Financial advisors can expect the new Liberal government to proceed with key promised tax changes in the upcoming federal budget that would affect incorporated professionals and employees receiving stock options.
“These measures are affecting a very narrow part of the population, [so] it’s not a big political risk,” says Jamie Golombek, managing director of tax and estate planning, wealth advisory services, with Canadian Imperial Bank of Commerce in Toronto. “[The government] needs the money, and they want to be seen as acting.”
Indeed, the federal government is likely to have its focus set instead on stimulus spending to spur longer-term growth in response to a significant downturn in the domestic economy.
The tax change of greatest concern to tax practitioners would see incorporated professionals such as lawyers, doctors, accountants and engineers losing access to the small-business tax rate. (At this point, incorporation gives professionals the opportunity to achieve tax deferral, gain income-splitting opportunities with spouses or adult children, and the ability to access the lifetime capital gains exemption.)
According to the federal Liberals’ fiscal plan, released before the recent election: “We will ensure that Canadian-controlled private corporation (CCPC) status is not used to reduce personal income tax obligations for high-income earners rather than supporting small businesses.”
The Liberal platform pointed to an academic study suggesting that the government loses $500 million in tax revenue annually through the use of CCPC status by high-income individuals.
However, the Liberals have provided few details of how they would address this issue or, indeed, what aspects of the use of CCPC status – the tax deferral, the income splitting – the government considers to be problematic.
“The political language will be that these individuals are rich. But, from my own standpoint, I would say, ‘Who are the rich? These are working Canadians’,” says Keith MacIntyre, partner in the national tax services practice with Grant Thornton LLP in Halifax. “If [taxpayers] are successful at their businesses, does that put them in the ‘rich’ category [to be referred to] in negative language?”
Wilmot George, vice president, wealth planning, at CI Investments Inc. in Toronto, suggests that tax legislation that would prevent individuals from accessing the small-business tax rate could curb economic growth rather than boost growth as intended.
“[Changes to CCPC parameters] would have huge implications to business owners, and to the economy as well,” George says, “if business owners are not able to hire as much staff as they would like as a result of increased taxation at the corporate level.”
Another key change regarding taxation to watch for in the upcoming federal budget is whether deductions for stock-option gains will be capped at $100,000 a year – a change the Liberals suggested in their fiscal plan during the election campaign.
Currently, any gains realized on the exercise of stock options are taxed at the same rate as capital gains rather than as employment income taxed at the taxpayer’s top marginal tax rate.
Stock options are a common way to offer employees compensation and are particularly important for technology startup companies for attracting talent when capital is scarce, and George wonders how this change would be implemented. In November 2015, Finance Minister Bill Morneau calmed the waters to some degree by indicating that retroactive legislation would not be applied to current employee stock options.
“This [reassurance] suggests that some form of grandfathering may be available,” George says. “So, we’ll have to see what that looks like if [the government] moves on this provision.”
MacIntyre says he will be particularly interested in watching how Morneau, who has extensive business experience, handles these issues in his first budget.
“[Morneau] understands stock-based compensation, and he understands what motivates employees, and whether tax policy changes will affect that,” MacIntyre says. “I think he would understand, too, the risk of a brain drain associated with too much taxes.”
Since the Liberal’s majority win in the federal election in October 2015, Canada’s economy has weakened significantly, with both the price of oil and the value of the Canadian dollar (vs its U.S. counterpart) plummeting.
“The promising signs of recovery [of last year] have fallen away,” says Ian Russell, president and CEO of the Investment Industry Association of Canada (IIAC) in Toronto. “China is a lot more uncertain in terms of its growth trajectory compared with before, as is the U.S. So, we are in a different environment than before the election, which makes the [economic] policy-making process a very difficult for one for Ottawa.”
To boost economic growth in the short term, the federal government could adjust its infrastructure spending plans so that spending is concentrated in the first and second year of its mandate, then scale back that spending in Years 3 and 4, suggests Mike Moffatt, assistant professor in the business, economics and public policy group at the Richard Ivey School of Business at the University of Western Ontario in London, Ont. Additional resources will be directed to those regions in Canada that are bearing the brunt of the downturn.
“There will be more of that kind of infrastructure spending,” Moffat says, “rather than the classic stimulus, through which you’re just giving people money and trying to goose demand.
“[Today],” Moffat adds, “the situation is a little bit different. The economic weakness is concentrated in certain pockets. We’re almost certainly going to get a deficit that’s larger than $10 billion.”
To boost Canada’s economy and spur job creation, the IIAC believes that the federal government should consider targeted tax-policy changes in the upcoming budget that would support the small-business sector. One suggestion is to allow for a rollover provision on capital gains taxes on assets sold if the proceeds are reinvested into shares of a small business within a given period of time.
“There’s a lot of capital that’s out there in the marketplace,” Russell says.”The point is to draw it to investment opportunities, and I think a tax incentive will help.
“By the same token,” he adds, “the capital markets can play an important role in infrastructure spending as well.”
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