Re: MRSB Partner brings tax concerns to Ottawa
MRSB Tax Partner Terry Soloman, CPA, CA, TEP appeared before the House of Commons Standing Committee on Finance on Tuesday, September 26, 2017 in Ottawa to address the federal government’s proposed tax changes. Terry was the sole tax expert to appear at this meeting from Atlantic Canada.
In his address to the committee, Terry outlined several key areas of concern.
These proposals are very damaging to the small businesses clients of MRSB as well as small businesses across Canada. These changes are the most significant tax changes since the Royal Commission in the 1970s and changes of these magnitude need to be done with proper stakeholder engagement. The proposals were also included with rhetoric such as “closing loopholes” and “using corporate structures in order to avoid their share”. The business community finds this type of language offensive and are being made to feel they are some sort of tax cheat even though they are complying with the laws in Canada. The business sector needs to be encouraged because when they have success it creates jobs in our communities.
These proposals actually miss their stated target of the wealthier section of society. People and businesses will be leaving Canada and it will impact recruitment and retention of skilled labourers such as physicians and others.
The proposals in relation to income splitting will actually disproportionately impact the middle class more so than the upper class. These proposals devalue the recontribution a spouse makes to a family business: whether that contribution is direct or indirect; whether they are actually going to the business every day or whether they are supporting their other spouse in order that the business maximize its profit and the amount of tax it will generate for government. For example, even a family with a $70,000 income could be faced with a 30-40% tax increase if these proposals go through. These are not upper class people, these are our neighbors and small business owners in Canada.
The discussion papers released by the government compares a business person with that of an employee and how much income tax they would pay. It is an overly simplistic analysis and there are many other factors to consider other than the pure up front tax calculation.
Another concern is the significant uncertainty around the reasonability tests. These tests will give Canada Revenue Agency (CRA) the power to unilaterally determine the value of certain adult’s contribution to a business. This test will be very subjective. This is a significant burden to small businesses who are not going to have tracked the information that would be needed to defend themselves and is likely to be subject to much litigation and disagreement. As an example, does a wage that’s paid for a service in PEI differ than a wage that’s paid in Ontario? How will CRA administer this reasonability test in reality?
The most egregious proposal is in relation to passive income. Passive corporate income is already taxed between 50-55%, depending on the Canadian province. In fact, it is taxed at a higher rate than most personal rates. There is a tax deferral on the initial capital that the passive income may have generated if that capital may have some from the small business reduction. But this is not a loophole – that was something government intended to give small business access to capital for either future expansion or for working capital during slower periods. These proposals will eliminate the long standing concept of tax integration at least on the payment of some dividends. The effect of this from a PEI corporation is the passive tax rate could reach 74.55% and would have a similar result in other provinces. This is clearly unacceptable and hopeful the government would not have intended this tax result.
Holding companies are also used as a vehicle to accumulate funds for retirement in lieu of an RRSP. Funds accumulated are similar in some ways to an employee who has a registered pension; however, an employee and employer contributions to a pension and the income realized bear no tax whatsoever until withdrawn, which could be many decades later. Whereas a business owner who uses a holding company for an investment has already paid a tax of between 15-30% on the initial capital and an annual tax of 50% on the earnings that are realized. For all these reasons, we suggest the proposals for passive investment be abandoned entirely.
Non-arm’s length sale of shares
Another concern is in regards to some of the proposed changes in section 84.1 of the Income Tax Act. While we do believe that some changes here are required to address certain planning that was happening, the proposals, as currently worded, lead to double and even triple taxation and will negatively impact estates and common post-mortem techniques, some of which were already in progress at the time of the announcement. Government has recognized that this section does impede succession planning for family business and we encourage them as part of this consultation process to deal with that and not just in discussion paper.
These proposals do have retroactive application. Business owners and tax payers are entitled to structure business affairs with certainty with many structures having the blessing of the CRA and the courts. It is not fundamentally fair to change the system as they are currently doing.
The proposals, as currently outlined, are deeply flawed and should be set aside. We believe that the best approach going forward is a review of the current tax system, and specifically, the establishment of a Royal Commission on tax reform, which would be given a mandate, among other things, to review the many other suggestions that have been made by various expert commentators as part of this process and with an adequate time frame for proper debate and consideration.
The committee meeting is a part of public record and is available for viewing here.