Taking on the overblown criticisms

Those who are confused by the tax-reform proposals that have hijacked the political conversation over the last two months can be excused. They are profoundly confusing. That’s in part because the Trudeau government chose to start its tax-fairness push with a particularly abstruse set of reforms, but also because of the finance minister’s tone-deaf rollout and the overblown rhetoric that came in response.

While fashioned as closing small-business loopholes, the reforms have been most vociferously criticized by doctors, other professionals and farmers who have used incorporation as part of their tax planning. The government’s intent was to rein in some of the unintended benefits of incorporation, but the critics say they’ve gone too far. The debate has become polarized between those who say the proposals are a disaster and those who say they’re fine as they are.

Both sides are wrong. Many of the criticisms are, in fact, misplaced, as we will explain here. But that shouldn’t blind us to the need for making important changes, which we will address in this space on Monday.

The first misplaced criticism is that, despite the Liberals’ rhetoric on the middle class, these measures actually hurt those the government purports to want to help.

Not so. As a number of economists have pointed out, the people affected are by and large relatively rich; they just don’t realize how rich they are. Take the primary beneficiaries of income sprinkling, one of the practices now on the chopping block, which allows individuals to significantly reduce their tax burden by transferring portions of their income, through a corporation, to family members, even if those family members don’t actively contribute to the business.

To benefit from this, families must be earning quite a lot. A recent report from the Canadian Centre for Policy Alternatives found 64 per cent of all benefits go to families with annual incomes of at least $168,000. Some of these people may feel they are middle class, but the reality is that they earn more than twice what the median Canadian family does. Families making less than $64,000, meanwhile, see 0 per cent of the benefit.

Similarly, many have argued that the proposal to tax at a higher rate profits from so-called passive investments held in a private company — investments in mutual funds, say, rather than machinery — is unlikely to have much impact on the average mom-and-pop business. This measure benefits only those who have already maxed out their TFSAs, RESPs, RRSPs and other tax shelters available to all Canadians, which means again it allows the relatively well-off to become more so, without doing much of anything to help Canada’s small-business ecosystem.

A second criticism, harder to dismiss, is that small-business owners, and, in particular, incorporated professionals, are denied a number of advantages typically associated with wage labour, such as extended health benefits, pensions and parental leave. Critics argue that the measures Ottawa is looking to do away with compensate small-business owners for these differences.

But, of course, not all wage employees have pensions or benefits or parental leave, and the group that does have them is shrinking. And of those without such benefits, the cadre of critics loudly opposing these reforms is, in general, among the least vulnerable.

Moreover, it’s not entirely true that small-business owners don’t have access to extended benefits. There are special retirement programs, though admittedly not ideal, available to incorporated professionals and special mechanisms for saving for parental and health leave.

In any case, the government’s proposals would leave in place significant legal and tax benefits of incorporation, including the ability to defer tax. This can be used to accrue significant savings over the medium term and enormous savings over the course of a career.

None of that is to say that those affected by the reforms may not have legitimate concerns about pay and access to benefits. But if doctors are not paid enough, or if public pensions and employment insurance coverage are inadequate, surely these issues should be addressed directly and equitably, not through small-business tax measures available to just a few.

A third criticism is that the changes being floated would discourage people from taking entrepreneurial risks. This, too, does not stand up to scrutiny.

Leaving aside the dubious notion that small entrepreneurs are somehow the only ones who incur risk or have work-related expenses, the notion that removing these measures will cause people to forgo business opportunities stretches credulity.

The tax measures in question are not available to the many publicly traded Canadian startups, but this has not discouraged them from trying to get rich. And, again, the reforms leave the lower small-business tax rate and a number of other tax incentives in place.

There is no doubt cause for many to be upset about the proposals. After decades of tax cuts, suddenly this one group has been chosen, among many possible targets, to be the first target of reform. In the process, they have been unnecessarily vilified as tax dodgers, when all they are guilty of is using tax measures the government gave them permission to use. But at their core the proposals are for the good. The small-business tax system should be used to help small businesses grow and thrive. It should not be a back door to address problems, however real, for a relatively small group of relatively wealthy families, especially in ways that are unintended or are unavailable to others in similar circumstances or in even greater need. These are the unassailable principles underlying the proposed reforms. This battle may not have been well-fought so far, but fought it should be.

At the same time, the overblown response to these proposals should not obscure that there are problems that need to be addressed. On tone, process and substance, the government has fallen short. On Monday, we will consider how.

The small-business tax system should be used to help small businesses grow and thrive. It should not be a back door to address problems for a relatively small group