Tax Reform Needed … but take the time to do it right

Who can blame you if you are among those scratching their heads, trying to interpret the rhetoric on both sides of the debate over Ottawa’s planned changes to the tax code?

As is usual in such cases, the arguments quickly retreat to the extremes, which only serves to make a reasoned assessment that much more difficult. On the one hand, you have the political agents of the government protesting that the changes are designed to stamp out “loopholes” to extract a fair share from the rich, and that small business in Canada has nothing to fear. On the other, this is doomsday and the falling of the sky is imminent.

First, it is entirely appropriate the tax code, with its biblical proportions, should be reviewed and amended. The economy is changing and new forms of wealth are being created. And rules can often have unintended consequences, some of which take years to become apparent.

It is further reasonable to assume any changes may well hurt some sectors of the economy or some income earners. It is government’s responsibility to stamp out excesses and flagrant abuse, but to do so in a manner that preserves the integrity of the system and, in its own words, to ensure “fair” outcomes.

In this context, one can imagine that amending the rules around income sprinkling are not unreasonable. I am sure other changes being proposed fall into that same category.

However, consider the following three examples of how some changes will affect certain sectors:

1. The start-up community in Canada, of which we are so proud, and which is so important to introducing new technologies and ensuring that we are globally competitive, most often gets its early stage or first round of financing from friends and family.

This funding is usually modest in its scope but enormously important in its impact. Without it, entrepreneurs would have no ability to fund early development work. Under the new rules, gains made by family members who invested in helping get the business started would be taxed at the highest marginal rate. This is more than twice the rate that the same individuals would pay in the event they invested in any public company.

Think about it: the effect is bizarre. Beyond the tax and incentive impact is the concern that friends who might invest in a start-up will no longer have the comfort of seeing family members also invest. It’s the catalyst of family support that most often brings friends into the circle.

2. As young companies grow, their need for further financial support grows in tandem. An important source of such capital often comes from entrepreneurs who themselves have built and exited successful companies. These entrepreneurs go on to found investment holding companies, from which they provide such funding. And it’s not just their financial support that is important; it’s the advice, experience and mentorship that come with it. Under the new rules, investment holding companies will be taxed at punitive rates, thereby discouraging their formation and activity.

3. Doctors use a variety of techniques to defer income, which is then taxed upon retirement. Under the new rules, various tax experts have forecast doctors will have from 30 per cent to 50 per cent less retirement capital. One can now appreciate why doctors are so upset. Their perception is that they are being targeted, and unfairly so.

So here is my point: change is warranted. But the impact of change needs to be carefully considered. I doubt very much the federal Finance Department intends to do anything to compromise the fundraising opportunities of our entrepreneurial sector. These impacts fall under the umbrella of unintended consequences.

So what should the government do? Slow down. Listen to those tax experts who have considered the impact of the proposed changes in-depth. Allow time for more public scrutiny and debate. Don’t make mistakes, then be forced into defending them, only to correct them later.

I have the highest respect for Finance Minister Bill Morneau. He didn’t need this job, nor to spend his weekends running around the country defending these changes. We are lucky to have a man of his calibre and experience in the position. This shouldn’t be about political partisanship; it should be about good public policy.

It still can be.