The efforts to promote fairness in the tax system through Ottawa’s proposed changes for passive investments in businesses would remain futile, a report by C.D. Howe Institute said.
C.D. Howe Institute director of research Alexandre Laurin said the suggested regime would end passive investment income-tax refundability for Canadian-Controlled Private Corporations (CCPC). This implies that taxes paid on investment income in a CCPC would no longer be tracked and refunded upon the payment of dividends.
“As laid out, these proposals risk delivering a blow to the retirement planning of many small business owners, not to mention their potential negative impacts on entrepreneurship and risk-taking,” he said, pointing out that whilst there are other versions of proposed changes, this particular one is seemingly what the government is in favour of.
In a way, private corporations and their owners would be taxed on their passive investment income on the same basis as if they were individual investors on fully taxable accounts.
Laurin said this would result in diminished incentives to defer business consumption and lesser business savings available for spending on capital equipment.
“The same is true of small business income retained for personal purposes – there will be greater incentives for immediate personal consumption of business income rather than saving it for retirement or other purposes,” he said.
However, the question still remains: Is the current system unfair? The report shows that overall, it is not, especially when benchmarked against the tax treatment given to personal retirement savings.
For starters, Laurin pointed out that CCPC income taxed at the general corporate tax rate and reinvested passively in the corporation has no significant tax edge over other saving options.
More so, business owners whose incomes are taxed at the small-business tax rate have the same treatment with those saving through a registered retirement savings plan (RRSP) or a tax-free savings account (TFSA).
“Considering that additional administration, accounting, and tax compliance costs need to be incurred in corporate accounts, one could reasonably conclude that passively reinvested small-business earnings receive a tax treatment similar to that of RRSP/TFSAs in a variety of possible portfolio compositions,” Laurin explained.
From a broader perspective, the playing field for tax-assisted saving opportunities is unequal in other ways. For instance, the outdated current tax rules allow career defined-benefit pension plan participants, particularly those in the public sector, to finish their careers with tax-assisted retirement wealth worth considerably more than the amount achievable in RRSPs.
This is where the government must focus its attention, Laurin stressed. If it pushes through with the changes, it should be able to level the playing field so that business owners have tax-assisted retirement saving opportunities similar to those accessible to most public sector employees.