Wealth inequality in Canada is increasing and is now beyond the level that most people consider fair. According to Statistics Canada, the bottom 20% own less than 1% of all wealth, while the bottom 50% own just 6% of wealth. |
Most people think that our tax system levels the playing field. However, once you factor in capital gains taxes, small-business tax concessions and myriad other loopholes, the opposite is true. Rather than being progressive, our tax system exacerbates inequality.
First, take the taxation of capital versus income. Capital gains are taxed at half the rate of income.
The highest marginal tax rate for capital gains in B.C. is 22.5% compared with 45.8% for income taxes. This means the highest capital gain will be taxed at about the same marginal rate as an employee earning between $50,000 and $70,000.
Capital gains taxes are lumped into income taxes, information that should be disclosed, but a Department of Finance estimate in 2011 pegged capital gains taxes at just 2.3% of federal income taxes collected.
CEO and other executive compensation plans are taking advantage of this.
Most public company executive pay is now in the form of stock-based compensation, taxed at capital gains rates. These executives are not risking capital or necessarily creating jobs; they are simply taking advantage of a tax loophole.
Second, the small-business tax rate for Canadian-controlled private companies is just 13.5% for income up to $500,000. The small-business owner can pay this low tax rate, reinvest after-tax profits in real estate and other investments and retain the accumulated wealth until retirement when it can be distributed at lower tax rates. A family trust is often employed to split incomes among family members to further lower income taxes.
Third, the lifetime capital gains tax exemption allows business owners to receive $800,000 tax-free when they sell their business.
Again, a trust structure is commonly used to multiply the exemption among several family members.
The resulting tax-free windfall often amounts to between $2 million and $3 million.
What is the policy justification for this?
Fourth, we see a proliferation of lawyers, investors, accountants and other professionals incorporating to take advantage of these lower corporate taxes. With no change to the underlying services offered, they can save significant amounts simply by changing their legal structure.
These favourable corporate tax policies are usually justified by saying they’re needed to encourage business formation and job growth. But the evidence of this is scant.
A 2011 University of Calgary study surveyed the literature and found no evidence that small-business tax concessions increase growth or employment.
In fact, the empirical evidence suggested the system might act as a disincentive to expand by creating a “tax wall” beyond which entrepreneurs do not want to grow.
It may seem strange that a financier like me would argue for dismantling corporate tax concessions. However, I think even business owners should ask themselves the question: what is fair?
Over the last 10 years, the small-business tax threshold has increased, corporate taxes have decreased and the lifetime capital gains tax exemption has gone up. At the same time the concentration of wealth has increased.
The concern, of course, in taxing the wealthy too little is that we are taxing the poor too much.
Our concern should be for the working poor, for example, single parents, whose incomes have not risen materially in recent years.
Would we be better off economically and socially by cracking down on corporate tax loopholes and reallocating that to lower income tax rates? We could lift capital gains tax rates by 5% and still be competitive with the U.S.
We could shift that revenue into increasing the tax-free threshold, which would assist low-income earners and encourage more people to enter the workforce. It would provide a lift to disposable income, helping our economy and making our housing more affordable.
The challenge is to look beyond our own pocketbook and established ideologies to the empirical evidence and to what works best for our community. In this election year, we will see if inequality really matters.
Robert Napoli ([email protected]) is vice-president of First West Capital, a division of First West Credit Union that finances acquisitions, buyouts and growth. He is also past president of ACG British Columbia, an association for deal-making and corporate finance professionals. His column appears monthly in Business in Vancouver.
