What do you think of when you hear “small business?” Maybe you think of a roofer who has enough work to employ three helpers. Or maybe you think of a hair-cutting place. Do you ever think of lawyers who make half a million dollars per year and incorporate themselves to defer and reduce their income taxes?
Opponents of the Trudeau government’s planned income tax changes for private corporations have been vocal lately. They have a lot to lose. The “tax planning” opportunities using private corporations are very effective at reducing taxes.
There are some good arguments on both sides of this debate, but one part of it irks me: referring to incorporated professionals as “small business.” It’s not that this is technically wrong; it’s that it’s deliberately misleading. The public has sympathy for the types of businesses they think of when they hear “small business.” This sympathy dries up quickly if we talk about highly-paid professionals reducing their income taxes.
Getting into the substance of the proposed tax changes, I think there are two parts that make a lot of sense. One is that private corporations shouldn’t be able to get income deductions for paying family members who had little or nothing to do with earning the income. The other is putting a stop to complex maneuvers designed to turn income into capital gains to cut the tax rate in half.
The merits of the changes designed to attack passive income inside a private corporation are less clear to me. Professionals hold assets in their corporations as a means of smoothing income over a lifetime. In a sense, it’s like using an RRSP to reduce income today and create an income after retirement.
Everyone should be allowed to save some money tax-free to create income in retirement (when it will be taxed). The debate is how much income we should be allowed to defer. Government employees with defined-benefit pensions get an advantage over those who use only RRSPs because the government undervalues future pensions. I certainly can’t replace 70% of my income from my RRSP savings. This means government employees get to defer more income than most of the rest of us even after taking into account their reduced RRSP room (called a pension adjustment).
Professionals using private corporations are deferring significant amounts of income as well, although working out how much they defer gets complicated when we take into account the partial tax payments they make at the corporate tax rate.
Another complication in this debate concerns doctors. Few people will cry over some lawyers and accountants leaving for greener pastures, but doctors are clearly in a different category. I don’t know what the long-terms effects of the new tax measures will have on our medical system, but I doubt the correct answer is “none.”
We need more reasoned debate on these issues. But, please don’t refer to private corporations of highly-paid professionals as “small business.”