Liberals’ passive-income tax changes could bring in $6-billion a year: watchdog

TheGlobeandMail.com – Politics – Small Business Tax
November 23, 2017,   , Ottawa

The Parliamentary Budget Officer says Ottawa’s planned changes to passive income rules for small businesses will eventually raise up to $6-billion a year, but the spending watchdog supports the government’s claim that only a very small percentage of small businesses will be affected.

Providing the first cost estimate of the proposal, the PBO expects the plan would raise up to $1-billion a year during the first two years. This would rise gradually to up to $6-billion once the policy has been in place for 20 years.

Overall, the report estimates that about 2.5 per cent of incorporated small businesses – officially known as Canadian Controlled Private Corporations (CCPCs) – would be affected.

“One thing that surprised me when I saw the results of this study was in how the group that is affected, how small that group is,” said Deputy Parliamentary Budget Officer Mostafa Askari at a news conference. “Based on the information that we have now… it would be a very small group of people.”

For instance, Mr. Askari said that only about 4.3 per cent of professionals – including doctors, dentists and lawyers – would be affected by the changes related to passive investment income.

Higher taxes on passive investments held by incorporated small businesses have been among the most controversial aspects of a package of tax proposals announced by Finance Minister Bill Morneau in July. Passive investments refer to income on investments like stocks that are unrelated to the actual business and its active business income.

The government has said that because passive investment income held inside a corporation can be taxed at a lower rate than if the investments were treated as personal income, the changes are necessary to ensure high-income Canadians are not incorporating simply for the tax benefit. Business owners have countered that passive investments provide a legitimate financial cushion for businesses to rely on for downturns or retirement savings.

In addition to the passive investment change, Mr. Morneau had also proposed restrictions on “income sprinkling” between business owners and their family members and a third measure to restrict the conversion of dividend income into lower-taxed capital gains.

In response to an outcry from the business community, opposition critics and some Liberal MPs, Mr. Morneau revised his plan in October. He dropped the proposal related to capital gains, largely maintained the proposal on income sprinkling and revised the passive income proposal.

The passive income plan – which will be launched as part of the 2018 budget – was revised so that it only applies to investment income above $50,000. That threshold represents a 5 per cent return on $1-million in savings.

The income sprinkling provisions are scheduled to take effect on Jan. 1, 2018. Mr. Morneau has promised to release more detail, but business groups have expressed concern that those details have not yet been released.

The PBO is working on an analysis of the income sprinkling provisions.

Chloé Luciani-Girouard, a spokesperon for Mr. Morneau, said 97 per cent of businesses will not be affected by the changes and that more detail will be released in the budget.

“This is not and has never been a revenue-generating exercise,” she said in an email. “That being said, we believe that the eventual measures will likely generate significantly less revenues than what the PBO has estimated.”

The Canadian Federation of Independent Business, a small-business lobby group, recently sent a letter to MPs noting that the October changes have not addressed all of the concerns of business owners.

“Our members remain very concerned with the parts of the proposals that appear to be moving ahead,” the letter stated. “While the changes announced by the government show some important progress, the remaining proposals will cause significant harm to Canadian small businesses.”

The Senate’s national finance committee has also been travelling the country, hearing primarily from business groups about their concerns with the proposals. Senators on the committee have noted that strong objections remain in spite of the minister’s October revisions.

Thursday’s PBO report found that CCPCs with high passive investment income are disproportionately large in size. About 32 per cent of passive investment income in 2014 was earned by firms with more than $15-million in taxable capital, and represent 2.3 per cent of CCPCs. It also states that 60 per cent of all passive income – representing about $11-billion – is earned by CCPCs with no active business income, “suggesting they were set up solely for the purpose of generating income.”

The PBO numbers are broadly in line with figures released by the Finance Department in October. They showed that 1.3 per cent of CCPCs hold between $1-million and $2-million in passive investment assets and 1.6 per cent hold over $2-million. Yet those two categories represent nearly 90 per cent of all passive income earned by CCPCs.

The report from the PBO, which is a non-partisan body that reports to Parliament, did not weigh in on the policy merits of the government’s proposed tax changes.

“Whether it’s reasonable or not is something the politicians can decide, not us,” said Mr. Askari.

https://www.theglobeandmail.com/news/politics/liberals-passive-income-tax-changes-could-bring-billions-of-dollars-a-year-watchdog/article37058936/

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