Thursday, September 28, 2017

Transparent, Fair and Effective - Is that too much to ask of a Tax System?

Our tax landscape is exceedingly complex. For anyone with more than simple T4 income, dealing with it usually brings not only a tax bill, but also a sizable bill from a tax professional. In the current environment, those tax professionals more than earn their keep and bring peace of mind that you've complied with Canada's tax laws and have paid the share of the tax bill that you are obligated to pay. Layer on top of that, the thousands of professionals employed by the Canada Revenue Agency (note, this is the largest department in the federal government to enforce the labyrinth tax law. In fact, the number of people employed by the CRA outnumber the next largest federal department, National Defense, by nearly two to one. We've got a system that is not only complex, but is also tremendously expensive - and not terribly fair, for anyone really.

However, rather than take on the issue of tax fairness and tax reform in a way that would meaningfully address the inequities, while making the system easier to navigate and comply with - the government has side swiped small businesses and professionals with tax reforms that make the system more complex, have the potential to negatively impact the economy in meaningful ways and has decided that debate on the changes should be limited. This approach, and the crass politics that have accompanied it, has put the best interests of the country in jeopardy.

If the government were truly interested in making the tax system more fair and better serving the public, it would start by looking at the whole of tax policy (income tax, corporate tax, sales and other taxes) and working to make it easier to comply with and much harder to game. It would work to make administering it less costly - and ensuring that the unintended consequences of policy changes are identified and mitigated. In short, it would take its time to do it right, rather than rushing headlong with policy changes that are likely to cause damages to those this government has said that it wants to help while protecting those that this government has declared are not paying their fair share. It would stop to identify the true problems and seek to solve those problems.

Perhaps one of the most shocking revelations of a meaningful examination of taxes and tax policy would be, that a person can have high-income and financially struggle and that a person can have low or no income and be financially secure. What this means is that access to publicly paid programs and services that are determined on level of income alone might be unfairly denied to those who are paying dearly for them or granted to those who do not need them and do not pay towards them. Further, there is something incredibly unfair about a system that taxes earned wealth, but leaves windfall gains and unearned wealth largely untouched.

Indeed, its time for a rethink, not just of the changes at hand, but of the whole system. However, such a rethink is not a 75 day project, rather it's something that should be given 5 years to do and do right. Why isn't this government "thinking big" and doing the right thing when it comes to tax reform?

Thursday, September 21, 2017

Tax Fair Alternatives to the Undue Assault on the Canadian Economy

The consequences, even if small, may be grave for the Canadian economy if the proposed tax changes go ahead. This is because small businesses (a large number of which are Canadian Controlled Private Corporations) are responsible for contributing upwards of 30 percent to Canadian GDP and accounting for 70 percent of employment in the private labour market. It is likely that they will result in fewer small businesses starting, fewer small businesses surviving, fewer small businesses thriving, fewer small businesses remaining in the family and more Canadians who rely on small businesses being unemployed or under-employed. What's worse, is the changes made will not address the underlying and reasonable reasons a large swath of self-employed people rely on existing business law as it stands in the ways that they do. Nor will it address the more egregious abuses of our tax system and the most severe cases of tax avoidance. Indeed - if tax fairness is the goal, it is difficult to see how the proposed changes will achieve that objective, while it is easy to see how the proposed changes might well result in even lower tax revenues being available to support aggressive growth in public spending.

A good starting point might be to consider whether or not the maximum insurable and maximum pensionable earnings under EI and CPP have kept pace with the needs of the vast majority of the population. I would argue that they have not, and that increasing these amounts (perhaps to cover income up to the 90th percentile) might be the incentive needed to claim a greater share of income earned by a CCPC as personal income. This alone would alleviate some of the incentive to defer taking earnings as personal income at a later date as the amount expected to be paid by either CPP or EI would also be increased. Further this would "level the playing field" between those who are employed by the private sector without defined benefit plans, and those who do participate in those plans.

Similarly, increasing the RRSP contribution limits perhaps upwards of 18 percent of earnings up to 90th percentile would also be helpful. Again, this would reduce the incentive to defer taking money from a CCPC as personal income.

Perhaps it is also time to consider introducing a small business TFSA - where the contribution limits are set to a certain percentage of a small business' revenues to enable small business to continue saving for economic downturns or future expansions.

Lastly, in the interests of "leveling the playing field", it is perhaps time to re-instate income splitting for all Canadian households.

What isn't helpful is the divisive nature of the debate around these changes and the lack of meaningful consultation that takes into consideration the well articulated concerns of business owners, farmers and professionals - many of whom have worked exceptionally hard to be good members of Canadian society and who have paid their fair share to their communities and their employees.

It's time to turn the page on what has been a disastrous start to a much needed conversation on tax reform in this country.

Thursday, September 14, 2017

Caring About the Middle Class Means Caring (and Understanding) About Small Business

Recently (January), I made the leap from government to private sector, more specifically I made the leap to go from helping my husband run our business part-time to helping run it full-time. I can say without a doubt, I work more now than I did then (there's more flexibility, I'm generally happier, but no running a small business isn't an easy road to riches). I think there's a lot of misconceptions out there about these changes and what they will mean for the small business climate in British Columbia. As an economist, and now a small business co-owner, I think these changes are awful public policy driven by some academics who have failed to acquaint themselves fully with the pragmatic reasons these provisions are needed and used and what the real-world impact of these changes will be. I'll happily concede there are problems - but those problems merit a chisel not a shotgun, and the absence of fully understanding the impacts these changes will have is unnerving.

To put my comments on this in context - small business accounts for 30% of the economy across Canada, and some 33% here in BC. It employs more 8 million people, and of those more than half are employed in businesses with less than 20 people. Only 4 in 10 small business have ownership that is majority female. Keep in mind not all small businesses choose to incorporate, but many do, and there are good reasons to encourage incorporation. Most are owned by those who are over 40. A good chunk of them do not enjoy excessive profits and of note - they absolutely cannot use the strategies of large public corporations and I'm not sure that we really want to encourage large public corporations at the expense of small businesses.

What's important to remember, is that when it comes to small business - the tax picture is more complex and simply comparing business owners to employees is unfair. Employees have access to EI (including maternity savings), TFSAs, RRSPs, sometimes pensions, often disability insurance, often maternity leave top-ups, Employment Standards regulations and recourse, minimum wage, over time, etc. Small business owners often put their personal assets on the line to back the operations of their businesses, and at the end of the day must put the needs of their employees, the CRA and their clients ahead of themselves. The small business owner gets paid last and might well lose everything with their venture. It is also important to note that the business owner pays tax twice - a corporate tax (when the money remains in the company), and then personal income taxes (when the money is taken out of the company to fund personal needs - housing, food, clothing, etc.) Further, business owners have based many decisions on what is long standing tax law (more than 40 years) - and unlike individuals, they do not have the luxury of planning for a year, but often must plan for the decades ahead.

So let's say you decide to quit the day job and start a small business. Great! Now reality - what are the odds that you're going to be able to do that, and do it successfully without a supportive spouse? Keep in mind that a small business, and in particular a new small business is a demanding venture. (There's an apt saying, you have the "flexibility" to choose which 18 hours of the day you work). Who will take on the load to make sure you can focus on getting the business going and making it a success? Everything else doesn't stop - the kids still need to get to and from school, people need clean clothes, meals need to be made, bills need to paid (really true if it's the partner's day job that is mitigating the risk). Your long work hours take a toll - and now the government is telling you that you can't "share the income" from the business with the person who likely a) gave consent to start it in the first place. b) put family assets at risk for it. c) is taking on the load of the domestic duties (more so when there are kids involved). As an aside, what do you think will happen to the divorce rate among small business owners when the "sprinkling" provision is eliminated? Now, also a reality of small businesses is that they demand a redirection of resources. In part to mitigate the risk of an unforeseen contingency and in part to finance future growth. Are you going to sink funds into your personal TFSA and RRSP and RESPs - funds that can't be used easily by the business should the need arise, or are you going to be able to put all your money into the business? Under the current rules, the choice to direct funds to the business is defensible and reasonable - under the changes it won't be possible, business owners will have to choose to take the money personally (paying personal tax on it, and then if they do put it into a RRSP, or RESP they may not be able to withdraw it later for business needs). So, these small businesses will have less corporate resources available to fund unforeseen contingencies (some of which can be really expensive!) or future growth. Under the current rules, the business owner could be reassured that the funds in the business could be used later as a form of pension (and taxed when taken), disability insurance (taxed when taken as income), or to fund children's post secondary education (again taxed in the hands of the child). Businesses need this flexibility and ability to plan and pay for life events (note - if a business owner is wanting a family, then need to plan for their own maternity leave including paying to ensure the business can continue during that time) and business needs. On the note of tax fairness - I think it's fair that taxation occur at the "family level" - many benefits are based on "family income" so it makes sense that families be taxed as a family and the removal of income splitting from all families was a travesty of the current government.

That covers the passive income and sprinkling provisions that are proposed. Now turning to capital gains. These measures apply more to business succession planning, but what do you think will happen when it becomes much more expensive to pass the family business to the next generation than to sell it to an outside source? Fewer businesses (including family farms) will remain "family businesses" and more will be sold to larger corporate interests. I'll be blunt - we'd love if someday some or all of our children decided to carry on our firm, shouldn't the decision as to whether or not it's "passed along" within the family or sold to an outside interest be at least neutral? What do you think it does for a small business owner, and their approach to their business, when they are thinking that this is something that they are building for their children? If they are sold to large corporate interests, do you think those "shareholders" care about the employees in the same way that the small business owner does? What about caring about their community?

So why does this matter? Because the implications go beyond simple math - it changes the rules of the game entirely, with very little notice. The government has estimated that it will gain $250 million in revenue each year from these changes. If employment in small business is reduced by as little as 5% by these changes, and each of those lost jobs generating $5k in tax revenue (a low estimate) these changes will cost the government more than $2 billion in revenue. These changes mean fewer small businesses starting, fewer small businesses growing, fewer small businesses surviving, fewer small businesses led by women, more family instability among small business owners, and a raft of other consequences. This is bad public policy at its finest and we can stand together for the heart and spine of the Canadian economy - or we can watch this government rip it out and then wonder, why our economy just doesn't perform like it used to.