tax notes
TAX NOTES
February 2017
Budget 2017: A Conversation About Pre-Emptive Planning Why are you sending this to me? The Department of Finance is expected to announce that Budget 2017 will be tabled in Parliament in mid-March. There may be amendments to the Income Tax Act proposed in Budget 2017 that will affect you or your clients. Isn’t that true of every budget? Well, yes. But Budget 2017 has the potential to be more meaningful than in years past. Ok. So what are the rumoured changes that I care about? The most significant rumour is that the capital gains inclusion rate could increase from 50% to something like 75%. Why would the government seek to do such a thing? To some degree, this is good politics. Most Canadians will never realize capital gains since all of their wealth is held in tax-exempt form like RRSPs and principal residences. Increasing tax on people who realize non-exempt capital gains only impacts 10% of all tax filers, and more than 50% of the burden will fall on individuals with incomes in the top 1% of all tax filers. Whatever its economic merits, taxing the rich in an attempt to balance the budget is bound to be politically popular. Canada is also in a unique situation right now, as the government can be less concerned about “brain drain” to the United States than it normally would be when it raises taxes on individuals. As noted by Kevin Milligan (who was recently engaged to advise the Department of Finance), people who relocate have to consider the entire social package offered by the destination country, of which tax is just one part. When the Citizen & Immigration Canada website is crashing from increased USbased traffic, a reasonable inference is that the rest of Canada’s social package is very attractive. While there are many economic arguments against increasing the capital gains inclusion rate, there are also some in favour of taxing capital gains in the same manner as property income. The government could be expected to seize on the latter set of arguments. So these changes are plausible. What can be done? In years past, changes in the capital gains inclusion rate did not impact transactions entered into prior to budget day. Indeed, the Mulroney government gave advance notice through a White Paper. 5000 SUNCOR ENERGY CENTRE 150 - 6th Avenue SW CALGARY, AB T2P 3Y7 Tel: (403) 260-3300 Fax: (403) 263-9649 Email: [email protected]
1980 MANULIFE PLACE 10180 - 101st Street EDMONTON, AB T5J 3S4 Tel: (780) 428-8310 Fax: (780) 421-8820 Email: [email protected]
Suite 100 728 Spadina Crescent East SASKATOON, SK S7K 3H2 Tel: (306) 952-0894 Fax: (306) 952-2439 Email: [email protected]
2 Although Parliament is not bound by its past practices, a reasonable assumption is that any change will not impact transactions governed by a written agreement entered into prior to budget day. If a taxpayer is contemplating the sale of a capital asset or might die in the near-term future, or desires to extract retained earnings or corporate assets by realizing a capital gain, it may be advisable for the taxpayer to enter into transactions that would cause the realization of these capital gains prior to budget day. If properly structured, it should be possible for the taxpayer to later elect for the transactions to occur on a tax-deferred basis if no change is made to the capital gains inclusion rate. Before budget day? Yes. It is possible that any “grandfathering” will apply only to agreements in writing entered into before budget day. If the agreements did not exist, or were not reduced to writing until after budget day, then it may be too late. The CRA may audit transactions purporting to have effect prior to budget day to ensure that they were legally effective at that time, so attention to detail in implementation may become important. How do you know any of this will happen? We don’t. All of this is based on rumour and speculation. However, there are reasons to believe that this rumoured change might actually be proposed this year. First, the Department of Finance recently commissioned a review of federal tax expenditures by a team of external experts. The experts submitted their report in December 2016, and it was not made public. We understand that the reason for secrecy is that the Department of Finance intends to act on many of the recommendations, and the need for secrecy suggests that the recommendations to be acted upon are significant. Second, the Department of Finance released a report in December 2016 suggesting that the federal government will run a deficit until 2050 unless significant policy changes are made.1 The government may feel that this is politically untenable. Amendments to the Act that would raise additional revenue without overly constraining future economic growth could address this problem. Third, there are many commentators who are identifying this specific change.2 While budget secrecy is something the Department of Finance takes seriously – meaning that most commentators are engaged in baseless speculation – it is possible that one or more of these commentators is floating a trial balloon on behalf of the government.
1
Andy Blatchford, “Decades of deficits could be ahead for Canada, federal analysis warns,” CBC News (January 5, 2017). Retrieved from: http://www.cbc.ca/news/politics/decades-deficits-morneau-1.3923060. 2
See, for example: David Duff, “Time for Liberals to limit tax breaks that favour highest earners,” The Globe and Mail (February 6, 2017). Retrieved from: http://www.theglobeandmail.com/report-on-business/rob-commentary/time-forliberals-to-limit-tax-breaks-that-favour-highest-earners/article33917390/; Jamie Golombek, “Here’s why some investors are worried about the capital gains inclusion rate,” Financial Post (January 13, 2017). Retrieved from: http://business.financialpost.com/personal-finance/heres-why-some-investors-are-worried-about-the-capital-gainsinclusion-rate.
February 2017
Budget 2017: A Conversation About Pre-Emptive Planning Why are you sending this to me? The Department of Finance is expected to announce that Budget 2017 will be tabled in Parliament in mid-March. There may be amendments to the Income Tax Act proposed in Budget 2017 that will affect you or your clients. Isn’t that true of every budget? Well, yes. But Budget 2017 has the potential to be more meaningful than in years past. Ok. So what are the rumoured changes that I care about? The most significant rumour is that the capital gains inclusion rate could increase from 50% to something like 75%. Why would the government seek to do such a thing? To some degree, this is good politics. Most Canadians will never realize capital gains since all of their wealth is held in tax-exempt form like RRSPs and principal residences. Increasing tax on people who realize non-exempt capital gains only impacts 10% of all tax filers, and more than 50% of the burden will fall on individuals with incomes in the top 1% of all tax filers. Whatever its economic merits, taxing the rich in an attempt to balance the budget is bound to be politically popular. Canada is also in a unique situation right now, as the government can be less concerned about “brain drain” to the United States than it normally would be when it raises taxes on individuals. As noted by Kevin Milligan (who was recently engaged to advise the Department of Finance), people who relocate have to consider the entire social package offered by the destination country, of which tax is just one part. When the Citizen & Immigration Canada website is crashing from increased USbased traffic, a reasonable inference is that the rest of Canada’s social package is very attractive. While there are many economic arguments against increasing the capital gains inclusion rate, there are also some in favour of taxing capital gains in the same manner as property income. The government could be expected to seize on the latter set of arguments. So these changes are plausible. What can be done? In years past, changes in the capital gains inclusion rate did not impact transactions entered into prior to budget day. Indeed, the Mulroney government gave advance notice through a White Paper. 5000 SUNCOR ENERGY CENTRE 150 - 6th Avenue SW CALGARY, AB T2P 3Y7 Tel: (403) 260-3300 Fax: (403) 263-9649 Email: [email protected]
1980 MANULIFE PLACE 10180 - 101st Street EDMONTON, AB T5J 3S4 Tel: (780) 428-8310 Fax: (780) 421-8820 Email: [email protected]
Suite 100 728 Spadina Crescent East SASKATOON, SK S7K 3H2 Tel: (306) 952-0894 Fax: (306) 952-2439 Email: [email protected]
2 Although Parliament is not bound by its past practices, a reasonable assumption is that any change will not impact transactions governed by a written agreement entered into prior to budget day. If a taxpayer is contemplating the sale of a capital asset or might die in the near-term future, or desires to extract retained earnings or corporate assets by realizing a capital gain, it may be advisable for the taxpayer to enter into transactions that would cause the realization of these capital gains prior to budget day. If properly structured, it should be possible for the taxpayer to later elect for the transactions to occur on a tax-deferred basis if no change is made to the capital gains inclusion rate. Before budget day? Yes. It is possible that any “grandfathering” will apply only to agreements in writing entered into before budget day. If the agreements did not exist, or were not reduced to writing until after budget day, then it may be too late. The CRA may audit transactions purporting to have effect prior to budget day to ensure that they were legally effective at that time, so attention to detail in implementation may become important. How do you know any of this will happen? We don’t. All of this is based on rumour and speculation. However, there are reasons to believe that this rumoured change might actually be proposed this year. First, the Department of Finance recently commissioned a review of federal tax expenditures by a team of external experts. The experts submitted their report in December 2016, and it was not made public. We understand that the reason for secrecy is that the Department of Finance intends to act on many of the recommendations, and the need for secrecy suggests that the recommendations to be acted upon are significant. Second, the Department of Finance released a report in December 2016 suggesting that the federal government will run a deficit until 2050 unless significant policy changes are made.1 The government may feel that this is politically untenable. Amendments to the Act that would raise additional revenue without overly constraining future economic growth could address this problem. Third, there are many commentators who are identifying this specific change.2 While budget secrecy is something the Department of Finance takes seriously – meaning that most commentators are engaged in baseless speculation – it is possible that one or more of these commentators is floating a trial balloon on behalf of the government.
1
Andy Blatchford, “Decades of deficits could be ahead for Canada, federal analysis warns,” CBC News (January 5, 2017). Retrieved from: http://www.cbc.ca/news/politics/decades-deficits-morneau-1.3923060. 2
See, for example: David Duff, “Time for Liberals to limit tax breaks that favour highest earners,” The Globe and Mail (February 6, 2017). Retrieved from: http://www.theglobeandmail.com/report-on-business/rob-commentary/time-forliberals-to-limit-tax-breaks-that-favour-highest-earners/article33917390/; Jamie Golombek, “Here’s why some investors are worried about the capital gains inclusion rate,” Financial Post (January 13, 2017). Retrieved from: http://business.financialpost.com/personal-finance/heres-why-some-investors-are-worried-about-the-capital-gainsinclusion-rate.
