Equal not always fair
The year 2017 marks the 100th anniversary for income tax in Canada. Canada is also celebrating its 150th anniversary. An anniversary is usually cause for celebration. However, small business owners are not celebrating after the July 18th release of Finance Minister Morneau’s consultation paper Tax Planning using Private Corporations.
The proposed tax changes released last month by Finance Minister Bill Morneau have a stated aim to enhance fairness in our nation’s tax system. These measures eliminate common tax-planning strategies for private corporations. Focusing on private corporations, the government argues, will ensure owners pay their “fair share” of tax.
Fairness is a desirable goal of any tax system, but the current proposals mistake fairness for equality. Private business owners and employees are subject to different tax treatments because they are different taxpayer groups with different needs, attributes, contributions and riches. Comparing the two is not an “apples to apples” exercise.
Minister Morneau’s consultation paper uses the example of two neighbours, Jonah and Susan. Susan earns $220,000 as an employee and pays about $79,000 in income tax for the year. Jonah has an incorporated consulting business that earns $220,000 before taxes and salary. The corporation pays Jonah a $100,000 salary and pays its remaining after-tax profits in equal amounts to his spouse and two children. The combined corporate and personal tax of the company and of Jonah and his family is about $44,000, which is $35,000 less than the tax paid by his neighbor Susan.
At first glance, Jonah’s tax advantage seems unfair: Why should he receive more take home pay on the same income? A look beneath the surface reveals significant differences between Jonah and Susan.
Susan’s employer will provide a pension plan for her retirement; Jonah will fund his own retirement with after-tax monies. Susan’s employer provides four weeks of paid vacation and 12 sick days each year; when Jonah takes time off, he loses income.
Susan’s employer provides her with a private health plan that pays for her prescription drugs, dental and other health services; Jonah must pay for those benefits out of his profits.
If Susan loses her job, she is entitled to severance pay from her employer and Employment Insurance benefits from the government; if Jonah loses his customers — his only source of income — he receives no severance and is not eligible for Employment Insurance (EI) benefits.
These are just a few of the differences that define the work lives of business owners and employees. For many of our clients, these differences shape daily decisions in business and in life.
Contrary to popular belief, the Department of Finance’s proposed changes won’t just impact the wealthiest Canadians. If enacted, they will affect farmers, tourism operators, mom-andpop stores, doctors and other professionals.
Ultimately, these proposals could affect all Canadians, because both Susan and Jonah play important roles in our nation’s economic growth. Their success is our gain; their failure, our loss. Small and medium-sized business enterprises — (SMEs) are key drivers of the Canadian economy. And in Prince Edward Island, we have the second-highest rate of SME ownership in the country. The proposals would eliminate standard tax-planning strategies that currently reward business owners for taking on risk, creating jobs and driving innovation and growth:
As an employee, Susan is not required to expose her savings to risk; when Jonah launched his business in the garage, he invested $200,000 of his savings. If the business fails he will lose that money.
Susan has no direct employees; Jonah, who now operates out of a small office in Charlottetown, employs two full-time staff. He provides them with a salary and health benefits, and contributes to EI and the Canada Pension Plan on their behalf. When business conditions allow, he adds two seasonal workers.
All taxpayers should expect fair treatment regardless of their level of income or wealth. They should also expect tax policy to consider the full circumstances of their employment situation. For business owners, that situation hinges on risk. The proposed tax changes, instead of reducing that risk, may discourage entrepreneurs from investing. When the Department of Finance proposed the current tax changes, it may not have realized the extent of their impact on small business. The government has launched a consultation process until October 2, 2017, offering Canadians the opportunity to engage on this important issue — each of us in our own way. As an accounting professional, I am preparing my own response, canvassing clients to understand their concerns around tax fairness. We trust that any feedback submitted would receive the weight it deserves.