The new tax law proposals have been generating a lot of press.  The government is spinning misinformation, and nobody is quite sure what the fuss is all about.  So we decided to have our tax consultant, Mark Lencucha, FCPA, FCA, TEP, FEA, draft a number of articles that will hopefully explain these proposals with a more relaxed style.  Some are quick. Some are tough sledding, but we hope you enjoy them and share them with your friends!

If you pay dividends, or wish to protect your capital gain exemption in particular, we recommend a sit down sooner than later.  We hope these rules are either dropped, seriously modified, or repealed when a new government takes charge.  For now, we must treat them very seriously indeed.

Pivotal LLP
Chartered Professional Accountants

**The views, thoughts and opinions expressed in this article belong solely to the author and not necessarily to the Partners or staff of Pivotal LLP



Abusing Low Tax Rates?

Building Up Investments With Cheap After-Tax Dollars Pensions, Public Companies and you.

Ethical tax for owners

Next in our little educational seminar about “ethical tax”, is visiting the land of abusing your tax benefits and not doing what you’re told. This discussion is going to be a little longer.

The Government has decided to give us all a little reminder of our ethical duty as small corporations.  Let their own words speak. Let their own words condemn. Let their own words come back to bite them in the…Sorry, got carried away there!

Abusing our generous benefit for your own selfish purposes!

Here is how they state the abuse:

“There is evidence that some may be using corporate structures to avoid paying their fair share, rather than to invest in their business and maintain their competitive advantage.”

“Holding a passive investment portfolio inside a private corporation, which may be financially advantageous for owners of private corporations compared to other investors. This is mainly due to the fact that corporate income tax rates, which are generally much lower than personal rates, facilitate the accumulation of earnings that can be invested in a passive portfolio.”

“Preferential tax rates for corporations were never intended to facilitate passive wealth accumulation, such as through passive investments.”

We must read between the lines here. It is not too hard to do. I think what they’re trying to say is that “if we give you a tax break by lower corporate taxes, you should “use” them in a certain way”. A “use” test. Dug up from some old comments. New to me…New to us all, since the tax code clearly identifies a regime of extremely high private corporation tax on investment income.

Nevertheless, the lecture from the pulpit seems to be this:

  • We give you (private) corporations really nice tax rates,
  • You’re supposed to enjoy these so you can grow your little business into a big business some day,
  • You stopped doing that,
  • You started using these generous rates to start saving for yourself – you Scrooge!
  • You were supposed to keep growing your business, and creating jobs!
  • We must do something about this.
  • Myopia – “…a lack of foresight or discernment; a narrow view of something…”

    Now that we have some hypothetical principles firmly established, let’s consider how a new pair of spectacles may help Finance see more clearly.

    1. Public Companies

    The proposals create punishing new tax law, aimed at private companies only, to address the inequity of using cheap tax money to grow passive investments. We will particularly note one of them – a non-refundable 50% tax on investment income, followed by a penalty tax on dividend distributions (since 50% is otherwise the maximum tax rate in Canada, anything more is punishment, giving you a spanking).

    Public companies are however given a Pass! A get out of jail free card!  Finance condemns investment accumulation by private companies but ignores the same actions when undertaken by public companies. The best means to illustrate this is to simply repeat their concern on page 32 about private corporations but change “private” to “public” and see where it all goes!

    “Corporate income is taxed at lower rates than personal income, giving businesses more money to invest in order to grow their business, find more customers and hire more people.  But there are times when PUBLIC corporations earn income beyond what is needed to re-invest and grow the business. In these cases, those who own and control a PUBLIC corporation have the opportunity to hold passive investments inside the corporation. The Government is of the view that fairness and neutrality require that PUBLIC corporations not be used as a personal savings vehicle for the purpose of gaining a tax advantage. Passive investments held within PUBLICLY controlled corporations should be taxed at an equivalent rate to those held outside such corporations.”

    By this simple word substitution, and the unassailable logic of Finance, we find ourselves compelled to agree that public companies should face a non-refundable 50% tax on investment income. Yet somehow the provisions were omitted from the draft legislation! 

    Aren’t you glad we caught their little oversight? They will be so pleased at our diligence! But wait! It wasn’t an oversight at all!  They plan to put in laws to make sure you don’t go public just to avoid the tax. They knew there was an inequity all the time. So much for “requiring” companies not to build up investments, they really meant only private companies, only the little guys. 

    I guess they learned, just like you and I, not to kick sand in the big kids face!


    1. Pension Funds

    We will come back to the real world of tax sheltered investment in a later article!  Suffice, for now, to know that Pensions and RRSPs not only obtain fully tax-deductible contributions but completely tax-free growth. Presumably “they” get pensions and “we” get RRSPs and “we” should only use RRSPs as our tax-sheltered vehicle. We will later explore how these vehicles are effectively only used by the wealthy, mostly the top 10% or so of income earners, and how “we” give “them” more tax preference than the Federal Government spends on health care transfers, or taking care of the elderly, and how “they” ignore the above “use” test.

    Finance will reply that Pensions and RRSPs are different, they can skip the use test and enjoy low (is 0 low?) tax rates to provide retirement income to the Few, but you should not do the same to provide retirement income to the You. Only You, and not the Few, have obligation to grow jobs for your low rates. 

    A last bit of Nonsense

    My favorite quote of the day however is this one:

    “There are no restrictions on the type of assets that can be held in a corporation, while some exist for tax-assisted savings vehicles (e.g., real estate). The rules pertaining to prohibited investments for registered accounts generally aim to prevent self-dealing arrangements and tax-planning opportunities.”  

    Let’s zone in (or out) on real estate. It sounds like they don’t like real estate in a company since registered vehicles are somehow limited. Well, RRSPs cannot invest in real estate directly. You can’t buy a rental property, or part of a little strip mall you like down the street. You might do so indirectly by going to the stock market, if that is your cup of tea. Now they have decided that your company apparently should not invest in real estate.  So who’s left to buy real estate? Especially those big office towers on Bay Street? 

    Why, it’s the government pension plans! Take a read from the CPP website discussion of the Top 10 pensions in Canada;

    “The Funds are among the top infrastructure and real estate investors globally. They comprise four of the top 20 global real estate investors. They also comprise six of the top 20 global investors in infrastructure assets.”

    Last Thoughts

    The new rules are meant to punish those using low corporate tax rates to buy investments. They’re very onerous. They do not apply to public companies doing precisely the same. Let me ask you why not.

    They do not apply to pensions who are like not so little tax havens right here in Canada, and who therefore have a massive advantage in competing for those same investments. Let’s save that best discussion till last.

  • Mark Lencucha