First, let me say, I don’t hate small business
Fairness for all the key, not just certain interests
The controversy over Bill Morneau’s proposed limits on the use of private corporations for “tax planning” — tax avoidance would be more direct — is clearly building into a major political fight. The opposition Conservatives smell blood, and are aligning themselves with the doctors, tax accountants and small business groups arrayed against the changes.
As so often happens, the issue at hand — whether one form of business organization should be taxed more heavily than another, or whether taxpayers with the same income should be taxed at the same rate — has been transformed into a test of whether you respect small business. What are facts, reason and the broader public interest, after all, beside the “lived experience” of the entrepreneur?
In my own experience this has taken the form of a blizzard of emails demanding to know whether I have ever met a payroll, aggressive assertions of the writer’s superior knowledge of the Income Tax Act, and all manner of arguments that are either obviously true or obviously untrue, but in no case directed toward rebutting any argument I actually made.
The case put forward in my column last Saturday was in two parts:
1 agreeing with the Finance Department that the massive rise in the number of private corporations since 2000, particularly among the professions and the self-employed, was in part driven by the tax advantages of incorporation, advantages that resulted in taxpayers of similar incomes paying very different amounts in tax.
2 But disagreeing that Finance’s proposed restrictions on certain ways of realizing those advantages were the best solution, as opposed to simply reducing the vast disparity in the top rates of tax on persons and corporations, especially small corporations, that has opened up in recent years — now fully 37 points, federal and provincial taxes combined. Of course people are going to want to take advantage of that.
A number of respondents seemed to take this as an attack on incorporation itself. Grateful as I am to the many who took the time to instruct me in the concept of limited liability, no one is proposing to prevent businesses from incorporating. The question is whether the tax system should artificially encourage incorporation — whether, among the manifold benefits of incorporation should be included a juicy tax preference.
Likewise, no one doubts the hardships facing many small businesses, or the risks they take on; neither is it in dispute that small businesses employ a great many people, create lots of wealth and so on. The question, again, is whether that warrants taxing small corporations at a lower rate than other firms — large corporations, unincorporated businesses — or for that matter wage-earners.
I am again grateful to the many correspondents who pointed out that “governments have always” favoured one form of business or another, or that tax policy is about deciding “what sectors of the economy are to flourish,” as I will always cherish the advice of another that the true return on investment is “measured after-tax.”
This last is of course true, in terms of what influences investor decisions. But as far as the economy is concerned, it is the pre-tax rates of return — the real costs and benefits of each investment — that count. Good tax policy, then, far from deciding what sectors should flourish, is about removing the influence of the tax system on decision-making. This is what economists mean by “tax neutrality”: the aim should be to tax all income at the same rate, no matter how it is financed or in what sector it is invested or how it is paid out. And not only investment income. Whether it is earned from capital or labour, saved or consumed, “a buck is a buck is a buck.”
Is starting a small business a risk? You bet: including the risk that your product is a flop and your business model a bust. Does it come with certain costs? Also true. It’s also potentially highly lucrative, or rewarding in other ways. It’s up to you to decide whether those rewards are worth the costs and risks, not the taxman. Certainly we should not wish the government to discourage risk-taking, but neither should it artificially encourage it: there is such a thing as an optimal level of risk, as we surely learned a decade ago.
Not discouraging risktaking is a good argument for keeping tax rates as low as possible — for everyone, not just for certain types of business. The special preference for small corporations comes at the cost of every other business and personal taxpayer — not to mention serving as something of a deterrent to small corporations growing into large corporations.
This only scratches the surface of the confusion among my correspondents. For example, a number seemed to imagine that the lower rate of corporate tax was necessary for integration between the corporate and personal tax systems. Not so: to prevent doubletaxation of personal capital income all that is required is reimbursement of the tax paid at the corporate level. Others defend the status quo in the name of encouraging saving, or allowing incomesplitting between spouses. These are worthy objectives — but again, they are worthy objectives for everyone, not just the owners of small businesses.
The federal Liberals have brought in a number of harmful economic measures in their short time in office, whether raising personal tax rates, jacking up CPP contributions, or limiting contributions to Tax-Free Savings Accounts. Better that the focus were on reversing these sorts of broad economic policy mistakes, rather than special pleading on behalf of particular interests.