Opposition is quickly growing to proposed federal tax changes, as lawyers, accountants and major lobby groups are warning that profitable private corporations of all sizes stand to be negatively affected by new taxes on their investment portfolios.
Finance Minister Bill Morneau released proposals this week to close loopholes that are increasingly in use by high-income Canadians to lower their tax bills through the use of private corporations. The measure that grabbed the most attention was draft legislation to prevent professionals, such as doctors, from "sprinkling" income to their spouses and adult children in lower tax brackets.
However, another proposal to recoup lost taxes on "passive" investment income stands to have a larger impact across the country, affecting everything from corner stores to large private firms, some experts said.
The government said it wants to remove the fiscal advantage that is currently available to the owners of corporations when it comes to the treatment of income from investments, such as stocks or real estate.
According to the Department of Finance, corporate owners currently benefit from a "significant tax deferral advantage" that can generate about twice the after-tax return on investments compared with salaried employees.
While the proposal to stop "income sprinkling" was generally well-received, there is already much opposition to the measure affecting passive investment income.
"The proposed changes to those rules will impact almost every private corporation that has had the opportunity to take excess profits and invest them in areas other than their active business," said accountant Greg Wiebe, who is the managing partner in KPMG's tax division. "It will be very profound, and it will affect almost every profitable private business in Canada."
The Canadian Chamber of Commerce said the proposals could fuel "uncertainty" in the private sector.
"Although everyone wants to have a fair tax regime, we must also ensure that new measures, including those involving passive income, don't simply move the problem around. When business is unduly burdened, we all lose," said the chamber's president, Perrin Beatty.
The Canadian Federation of Independent Business said it is already hearing from concerned owners of corporations and said it will raise the matter in coming consultations with the government.
"We are getting lots of calls from concerned small-business owners, including on passive income rules. I'm glad [the government] is consulting as there are likely to be lots of unintended consequences if they don't move carefully," said CFIB president Dan Kelly.
According to the Department of Finance, private corporations earned $26.8-billion in taxable passive investment income in Canada in 2015, an increase of more than 300 per cent over the 2002 total of $8.6-billion. Speaking on this issue on Tuesday, Mr. Morneau said a growing number of taxpayers use private corporations as a "tax-advantaged personal savings account."
"Right now, passive investment income, income that isn't actively being invested back into the company, can be left to accumulate while taking advantage of the lower corporate income-tax rate. Such an advantage is unintended and unfair," he said.
Mr. Morneau added he was launching 75 days of consultations on his tax proposals before unveiling legislative proposals in the fall. He acknowledged he was expecting stiff opposition.
"Whenever you make tax changes, I think it's reasonable to expect you will have pushback. We will certainly have people that will come forward and give us legitimate issues around the transition for themselves and their families," Mr. Morneau said.
Kevin Milligan, a professor at the Vancouver School of Economics at the University of British Columbia, said proposed measures should at a minimum stop the growth in the use of corporations to make passive investments.
"Going forward, what I would expect to see is that fewer people are going to set up these kinds of corporations," he said. "As for right now, there could be changes in the decision of when and how to pull money out of a corporation, and whether to keep those passive investments inside or outside."
Tax lawyer Robert Kepes said the measure will hurt job-creating companies that need "a cushion" to deal with economic cycles.
"These rules are much broader than what people expected," he said.
Kim Moody, a Calgary-based accountant with Moodys Gartner Tax Law firm, said the proposed measure seems designed to bring in additional federal revenues.
"This is going to dramatically impact every single business that is privately held," he said. "They are going after the people that have risked their capital, that are successful and this is a blatant tax grab."
The Department of Finance said it is taking action as a growing number of taxpayers try to capitalize on the difference between the top combined income-tax rate (more than 50 per cent) and either the general corporate income-tax rate (26.7 per cent) or the small-business rate (14.4 per cent).
"The spread's so high that everybody and his brother wants to be in a company now," Toronto tax lawyer David Malach said.