a community health centre or a hospital as a salaried employee.

We make the same amount of money in our two jobs. If we make the same income, shouldn’t we be treated similarly by the tax system? That is what the government is trying to do. There are two tax benefits or perks to incorporation that these proposals try to reduce or eliminate. The first is that as long as I leave my income in the incorporation, and invest it, I will be taxed at a lower rate than my neighbour. It is only when I take it out later and pay myself that I will be taxed at the higher personal rate (the rate everyone else pays, the rate my neighbour pays). So I can defer or delay paying tax, which gives me a tax advantage over my neighbour.

Secondly, I can take that income and "sprinkle" it via dividends or otherwise to family members who might not have income, or have less income than I do, so I ensure that that income is taxed at a lower rate. There again, I have a tax benefit over my neighbour who does not have that option.

All the federal proposals try to do is to make things fairer and ensure that I pay the same tax as my neighbour. Doesn't that sound like a fair plan?  

 

John Capobianco:

Like most of you, I am still in shock summer is (unofficially) over given that it wasn’t the best weather-wise, but the good news is that politics and this Salon are back in the thick of it!

The topic today is an interesting start to the season. This is one of those policy issues that can come and bite a government in the rear end.

We all know the type - the government truly believes that they are on the side of righteousness and thinks it is doing everyone a huge favour, but in reality it hits a country during a sleepy summer and all of a sudden someone, some groups and some organizations catch on and start questioning what is really going on. And that has happened in spades!

The Minister started off with a benign reason for doing this - in his words he was simply “proposing solutions to close loopholes and deal with tax planning strategies that involve the use of private corporations."  These are words that would matter to some folks but not to many others. But the challenge facing the government is that the one group that does have a problem with this is the heart and soul of our economy – small business (and incorporated professionals).

The government is proposing changes to three areas that were identified in the recent budget: 1. Sprinkling income using private corporations; 2. Holding a passive investment portfolio inside a private corporation; and 3. Converting a private corporation’s regular income into capital gains.

Some of the more vocal groups have issues with all three but many small business are complaining loudly about the last one, suggesting that this will be a disincentive for investments in businesses which would use that money to reinvest and create more jobs.

The potential unintended consequence of these proposed changes can have a devastating effect on young people wanting to start businesses, families finding doctors and so on. That is why there is significant uproar with what Minister Morneau is proposing

 

Tom Parkin:

On "income sprinkling" it’s a pinch of misdirection and a dash of rope-a-dope.

Back on July 18, Finance Minister Morneau announced “new rules” - presumably regulations - to address the tax planning strategy known as "income sprinkling."  And for the last six weeks, as many economists and pundits have noted, Morneau stood back, failing to make his case for the rules until the Conservatives had built up a good hysteria.

What could be the reason for this? Politics.

In the income sprinkling issue, the Liberals have picked out one of the smaller "tax planning" offences against fairness - and are loving it that the Conservatives are making it into a big deal.

In the tax department, the Liberals have lost a lot of lustre with progressive voters.  Remember, Morneau broke the Liberal campaign promise to eliminate the stock option tax deduction that allow CEOs and others paid with options to pay tax on just half their income. And this is a Finance Minister who promised a "middle class" tax cut - but then sponsored a tax cut that gave the biggest benefit to someone with an after-deductions income of between $90,000 and $200,000. This is a Finance Minister who’s done little to crack down on Canada’s super elite using so-called tax planning in tax havens.

Morneau’s small gambit is misdirection from all those disappointments to progressive voters. Suddenly, the Conservatives are turning him into a fair tax hero again - a fighter for the little guy. Progressive swoon ensues. All forgiven.

The Conservatives - like almost always - fall for this guff. They have to because of triangulation. The Liberals go after the income sprinklers who fire up the anti-tax lobby groups who lean on the Conservatives who lose their strategic minds. Once again, the Conservatives’ stereotype as the party of unfair taxation is strengthened. Bravo!

Here’s the rope-a-dope. This flurry of political relevance for a party whose new leader has failed to excite feels really good. It feels like winning. It’s not. It’s the Liberals leaning back. And as the Conservatives lean in they’ll take this to irreversible rhetorical heights.

This theatre ends in one of two ways: either the Liberals bury the Conservatives under the weight of reports by independent economists or they, after consultation, back off. Or maybe both.

Or here’s a thumper: Justin Trudeau jumps into the ring and gives a knockout performance. He reminds Canadians how he himself used incorporation for "tax planning" reasons tax while earning $400,000 a year as a speaker. He’s very sorry about it now, it’s terribly unequal and unfair and it all needs to stop.

Because remember - as Gerald Butts told Steve Bannon - “there’s nothing better for a populist than a rich guy raising taxes on rich guys.”

 

Richard Mahoney:

If only Tom's impressive rant had something to do with our topic today. But I understand why he does so. The NDP leadership race has not stirred many souls over the summer and the Prime MInister's continued popularity, and the impressive growth in the economy, further scratches the NDP itch.

That said, and back to the proposals - these advantages are now perfectly legal, and therefore many professionals understandably use them if they are in a position to do so. But that does not make it right, or fair. The principle is treating similarly situated taxpayers in a similar fashion. The tax system can be complex, but these proposals find a way to remove the tax advantage that serve no public policy purpose, as I hope my example above of the two doctors demonstrates.

I agree with John on two important points he made above. First, that this proposal has generated controversy for the government and MPs are feeling the heat as those impacted object. After all, those who shelter and sprinkle income will be directly affected, and will complain, and those who do not are less likely to even know about the change, since their tax bite will not change. It will be fairer to them, but it is not like they will get a tax break from the new, fairer system.

Secondly, the proposals are designed to take away the unfair tax planning advantage that has evolved - there has been an explosion in the number of small business incorporations over the last decade or two and this advantage is one of the reasons for that.

I think the Minister will want to be sensitive, and likely will be sensitive, to the suggestion that these changes discourage investment, These proposed changes should not do so, and I don’t think they will but I predict the government will pay close attention to the debate and will take measures to ensure that these changes do not discourage legitimate investment creating new economic activity, but rather simply reduce and remove the tax planning advantages that are available to some.

It is a courageous move to take this on, and it will be interesting to see how the debate goes.  

 

John Capobianco:

I do hope Richard is right about the government listening to what is being said and has been said over the course of the last month and a half when the Minister embarked on his "listening tour." According to some reports, he seems committed to the proposed changes of the three areas touched upon above, but he did say that he would pay attention to any "technical' discrepancies" or issues that come up during the consultations which are still going on.

Look, notwithstanding Tom's rant, which is amusing but highly cynical, governments have always tried to tinker with corporate taxes. Some have tried at the personal level to their political demise, but there will always be those in Finance who truly believe that loopholes are bad and taxes are incredibly unfair.

So I get that this new government and this new Finance Minister will want to try their hand at "fixing" or "levelling" corporate taxes, however, it needs to be done with a specific mission in mind and I am not sure they have one in these proposed changes. They need to hear what is going on and ensure that their mission should always be in favour of creating more jobs, not jeopardizing them.

 

Tom Parkin:

Address the issue, Richard. Condescension isn’t an argument. John, I have learned with the party of the snitch line nothing is too cynical. So let’s talk about actual tax fairness.

I’ve already mentioned the CEO stock option deduction that you both agree on keeping. Even more unfair than that are laws that allow wealthy Canadians to put money into offshore tax havens and avoid billions in taxes. Statistics Canada reported that in 2015, Canadians individuals and corporations had stashed away about $200 billion in foreign tax havens, which saves them an estimated $8 billion a year in taxes. That’s $8 billion more that is paid by individuals and Canadians who don’t use tax havens. At $80 billion in 2015, Canadian individuals and corporations have more foreign "investment" in Barbados than in China, Japan and Australia combined. At $49 billion in 2015, investment in Cayman Islands is more than that in France, Germany, Italy or Japan. These funds are sheltered legally because Canadian tax law, supported by both Liberals and Conservatives, allows it.

While "income sprinkling" is wrong and needs to be addressed, the real story is Ottawa politicians’ lack of courage and commitment to tax fairness.

 

Richard Mahoney is a lawyer with deep experience in politics and governance.  He is a former senior advisor to the Rt. Hon Paul Martin, a former Campaign Chair and President of the Ontario Liberal Party. John Capobianco is a Senior Partner and National Public Affairs Lead at FleishmanHillard. He has been a Conservative strategist with over 30 years of political activism at all three levels, including as a former federal Conservative candidate. Tom Parkin is a veteran NDP strategist and a frequent commentator on national issues. 

 

 

Posted date : September 07, 2017
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