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THE STANDING SENATE COMMITTEE ON NATIONAL FINANCE

EVIDENCE

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VANCOUVER, Monday, November 6, 2017

The Standing Senate Committee on National Finance met this day at 9:01 a.m. to study the Minister of Finance’s proposed changes to the Income Tax Act respecting the taxation of private corporations and the tax planning strategies involved.

[English]

Senator Mockler: Good morning and welcome to this meeting of the Standing Senate Committee on National Finance. I see that we have the quorum, and I declare the meeting in session. Before I continue, I would like to ask Senator Jaffer and Senator Neufeld to welcome us in their province.

Senator Jaffer: I welcome my colleagues to my beautiful city. I am thrilled that we are starting the consultations here. My sadness is that we cannot entertain you the way we would love to, but please take a rain check and let us entertain you the next time. Thank you for being here.

Senator Neufeld: Welcome, everyone, to beautiful Vancouver. This is a beautiful, vibrant city. I trust you had some time to look around yesterday when you arrived. Today we will be working all day, and early this evening we will be heading off to Calgary. So, welcome everyone.

Senator Mockler: Thank you.

My name is Percy Mockler, from New Brunswick, and I am chair of the committee. I would also like to ask the senators to introduce themselves starting to my left please.

Senator Jaffer: Senator Mobina Jaffer from British Columbia.

Senator Pratte: André Pratte from Quebec.

Senator Andreychuk: Raynell Andreychuk, Saskatchewan.

Senator Oh: Senator Oh, Ontario.

Senator Marshall: Elizabeth Marshall, Newfoundland and Labrador.

Senator Neufeld: Richard Neufeld, British Columbia.

Senator Cools: My name is Anne Cools. I am your deputy chairman and I am from Toronto.

Senator Mockler: Thank you.

Today, here in Vancouver, our committee continues its special study on the proposed changes to the Income Tax Act respecting the taxation of private corporations, and the tax planning strategies involved, changes that the Minister of Finance proposed during the summer of 2017.

So far, in Ottawa, we have held 13 public meetings. We heard from a little over 60 witnesses. We received, as of today, more than 30 written submissions. There is a lot of interest in this study, and the committee felt more consultation was needed. We decided to go across Canada to hear from Canadians about the subject matter, the order of reference that was given to us by the Senate of Canada.

Over the course of the day, we will hear from people who were requested to appear, people whose names were submitted by senators and other organizations and the public at large.

Honourable senators, today our first witness is Mr. Duff. Thank you very much for accepting our invitation to share with the committee your views, your comments and your recommendations.

Honourable senators, David G. Duff is Professor and Director of the Tax LLM Program at the Peter Allard School of Law, University of British Columbia.

Mr. Duff, please make your presentation, and it will be followed by questions from senators.

David G. Duff, Professor and Director Tax LLM Program, Peter A. Allard School of Law, University of British Columbia, as an individual: Thank you, Senator Mockler, and thank you to the members of the committee for the opportunity to speak about these proposed changes which raise important issues of tax policy and the process for making tax policy. Thank you also for bringing some nice Ontario fall weather with you, cold but clear, which is actually rare in Vancouver at this time of year.

As we all know, the government's proposals have generated considerable opposition. I will state at the outset, I am sympathetic to the spirit of them, if not all the details. Not surprisingly, a lot of this opposition has come from vested interests. That would be small business owners and professionals who benefit from the current tax rules, tax lawyers and accountants who advise on tax reduction strategies that take advantage of the current tax rules, and, of course, organized representatives of both of these groups whose purpose is to advocate for the interests of their members.

Also, not surprisingly, those very interests tend to dominate the public debate. There is nothing nefarious about this. This is just inevitable when you are dealing with complicated issues of tax policy where people who have an interest in the rules are likely to know them better than people who aren't using the rules, and of course they're the people who have the most to lose from changes to the rules.

And having looked at the witnesses that the committee is hearing from, of course, that tends to also dominate the public debate, so I do hope the committee will take that into account. This is not a task of simply adding up votes of who supports or who opposes, but of actually trying to serve the public interest.

For my part, as a legal academic who has taught tax law and policy for 20 years, I would like to think I'm not representing any particular vested interests, but rather, I come to the committee with a deep understanding of the tax rules for private corporations, the incentives they create, and the principles that underlie good tax policy.

So, beginning with principles, of course, we know that the traditional criteria for tax policy emphasize fairness or equity, neutrality and administrative simplicity, which is really a subsidiary value. You try to design the rules as simply as possible so that they can be complied with and administered simply. But the primary goals are fairness, equity and neutrality.

I want to step back from the proposals, the specific proposal, to set them in the context of these broader sets of issues. Among individuals, we know, or we traditionally view tax fairness or tax equity to require progressive or graduated tax rates. There are obviously debates about that, but Canada has adopted progressive rates since 1917. That's a hundred years where we have adopted that principle.

At the same time, fairness and neutrality are often assumed to require the same treatment of all types of income within a comprehensive tax base. That was the view of the Royal Commission on Taxation under Kenneth Carter in the 1960s. Although, certainly, since then, a number of arguments have been made for taxing capital income less heavily than income from labour, and Canada does that to a large extent. We tax capital gains at half the rate of other kinds of income. We exempt gains on principal residences. There is a lifetime capital gains exemption. We encourage retirement savings through non-taxation of pension contributions and pension accumulation, retirement savings, and we have rules for Tax-Free Savings Accounts.

Neutrality has also traditionally meant that we do not try to distinguish between the taxation of dividends and capital gains, though we have fallen out of synch with that certainly since 2000 when the capital gains inclusion rate was reduced, and the lifetime capital gains exemption also creates incentives for converting dividends into capital gains. That underlies the issues of surplus stripping that were addressed in one part of the federal government's proposals, but they, they have backed away from them.

Neutrality and fairness also underlies the basic unit of taxation which, in Canada, has been the individual ever since 1917. Notwithstanding that the United States adopted a spousal unit in 1948, the Carter commission recommended a family unit, and we occasionally take family relationships into account for other tax purposes.

In the context of corporate taxation, neutrality and fairness generally suggests that income derived through a corporation should be taxed no differently than income that is earned by an individual directly, and that principle underlies the dividend gross-up in tax credit regime for dividends that are received by individuals. Of course, that neutrality principle only applies when dividends are actually paid, and to the extent that the corporate tax rate differs from individual tax rates, there can be non-neutralities that are implicated in, again, the government's proposed tax rules.

The government's proposed tax rules are addressed at changes to private corporations. They don't directly address the broader issues of the individual tax rate, the income tax base or the tax unit, or even the integration system, but those issues are in the background and are an important part of the context for what the government is addressing.

In fact, to some extent, one might say that there are limitations when the government tries to address the symptoms of deeper issues in the tax system that create asymmetries -- the asymmetry between personal and corporate tax rates, which probably can't be completely eliminated because there are good reasons for having higher marginal tax rates, certainly on labour income; lower tax rates on corporate income, given the mobility of capital and other issues. However, I think the issues between the differential taxation of dividends and capital gains could be addressed, and certainly has been addressed at previous times in Canadian tax history. And I don't expect that we are going to revisit the individual unit or the principle of progressive rates that give rise to the incentives for income splitting, which are also at stake in the government's proposals.

The tax advantages associated with private corporations growing out of this broad system are really three-fold: one, a very low rate of tax on business income that is earned and retained by the corporation; opportunities, as I said, to convert otherwise taxable dividends into tax preferred capital gains -- the surplus-stripping issue -- and the ability to reduce taxes further by splitting income with lower-tax spouses or common-law partners and adult children, through dividends that need not bear any relationship to capital or labour contributed by the recipient of the dividend.

We know the federal governments’ proposals aim to limit the first of these advantages through a deferred tax on passive investments, the third of these advantages through the expansion of the tax on split income, the so-called TOSI; and of course, the government has backed away from its initial proposals to try to address the surplus-stripping issue through amendments to section 84.1, and the introduction of an anti-surplus-stripping rule based on a former provision of the Income Tax Act.

Now, given limited time, I have prepared remarks to talk about both the passive-investment issue and income splitting, but I focused more on passive investments, and if I run out of time, I can leave the discussion of income-splitting issues to questions.

So, with respect to passive investments, we know that, as I said, that the gross-up in tax credit only creates a neutrality between corporate and shareholder tax when dividends are paid out. Up to that time, there may be a tax advantage, a so-called deferral advantage, from leaving income within a corporation. In the case of passive income of a Canadian-controlled private corporation, the Canadian tax rules try to correct for or prevent that deferral advantage by imposing a refundable tax on investment income. Where the income is not investment income, but active business income, we have the small business deduction, which provides a very low rate of approximately 14 percent averaged across the country That is much, much less than the top marginal rate of personal income tax, which is more in the range of 50 or slightly more than 50 percent.

Now, the rationale for that low corporate tax rate is that it encourages the growth of small businesses by leaving Canadian-controlled, private corporations with more after-tax income to reinvest in the business. However, there's a big policy debate about that. I am sure you have spoken to some economists and you will hear from more of them, who have questioned whether the small business deduction actually does that, or whether it encourages businesses to remain small; whether the foregone revenue could be better used for other purposes. Suggestions have been made for some kind of investment allowance that actually encourages investment, rather than just giving the low rate for any Canadian-controlled, private corporation.

In particular, of course, the small business deduction, the low rate, is not conditional on the business actually reinvesting that income in the business, or creating jobs, the things that are generally associated with the virtues of small business. It's available regardless of whether the CCPC reinvests in the business or hires any employees.

Notwithstanding these criticisms of the small business deduction, it appears to be pretty firmly entrenched in Canada, at least for now. The question is this: How does one police it or limit access to it so that it serves its purposes? Over time, there have been various amendments to the rules that have done that. Specified investment businesses are not permitted to access the small business deduction, because they're investing passively. Incorporated employees cannot access the small business deduction, because it's just one person who would otherwise be an employee, and for a period of time, from 1979 to 1984, regulated professionals could not access the small business deduction. That exclusion was repealed in 1984, and it is arguably in the background of a number of the changes that have taken place since then, and of concerns that the government has had.

In that light, I think that the government's proposals on passive investments really should not be viewed as a radical departure from the existing rules but, rather, a continuation of a series of amendments that have occurred over time to try to better target the small business deduction on its real purpose, which is to encourage the growth and reinvestment in the small business.

In that sense, it's consistent with a tax that was introduced and retroactively appealed in 1973 that would have imposed a refundable tax on ineligible investments in order to increase the rate of tax on corporate income that is not used to invest in the business, but is used to invest for personal savings within a corporation. The purpose of that refundable tax is basically to make sure that the after-tax income a corporation has available to invest would be similar to the after-tax income that a shareholder would have if the shareholder had paid tax at the shareholder's marginal tax rate. So, again, it's that principle of neutrality that underlies the rules.

As I say, this tax was repealed before it came into effect, but that was in a very different era when the rate differential between the small business tax rate and the personal tax rate was not as great as it is today -- more in the range of 30 or 40 percent versus 50 percent, or slightly more; versus 14 percent versus 50 percent, or slightly more.

So, the changes in the corporate tax rate have put a lot of pressure on this system. Of course, that has also encouraged the use of Canadian-controlled, private corporations for passive investments. In that context, I think a rule like what the government proposes, though not exactly in its form, tries to address that issue. It makes a lot of sense, to restore neutrality to the system and to make sure that the small business deduction, a very, very generous tax incentive, serves its intended purpose, to encourage businesses to reinvest.

I may be almost out of time, but I'll finish on this point, and then we can talk about income splitting.

That said, I think that the government's current proposal, which is this deferred tax system, is actually unduly complex, hard to understand, and probably very difficult to administer. Something more like the original refundable tax on ineligible investments that was introduced and repealed is a much smarter way to go. The purpose is clear. It's more easily administrable. It does put pressure on what the dividing line is between eligible and ineligible investments, and I am happy to answer questions about how that dividing line might be drawn.

Just as a final comment before stopping, I do want to step back. I have emphasized stepping back from these rules to talk about the broader issues, because I think that's an important task that has been missed in this process, that all of these reforms implicate broader issues of the tax system. I know a number of witnesses have suggested that maybe the response to those reforms, both in terms of the political process and in terms of the government backing away from certain issues and addressing them in piecemeal fashion, does suggest the need for a deeper dive into the income tax rules -- to revisit them. Now, many years after the Royal Commission on Taxation, it may be time for that again.

Senator Mockler: Thank you, Professor Duff.

I will recognize Senator Jaffer, to be followed by Senator Marshall.

Senator Jaffer: Thank you very much, Professor Duff, for taking the time to speak to us. I have two questions. One, can you clarify what you mean by “eligible” and “ineligible” income please?

Mr. Duff: We currently have a dividing line between eligible and ineligible investments in the context of our rules for the refundable tax on investment income, and the refundable tax on investment income applies to income from property, not income from business. How do we determine whether you have got income from property versus income from business? Well, part of the rules for drawing that line say, if the income is from property that is used for the active business, then it is in the income from business category. We don't impose the refundable tax on dividends. There is case law that has developed that test. It says that if the property is used or risked in the business, then, even though it looks passive, it's really active and would not be subject to our current tax. That dividing line could be adopted for distinguishing between eligible and ineligible investments with a tax on ineligible investments.

That said, I think moving in that direction puts some more pressure on those rules than simply the refundable tax on investment income. And the case law on the refundable tax on investment income has said, well, a reasonable reserve for business purposes would be legitimate. So, some reserve for contingencies that are active business assets wouldn't be subject to the tax, refundable tax on investment income, and presumably wouldn't be subject to a tax on ineligible investments.

However, the case law has said, if you save in order for future business expansion, that's not actually property that's used in the business. I think that's really where, in the fine-tuning of these rules, one might be a bit more generous and say, well, a lot of businesses set money aside for a period of time in order to take advantages of business opportunities to invest later on, and there might be some so-called safe harbours for not subjecting those kinds of investments.

In order to draw this line in the tax on the ineligible investments, one would start with the current rules that draw the line between active business income and income from property, but I think probably modify them in various ways to provide some safe harbours, as I said, for investments for future business expansion, investments for business contingencies, investments -- this has been in the media as well -- for parental leave later on by professionals. These are all business-related reasons. I think the distinction should be between investments that are ultimately for a business purpose, versus investments within a corporation there are ultimately for personal purposes, personal saving and retirement saving. That is the dividing line, if you want to draft rules that distinguish.

Senator Jaffer: Professor, thank you for that explanation. I just want to make clear that our chair and the steering committee make very sure that we hear from a range of people. We don't just hear from people who are not in favour.

Mr. Duff: I know and I do appreciate that. I wasn't questioning the committee in any respect.

Senator Jaffer: No, no, I know.

Mr. Duff: It is an inevitable part of the political process when some people know things, and others don't, and some people are committed to issues, and others are less so.

Senator Jaffer: My bigger question to you is on equity. I am really concerned about the $50,000 that the minister is now proposing on passive income. For me, you can't put every business at 50. Some businesses could be at 20. Some could be 50. Some could be 100. I think that maybe it should be a percentage, because, as you of course know, not all businesses are the same. I want your opinion, especially since, in the beginning, you spoke about equity.

Mr. Duff: Yes, I share that view. The beauty of a dollar threshold is that it is simple, it's clear, and can be applied across the board. I tend to prefer the idea of categorical exceptions, as I said, an exception for passive investments that are held for a period of time and then reinvested. So, you might say, a safe harbour threshold of three years of the investment, or something like that. That's categorical rather than a dollar threshold. Maybe you combine it with a dollar threshold, which would makes it even more complicated; or passive investments for parental leave.

I think the core is to try to distinguish the purpose of the investment, and if one does that, I think there's a greater principle to try to draw those lines. Those aren't always easy to draw, but tax law has to do it all the time. It's a fairer more principled way of going about it, than simply an arbitrary dollar threshold that may be more than necessary in some circumstances and less than necessary in others.

Senator Jaffer: Thank you.

Senator Marshall: This is a continuation of the question that Senator Jaffer asked. The government has amended the proposal so that there is now a $50,000 threshold limit, but they have provided no details with regard to the grandfathering. They are talking about grandfathering. So, what would you suggest? Like, what would your preference be as to how they're going to implement the $50,000 limit on passive income?

Mr. Duff: I think, on the grandfathering issue, that the deferred taxation approach the government has suggested makes the transition much more complicated, because you have investments that are already in a corporation, that are then going to come out and be subject possibly, or not, to deferred taxation. It's, again, part of the problem with that design that requires tracking of different sources of income through the system, which I think is extremely complicated and will be onerous to administer.

As you say, the details on how they address the $50,000 have been very sketchy. So, I have really no idea how one would implement it. But I think the more one delves into that issue, the more one tends to favour an upfront tax, like the repealed tax on ineligible investments. That would only apply on a going-forward basis and would make the transition much easier, because it would apply when the date comes into effect and apply on those new passive investments, however defined.

Senator Marshall: Based on what you have just said and given that in your earlier remarks you talked about simplicity, do you think that with the new proposal of $50,000 the government is going to be able to implement it; or do you think that because it's not straightforward and too complex, they won't be able to implement it?

Mr. Duff: I think clever people can design rules that work in principle, as we see from that part of the paper that has the deferred tax regime. I just think, in practice, it's very difficult for a lot of small businesses to comply with those rules. It will put even more pressure on them since it's already in the system, and they are going to be compelled to keep track, whereas, on a going-forward basis, you can say, “Well, if they don't invest in passive assets, they don't have to worry about that whole issue.”

Senator Marshall: No.

Mr. Duff: They avoid it. So I think it's doable, but it's complicated.

Senator Marshall: Right. But what's in there now has to be divvied up into different groups, doesn't it?

Mr. Duff: Right.

Senator Marshall: So, for some companies, it may mean going back a fair number of years in order to determine which category it falls under.

Mr. Duff: Yes, to determine the source of the income from which the investments originated.

Senator Marshall: One of the other issues that has been touched on in other committee hearings, and we haven't really explored it, is the issue of the government’s response of reducing the tax on small businesses. Some witnesses have indicated that it really doesn't make any difference, because when the income comes out as dividends, the income tax is going to increase on those dividends. So, really, in the overall picture, that it is not going to mean any savings for small businesses and their owners. Are you able to speak to that issue?

Mr. Duff: Yes. That goes to the deferral issue, so long as income can be retained in a corporation. It's true that, when the income comes out, the gross-up and tax credit system is designed to make the system neutral between --

Senator Marshall: It's integrated --

Mr. Duff: -- a corporation or directly. But that could be many, many years. In the interim, the income can be reinvested, either in active business assets or in passive investments, and does provide an advantage. Any tax expert will tell you that deferral, if it's long enough, is as good as exempting something.

So, the deferral advantage is a significant thing. By reducing the rate from 11.5 percent down to 9, it adds to that deferral advantage.

I must say, it also puts more pressure on the system. A lot of the government's proposals are in the context of a system that's putting pressure on -- with high personal tax rates and low corporate tax rates -- the system by encouraging people to incorporate. We have seen the number of CCPCs increase, et cetera. And so, I must say, I'm concerned about continuing with reduced small business tax rates because I just think it puts a lot of pressure on the system. Then we are trying to paper over the problems with these kinds of rules.

Senator Marshall: If you disregard the advantage to the deferral, which you said for so many years, is it a dollar for dollar? In other words, for a dollar reduction in your small business tax, do you end up paying the additional dollar when you take it out?

Mr. Duff: Well, I would say a dollar today is not the same as a dollar 20 years from now.

Senator Marshall: No, I know; disregard that.

Mr. Duff: So, yes and no would be the answer. Yes, maybe a dollar, but I would rather pay a dollar in 20 years than a dollar now. So, it's really not the same dollar.

Senator Marshall: Yes, I understand that, but ignoring that part, the deferral and that advantage is it dollar for dollar? It does not work like that, does it?

Mr. Duff: You said just ignore that, but the deferral is so central to everything at stake here and so central to tax policy that I can't ignore it. You are asking me to ignore the essence of the thing.

Senator Marshall: Thank you.

Senator Mockler: Senator Pratte, to be followed by Senator Neufeld.

Senator Pratte: Welcome to the committee. I want to go back to an initial comment. You mentioned that more people who are opposed to the proposals and knowledgeable about tax issues will be mobilized than those who are favourable to the changes. You expressed the wish that the committee would not simply add up people who are opposed to the changes and report on that. Would you elaborate on that? I am not sure I understood what you meant or what you wish the committee to do.

Mr. Duff: Obviously, the committee has to reflect the voices it hears, but I think it should be cognizant of the fact, as I said, that it's just inevitable you will hear more from opponents than supporters. That's not your fault. It's not anybody's fault. It's just the way that politics work, particularly when you have got very complicated rules.

To my mind, this is one reason why significant tax policy probably ought to be done differently. In some sense, significant tax policy is almost quasi-constitutional, and it's important to step back from the day-to-day politics that infects that process, to have reasoned discussions based on principles that underlie sound tax policy. How do we do that? Well, committees like this are capable of doing that. Other processes are capable of stepping back from the day to day and to focusing on underlying principles. I think that we generally constrain ourselves to do the right thing when we focus on principles rather than the immediate interests that are served by particular changes to tax rules.

Senator Pratte: If there were to be this in-depth examination and review of the whole tax system, which you seem to favour -- and certainly a lot of witnesses that we have heard have expressed the view that it is time for that kind of review 40 or 50 years after the Carter commission -- what should be on the agenda of such a royal commission or expert committee, whatever?

Mr. Duff: One of the key issues at stake in this debate about private corporations is the relative taxation of labour income and income from capital. The Carter commission had a view that a buck is a buck is a buck, that we should adopt a comprehensive income tax, and income from labour and capital should be taxed the same. There are some fairness principles that favour that.

At the same time, there are fairness principles and pragmatic reasons in the more globalized world that we live in today, that in many circumstances may favour a differential tax on capital income versus labour income, and lots of complicated issues to administer that. But we have seen that evolve with reductions the general corporate tax rate from a level that was much like the top marginal individual rate back at the time of the Carter commission to a rate now that's 27 percent versus 50 percent.

So, we have de facto evolved toward a system like this, but it's not consistent. It's sort of an erratic process. That's an important issue that requires revisiting, to consider schemes like the Nordic dual tax system that has a differential rate on capital income and labour income. It might have a lot of advantages to it that could be equity advantages, in particular, to the extent that passive losses tend to be segregated then into the capital income world and cannot be used to shelter other kinds of income. A lot of that goes on in our system as well. So, I think that is really a core thing that needs to be considered, and the role of corporate taxation generally as part of that.

I think at stake in this debate is also the choice of the tax unit and how we deal with income splitting and attribution. Again, the rules in our system are piecemeal. We have adopted attribution rules that were exceptions in the private corporate context that were the result of a Supreme Court decision in the late 1990s. The government responded in piecemeal fashion to the tax on split income that only applied to children. Now it wants to extend it to others, and it's piecemeal rather than a principled approach to think about the tax unit, income splitting, more generally, and what the appropriate response is to that. So, I would that put on the table too.

Senator Pratte: You have mentioned the idea that a tax system should be as simple as possible, and we have heard a lot of people, even tax practitioners, say that the tax system has become very complex. Is it possible today, because the reality is so complex, to have a tax system that is simpler than the one we have, and to have proposals that achieve the goals that the government is trying to achieve without increasing the complexity of our tax system?

Mr. Duff: I would say, yes. First, one of the keys is to try to minimize asymmetries in the system. So, you can get rid of a lot of complexity around surplus-stripping rules if the tax rate on capital gains is similar to the effective tax rate on dividends. Canada did that to a large extent from 1972 to 2000, absent the lifetime capital gains exemption, which put some wrinkles in that system, but absent that, we were in synch. When the capital gains inclusion rate was reduced to 50 percent in 2000, it put the system out of synch again, putting pressure on a system, because now people want to have capital gains rather than dividends. So, simplicity can be promoted by reducing those asymmetries. You are not going to be able to reduce all of those asymmetries.

A dual rate income tax that treats capital income differentially than labour income would be another way to reduce some of those asymmetries. It introduces a new asymmetry, but only one, as opposed to piecemeal asymmetries. So, then you could have a much simpler method of corporate tax and dividends, and one wouldn't have to worry as much about these taxes on passive investments or ineligible investments.

Another benefit might be to eliminate the small business rate completely and have one corporate tax rate that might be higher than the current small business rate, but lower than the current corporate tax rate, and the U.K. has moved in that direction. Again, you reduce those asymmetries, you can promote simplicity. That said, as you say, the world is more complicated than it used to be, tax is complicated, and there will always be a degree of complexity.

I think the tax on split income is particularly complex, and I do think it's unfortunate that the Supreme Court decision in 1998 went the way it did. I criticized it at the time. We would have had a simpler system with judicial decisions policing the system had that not happened. But now we have a very elaborate tax on split income.

Senator Pratte: Thank you.

Senator Mockler: Senator Neufeld to be followed by Senator Andreychuk.

Senator Neufeld: Senator Pratte had asked some of the questions about the simplicity of the tax system that we have now. You talked about a deeper dive. To sum that up a little bit, would you agree with me that what should happen is that, given the complexity of these changes that were proposed in the middle of the summer when most people weren't probably paying attention, it would be best to actually back away from them and start a deeper dive into a very complex process of tax change? Would you agree to that statement?

I will tell you what we need, is to have some things from people of your knowledge put in your report that are meaningful, not obstructive, but meaningful to actually moving forward, especially, and we are talking specifically about tax structure now.

Mr. Duff: That, of course, is a big and sensitive issue and it involves --

Senator Neufeld: Oh, don't worry about being sensitive.

Mr. Duff: -- saying things that I don't particularly want to. But I know that there has been a lot of criticism about the way the proposals were introduced in the summer, with a relatively short consultation period, which now has actually de facto been extended, as it, as it turns out, which is what invariably happens in those sorts of circumstances.

That said, of course, we also know that there is a lengthy history of governments introducing tax reform without any notice in budgets, right? So, from that perspective, you might say that the government has actually been a little bit more open and transparent than often is the case. One can think of the Halloween night tax reform many years ago with income trusts that just, boom, it was enacted into legislation on a budget.

So I'm kind of reluctant to go too far in criticizing a government for trying to introduce changes to address, as I say, symptomatic issues that are problems. Stepping back from them and simply saying, “Okay, now we're going to wait another five years for some kind of massive report to address the structural issues that these are symptoms of.” I'm a little reluctant to go that way because I see current problems that I think need to be addressed, even as an interim measure, and I support, in principle, some of these attempts to address the current problems. So, I wouldn't want the government to simply back away from this now and wait another five years before doing anything. I think it will exacerbate the problems that we have right now. That’s probably not exactly the answer you wanted from me.

Senator Neufeld: I'm not asking you to criticize the government either. I am not here to say that. What I'm saying is, how do we move forward in a rational way? I mean, to say, “Well, I agree with some of it, so we should put that in, but that will bring some other complex issues later on.” I'm asking, is there some way to move forward that we should actually recommend? I’m not being critical of the government. I mean, all governments change tax rules, and you are entirely correct, sometimes it happens, boom, and nobody knows it is coming. Is there something that involves the public, small business and people who are affected, that will actually make them feel like they're being listened to? I am just asking if there's an easy way out of this complex problem that will actually move things forward in a way that serves more people in the whole tax system in a better way than what we're doing right now? Or are we going to continue to pick that little part, and I agree with that, but I'm going to take that part, this big part, and I'm going to complain about it. That's where I'm coming from. It's not to criticize. It's to actually, in a way, find something that can give the government an out.

Mr. Duff: Help them out of a jam.

Senator Neufeld: I would say, and I think you would agree with me, if you want to be critical, the change the government made from 11.5 percent to 9 percent was to try and get themselves out of a jam. So, they are trying to do it. Why wouldn't we recommend some way to them to get out of the jam?

Mr. Duff: They have already backed away from the surplus-stripping proposals. That's off the table for now. I would say, if pressed, that the passive income proposals, first of all, are much less developed than the other proposals; and they really do implicate, in a deep way, how we tax capital income versus labour income, which I think is one of the core issues that needs to be addressed in some deeper dive into the income tax. So from that perspective, it might be that maybe they should pull back on that for now.

I think the income-splitting issue is more problematic. I think the inequities of certain people being able to split incomes and pay $50,000 of dividends tax free to adult children at university is much more problematic and more pressing.

The growth of CCPCs since 2000, particularly with provinces saying, “Okay, now you can have non-practitioner professional shareholders in those professional corporations.” is a more acute issue. If one is looking at the proposals, I would say, “Okay, pull back on the passive income for now and do the deeper dive. Do a limited solution on the income splitting now, and then go forward and think more deeply about these issues.”

Senator Neufeld: You talked about the small business tax rate, and I agree with you, that reducing it from 11.5 percent to 9 percent widens the gap that they were trying to close earlier. That's how ridiculous it gets when you start taking little pieces and saying, “We're going to fix this.” So, to try and make the public feel better about them, they reduced the tax rate, and actually all the things that the government has preached about, the fairness, went out the window with it.

You said you weren't in favour of a lower tax rate for small business. You talked a little bit about maybe having it the same rate as the corporate tax rate. Maybe you could speak a little bit about what you think would be a fair tax rate for small business.

Mr. Duff: The U.K., for example, has moved towards a single corporate tax rate. So, you get rid of this kind of this asymmetry. Now, a single corporate tax rate would probably have to be higher than the small business rate. Maybe it would be somewhere around 20 percent for all corporations. Twenty percent for all corporations would be then, if it were combined with other kinds of incentives for investment, or a lower tax rate on capital income, a kind of a trade-off that would work even for small businesses. It would also allow us, I think, to go back to a world where we could have a capital gains inclusion rate that was symmetrical with the dividend rate. The 20 percent worked well with the three-quarters capital gains inclusion rate.

So, I think a package of reforms that would increase the capital gains inclusion rate, lower the large corporate tax rate and increase the small business rate, would start to create a system that has fewer of these asymmetries. It could be an attractive package. I mean, with tax reform, there are always some winners and losers, but it could be an overall attractive package, I think.

Also, economists would say that it would probably be good for the economy of Canada too -- more neutral, probably encouraging more growth in various contexts.

Senator Neufeld: Thank you.

Senator Mockler: Senator Andreychuk to be followed by Senator Oh.

Senator Andreychuk: I'm a bit confused. You have given us certain solutions to small problems, and then you say how it might be done if we did it more globally.

The government announced that they wanted a salaried employee to have tax fairness equal to a small business that's incorporated. Then, more recently, Minister Morneau last week said, “Well, it's the fairness between incorporated small businesses and those that are not incorporated.”

What was the public policy, in your opinion, that drove the government to hive out small business, go after the three areas there and leave everything else in abeyance, or at least not have developed a policy rebuttal? Have you figured out what they were doing? Of course, as you have pointed out, there's fairness and unfairness all over the place. So, why did they pick this approach after they did the 1 percent on the top and didn't get it?

Is it a philosophical thing to say, “This is growing the middle-class,” or was there some trigger in the tax community?

Mr. Duff: If one looks at the government paper, one sees some evidence that indicates a rising number of CCPCs, a larger share of income as a percentage of GDP that is active business income of CCPCs. So, we have had incentives that have encouraged the use of Canadian-controlled private corporations, and in particular, with the use of professionals accessing the CCPC, perhaps not for the original purpose, to grow small business.

So, I think the government probably looked at that information, took into account these neutrality issues. So, the neutrality issue could suggest that, well, why should somebody who happens to have a private corporation get significant advantages that aren't available to unincorporated businesses or, as you say, salaried employees. So, either one.

But what are those advantages? I don't think the government ever said, we want to get rid of a low rate on corporate income where the income is reinvested in the business. So, in that respect, I don't think the government has ever said, we want to treat the small business the same as the salaried employee. I think there's a recognition that small businesses are differently situated, they have greater risks, they have to reinvest in the business. It has been the passive income and the saving for retirement that has been the focus, that there's a potential advantage there that's not available for others.

We have lots of very attractive provisions to encourage retirement savings, and certainly for some people who have already maxed out on those, they are able to get further benefits through a private corporation. And that I think does implicate these concerns that the government has about higher-income taxpayers accessing tax advantages that aren't available to the middle class, and trying to address issues just beyond simply the rate issue, but other ways that high-income taxpayers are able to avoid those higher rates that were introduced through passive retirement savings in a CCPC and through income splitting. Certainly those techniques have been available. Now, maybe they haven't explained that as well they might, or maybe the target went off in too many different directions, but I think there are legitimate concerns there that are equity concerns and neutrality concerns.

Senator Andreychuk: Well, the pushback I hear is, “We didn't incorporate for a tax advantage, but if it's there, it's not a loophole. It's a legitimate use. And if it's there, we will avail ourselves of it.” So, it's not a loophole, it's not a misuse of the tax system, and it certainly isn't illegal. So, they feel they're put upon because the pushback has been, “I didn't incorporate for the tax advantage.” Some did, who may have skilled sources. But many of them have incorporated, for example, franchise companies that have just boomed recently. You have to be incorporated in many of them. So, it wasn't necessarily the choice of that person. In some places, lending institutions will not deal with you unless you are incorporated. In my province that's the difference. Should they be near bankruptcy and have to dispose of the assets, they want to go for the shortfall. Without incorporation, they can't go for the shortfall because there are two acts that prohibit it. We're protecting individuals that may find themselves insolvent.

So, I am having difficulty understanding why the government proposed this slice of the whole system. The more you talk, the more I think it needs to be addressed more globally. It wasn't done in a social policy way. It wasn't done in a government policy. Why would you introduce this and zero in on the unfairness of the tax when, in fact, our health system and doctors, the professionals you are talking about, are going to be affected, and that may have a ripple effect on our health system. The doctors we want in rural Canada, the doctors we want with the specialties, might not be there. Why would you not understand the risk in farming? You know, really, it is a family unit. So, you can't deal with it on an individual basis. There are so many social policies and global government policies that should have been taken into account.

I spend most of my time on trade issues, and there are all kinds of incentives to grow the middle class, but also we must consider that the backbone of our economy is small- and middle-sized companies.

I don't hear that. It looks like a negative rather than a positive. If you say that 3 percent of the incorporated small businesses are really at the high end, their rebuttal is, “We're there because we want to keep going higher, create more jobs, create more industries,” et cetera. Now, I'm sort of jumping around, just like the government.

Mr. Duff: Is there a question?

Senator Andreychuk: Would it be better to come up with a policy that not only looks at the tax base, but how we should position ourselves in the economy of the future?

Mr. Duff: There were a lot of things you said, and you ended by asking for broader policies. That is not my area of expertise. Of course, I focus on tax policy. Ideally, tax policies should be consistent with other policies.

I do want to address the point that you said earlier, this is not a loophole. It's not a misuse or abuse of the provision. Of course, if these strategies were misused, or misuses or abuses, the government would be responding through the general anti-avoidance rule, through litigation. The government has not said that these things are misuses or abuses of the current tax system. But the fact that something is not a misuse or abuse of the current tax system doesn't mean it has to remain in place forever if there are problems with it. The government has identified rightfully some problems to the current system. People aren't entitled forever to tax rules when they pose problems.

In particular, with the income splitting, it really didn't exist as an opportunity until 1998 when the Supreme Court decided the decision in Neuman vs M.N.R. It has been a recent phenomenon. People grow used to those opportunities. But I don't think they have entitlement to them forever if they are not really sound tax policy, and I don't think that opportunity is.

As you say, most business people have not incorporated to get those advantages. Some have, and I think that would be the case for some high-income professionals. But the fact that they didn't incorporate for those purposes doesn't mean that they should, therefore, be entitled to access tax advantages that aren't really necessary to the growth of the business. After all, income splitting only works if you take money out of the business, not plow money back into the business. I wanted to address that point in particular, which is a tax policy point. I'm not competent to address a number of the other points that you raised.

Senator Mockler: Senator Oh will conclude the questions for the first panel.

Senator Oh: Thank you, professor, for being here.

Many questions have been asked, and I want to take the questioning in a different direction.

In 1917, when the Income Tax Act was first introduced, there were only six pages. Today, at 2017, now we have 1,412 pages. In your opening statement, you said that this tax reform is unduly complex, hard to understand, and very difficult to administer. Would the citizens of Canada be fairly treated by the CRA if such a complicated tax reform were implemented? Would they be fairly treated by the CRA? Nobody wants to get a visit from the auditors when, you know, it could be swinging any way they wish.

Mr. Duff: Well, my general impression of the CRA, as a government agency, is that they try to do a good job for the most part. They are often understaffed. They may not know the rules as well as some of the private practitioners know the rules, and so you hear that from private practitioners. They get frustrated with people who may not know the rules as well as they do, and so may have adopted an interpretation that they do not agree with, and we have courts to sort that through.

But, for the most part, I think the CRA tries to do a good job, and certainly relative to tax agencies around the world does a good job. The complexity makes it harder for them to do a good job, and it's true that the Income Tax Act is much more complicated than it was in 1917. The world is more complicated, too, than it was in 1917.

I think the CRA's task becomes easier if the rules are as simple as possible. So, I do think that's an important objective, both for the CRA to administer the rules, but also for taxpayers to comply with the rules and to avoid, as much as possible, costly disputes that may be necessary to resolve those issues.

That's the best way I can try to answer that question. I don't know whether you feel that answers the question.

Senator Oh: Thank you.

Senator Mockler: We have time for a second round, but one short question. Senator Marshall.

Senator Marshall: Thank you very much, Mr. Chair.

Last night, there was a lot of coverage on television about the Paradise Papers. We're looking at small business owners now, and a lot of them are middle-income earners. They are looking at individual taxpayers who have much higher incomes, and who are able to use offshore trust accounts to their benefit. Do you have any opinion on that? Like, how fair is our tax system?

Mr. Duff: I discussed this when the Panama Papers were released. It looks like we are living in an era when there are going to be regular leaks of information on people investing in tax havens. Canada has relatively robust rules for taxing offshore trusts, offshore corporations. The problem is information, and that's why the leaks suddenly provided all this information.

The world has moved significantly, over the last decade, in the direction of exchange of information under the leadership of the OECD. As important as adopting rules, it is also just as important having information from which we're able to determine who is behind an offshore entity, who is actually the beneficial owner of an offshore trust or an offshore corporation. That I think is the key issue going forward internationally. That's underway. What we have seen thus far are these old, in some sense, structures that were set up before. Much of the information exchange is happening, and that I think, as much as anything else, will change that environment for the better?

Senator Marshall: You are fairly familiar the Income Tax Act. Do you think that the rules on trusts and these other forms of tax structures need to be reformed along with the small business rules for private corporations?

Mr. Duff: As I say, I think, for example, the rules that we have for foreign accrual, property income for corporations are relatively robust, provided you have got information. The rules for trusts were amended a while back, but I think they generally do the job as well.

The government did introduce proposed rules for passive foreign investment entities that they ultimately backed away from. Some case law has indicated that, having backed away from it, the courts have been reluctant to apply those rules aggressively. So, that might be something worth looking at.

As I say, I think that, for the most part, our rules are not bad. It's the information to administer those rules that make the big issue. The government has invested more money in the CRA to obtain that information. An automatic exchange of information is increasingly the standard internationally.

Senator Marshall: Thank you.

Senator Mockler: Professor Duff, you were very informative. Thank you very much.

To the witnesses on our second panel this morning, thank you for accepting our invitation. It is quite an honor to receive your comments, your views and your recommendations. As you know, the Standing Senate Committee on National Finance was authorized by the Senate of Canada to examine and report on the Minister of Finance’s proposed changes to the Income Tax Act respecting the taxation of private corporations and the tax-planning strategies involved. In particular, it was income sprinkling; holding passive investment inside private corporations, and the third, converting income into capital gains. Also, the order of reference by the Senate of Canada indicated that the committee take particular note of the impact of the government's proposed changes on incorporated small businesses and professionals, economic growth and government finances, the fairness of the taxation of different types of income and other related matters. We will be tabling our report to the Senate of Canada by December 15.

Honourable senators, we have a panel composed of Mr. Iain Black, President and Chief Executive Officer of The Greater Vancouver Board of Trade; Surrey Board of Trade, Anita Huberman, Chief Executive Officer; and also, from the Chamber of Commerce of British Columbia, Val Litwin, President and Chief Executive Officer.

You have been informed by the clerk that we have five minutes for presentation and then the senators will follow with questions.

Mr. Black, please make your presentation, to be followed by Madam Huberman and Mr. Litwin.

Iain Black, President and Chief Executive Officer, The Greater Vancouver Board of Trade: Senators, thank you for the opportunity to share some thoughts with you this morning regarding tax reform, specifically for Canadian-controlled, private corporations, or as we like to call them, small businesses and entrepreneurs.

It is my privilege to serve as the President and CEO of the not-for-profit and strictly non-partisan Greater Vancouver Board of Trade, which, for over 130 years now, has represented the interests of the Vancouver business community, and today is one of Canada's most active, diverse and influential business associations. We serve over 5,000 members from across the Greater Vancouver region, over 80 percent of whom identify as smaller and medium-sized enterprises, and who collectively employ approximately one-third of the working population of British Columbia.

It will be of interest, I suspect, to some of you, as a point of additional context, that I was also twice elected as an MLA and served as a cabinet minister in this province, notably as the Small Business Minister and the Minister for Economic Development; and also pertinent to this conversation, I have run five different businesses.

B.C. has a very special relationship with small businesses that you may not know about, but it is very important for our conversation today. Almost 6 out of 10 jobs in B.C. come from the small business sector, and over a third of the gross domestic product comes from the small business sector. In each case, those are the highest in Canada.

This has been an interesting four months. The tax changes proposed in early July can simply be characterized as an ill-thought-out, misinformed set of policy ideas, the rollout of which was executed very poorly, and via a process of compressed timeline that was totally ill-equipped or unprepared for the nationwide backlash that has transpired, a backlash fueled by authenticity, fact and context, three things that many have said were missing from the proposals and the approach themselves.

The recent history and flaws within the original ideas are very well-canvassed, so I am not going to dwell further on the specifics of the original proposals today, or the resulting theater and drama that have transpired.

But I will note for the record that the reaction from our member base has been simply unprecedented. We invited our members, by way of an email submission page on our website, to express their views to British Columbia's members of Parliament. We expected approximately 5,000 emails would be sent over the course of a month. We hit 11,000 in five days, and by the end of the month, we hit 28,800. That has never happened in our organization's history.

We have, however, long advocated for tax competitiveness and fiscal prudence. These are the foundations of a thriving Canadian economy. We are greatly concerned that the overall tax reform package presented by the Department of Finance directly places the first, tax competitiveness, at risk; and indirectly, puts the second, fiscal prudence, in jeopardy also, due to the dampening effects to the business activity if the proposed changes proceed, even with the amendments announced by the Minister of Finance in the week of October 16.

However, these adjustments leave affected businesses across many sectors of the Canadian economy in a precarious state of uncertainty about what further changes will be proposed by the Department of Finance. This means many small-to-mid-sized enterprises, who drive much investment and job growth, will effectively be in a state of limbo for the better part of a year with respect to their tax planning, investment, succession and retirement strategies.

Nonetheless, we engaged in the Department of Finance's submission process that closed on October 2, and we highlighted four principles or areas of implication for their consideration. They addressed things like business ownerships and employees and the lack of distinction between them. We expressed concerns around the cost of compliance and uncertainty, the lack of flexibility and innovation, which is directly inconsistent with the government's own agenda; and we identified that there is to be a disproportionate negative effect on women business owners when it comes to income splitting and self-funded maternity leave.

As I wrap up, though, I want to focus on really some higher-level concerns, first around the disconnect, the blatant and clear disconnect between the facts of the Ministry of Finance and those presented by the advisers, the tax experts, the accountants, the estate planners, the succession planners of hundreds of thousands of small business owners across this country. They were simply arithmetically incorrect.

Secondly, there is a seemingly ambivalent or cavalier approach when it comes to altering what I would refer to as a sacrosanct relationship between government and small business, a relationship that has been well-defined and worked very well for almost five decades now.

Finally, we're concerned about the quick fixes that were announced in the week of October 16, presumably designed as an attempt to improve the palatability of the original tax changes themselves. Now, there's lots of details behind that and my colleagues and friends here, I suspect, will touch on some of them as well, but we can into that in Q and A, if you would like.

In conclusion, in addition to the recommendations from the Coalition of Small Business Tax Fairness, that comprises now 80 very, very large organizations across Canada, that sprung up over this issue; and in addition to the recommendations of the Canadian Chamber of Commerce, of which we're a very proud and very active member, our recommendations to this committee and to the Department of Finance include the following: first, hit the pause button. Do not implement the proposed tax reforms, even in their current amended form. Second, initiate a comprehensive study of business taxation in Canada. Business taxation, taxation in general, is an important, thoughtful conversation that needs to take place every three or four decades. It hasn't happened for a while. We're long overdue. We want to be a part of it and we have to take our time doing it, because the last one, I might remind you, took two and a half years, not 72 days.

We would encourage that that take place, and any evaluation that follows should be fulsome, thoughtful, not rushed, and incorporate meaningful consultations with affected Canadians, most notably the members that we represent in front of you today.

Thank you for having me here.

Senator Mockler: Thank you, Mr. Black.

Ms. Huberman, please.

Anita Huberman, Chief Executive Officer, Surrey Board of Trade: Thank you very much for having me here this morning.

The Surrey Board of Trade represents around 6,000 business contacts, 2,500 businesses, representing around 60,000 employees. We are sending a strong signal to the Government of Canada on the proposed federal tax changes. The tax changes, from our perspective, if implemented, even if it's in its amended state, will impede the ability for small businesses to thrive as economic drivers for city building.

Surrey, itself, is on the pathway to becoming B.C.'s largest city. The consequences of these proposed federal tax changes to small- and medium-sized businesses will be detrimental. We have the most number of manufacturers in British Columbia. We're a small- and medium-sized business community, and the Surrey Board of Trade has been undergoing continued engagement with members through surveys and in-person consultations from July to September. The overwhelming response, as articulated by Iain Black of the Greater Vancouver Board of Trade, from a very diverse industry membership cluster, is opposed to the proposed tax changes, even in its amended format most recently announced.

Surrey is undergoing rapid development. Residential, commercial, industrial and institutional development has accompanied significant population employment growth. Surrey's business base is small- and medium-sized, that would feel the pain of increased taxes. As a result, the negative ripple effect into investment into Surrey's employment potential, plus the inability of entrepreneurs to reinvest into their own business, will be caused.

The proposals address a symptom, not the cause of the growth of small business owners' use of the legitimate means to reduce their tax bills. The government has focused on eliminating measures in an effort to level the playing field between incorporated small businesses on the one hand, and unincorporated businesses and salaried employees on the other. The comparison between the two entities is not reasonable. With these changes, small business owners will think twice about working extra hard or taking on additional risk in innovation to invest, especially in the advent of the government taking more than half of their monetary rewards.

The Surrey Board of Trade also says that the government's introduction of these problems during the summer months and into September was problematic. Business owners are extremely concerned that the tax changes will unfairly prevent them from building up retirement savings, lead to lower savings within their businesses, make it more difficult to pass down ownership of family-run businesses to the next generation. In fact, I received a handful of phone calls on the first day of these proposals, and all them said to me, most of them manufacturing businesses with 40 to 50 employees, that they would shut down their business; they would lay off their employees and go somewhere else.

The tax proposals have negative consequences for business growth and job creation. The reality is, comparing entrepreneurs and small business owners to salaried employees is unreasonable. Owners are at risk every day for personal and business capital assets through banking and bonding indemnification. Owners work far more than an average employee with no overtime payment. Owners are not able to collect EI if the business closed. Owners do not have a pension. Monies invested through the company are a source of pension for the owner.

The solution? The Surrey Board of Trade suggests that tax reform is needed, but it should be an agenda item for the federal government's second mandate. The reform should be comprehensive enough to deal with the fundamental issue of punitive marginal tax rates on high-income earners. One approach could be to explore modifications to the small business tax rate and dividend rules, and provide incentives for small business owners to invest in their business. Measures such as these would simplify the tax system rather than make it more complicated as the current proposals do.Further, they would preserve the incentives for small business owners to work hard and take the risks needed to grow their businesses and the economy, and to be able to compete globally.

There needs to be a comprehensive reform that the government can scope to design a balanced package that will address some of everyone's concerns, rather than pitting one group against another. It would give the government time to build consensus and deliver the reforms in a period of budget balance when the pressure to maximize revenue is reduced.

Canada's government needs to know that businesses in Surrey, British Columbia, are concerned, as I articulated earlier, to the point of closing their businesses if these tax reforms are implemented. The proposed changes discourage small business owners from investing in shops, farms -- a third of our land base is agricultural in Surrey -- bakeries, garages, construction operations, clinics. They impose an unfair burden on hardworking Canadians, taking them not once, but twice, on investment income.

Certainly an independent third party panel or some type of royal commission needs to review Canada's tax system, make it less burdensome.

In conclusion, what we're suggesting is that we're pleased to see the changes that were articulated during Small Business Week in October, however, we're still waiting for the details that will be a part of the implementation behind the tax changes. As you know, 2018 is coming very quickly. Thank you very much.

Senator Mockler: Thank you.

From the B.C. Chamber of Commerce, Mr. Litwin please.

Val Litwin, President and Chief Executive Officer, B.C. Chamber of Commerce: Thank you and good morning, Mr. Chair and committee members.

The B.C. Chamber of Commerce is B.C.'s biggest and most broadly based business organization, representing the views of over 120 chambers of commerce and boards of trade, two of them sitting with me here this morning, and over 36,000 members across this province.

Thank you to the Standing Senate Committee on National Finance for this opportunity to share truly what is on B.C.'s mind when it comes to small business and when it comes to the proposed federal tax changes.

For decades, small businesses and entrepreneurs have been lauded as the backbone of the economy, held up as examples of the creative Canadian spirit, praised for their role in economic growth, job creation and prosperity. Yet, this past July, the federal government announced their intent to implement sweeping changes to the tax system, changes that could be detrimental to small and medium-sized enterprises, particularly in British Columbia where the economy hinges on their success.

With SMEs playing such a central role in our overall economic performance, the proposed tax changes by the federal government will end up making it harder for those same business owners to maintain and grow their businesses. By changing the ability of these entrepreneurs to share or sprinkle their income with family members, who often pitch in for nothing when the going gets tough, and to maintain passive investments within their corporation, the federal government is taking away some of the very tools these owners use to mitigate the risk of running a small business while allowing them to put a little more away for their kids' education or perhaps retirement.

The federal government believes these changes are aimed at the wealthy but, at the end of the day, they will negatively affect the majority of business owners who clearly sit in the middle class. Stats Canada shows that two-thirds of small business owners earn less than $73,000 a year, and half of those earn less than $33,000 a year, and now the tax rules they have been playing by for decades are about to change.

Senators, I have little doubt you know the facts and figures around our small business sector. With the time I have left, I would instead like to tell the committee about one small business owner that is a part of the B.C. Chamber network. Her name is Melissa Dobernigg and she is a farmer in the North Okanagan. Melissa and her husband are third-generation apple growers and are owners of BX Press Cidery and Orchard in Vernon. They were only able to inherit the farm through the lifetime capital gains exemption, without which her father-in-law would not have been able to pay the taxes required to pass on the farm. As they put it, “We literally risked the farm when we were turned down by several lenders.” Melissa puts it this way, and I quote, “We work seven days a week, light until dark, year round, no vacation time. We have no pensions, no safety net, and pay a considerable amount of EI and CPP for our employees.”

Melissa and BX Press Cidery also contribute to the local economy. “We employ part-time and full-time employees, all paid well above minimum wage. We support local non-profits through our tasting room. We support local businesses, freight companies, musicians, caterers, and many trades in the construction, ongoing maintenance and possible expansion of our operations. We have been a huge benefit to Vernon tourism and helped facilitate the burgeoning craft cider industry here in B.C.”

It is important to note that Melissa isn't complaining about the commitment it takes to run a small business and to make it successful. In her words, “Our hearts are in the operation and we love what we do.” But for Melissa, and again I quote, “If there is not going to be any potential financial reward for increased risk in investment, then why should we take that risk? Such drastic changes truly seem to crush and penalize the very backbone of our Canadian economy and the families who are working so hard to provide a life for themselves.”

In closing, this is just one of the thousands of stories the B.C. Chamber and our local chambers are hearing from every corner of B.C. Hampering or losing small- and medium-sized businesses in B.C. will affect the future of the province and the country.

These are the most sweeping changes to business tax in 50 years, and this has been done with limited consultation. Everything I am hearing from independent business owners in B.C. is that these changes have the potential to discourage entrepreneurs from even going into business, and it could hurt employment and growth as business owners look for other ways to offset the added costs to themselves and their business.

While we thank the federal government for showing a willingness to listen, and to offer changes, the proposed tax reforms will still likely do great harm to the people of B.C. and of Canada who take the risk to launch a company. These changes will slow economic growth, innovation and job creation.

So, in closing, the B.C. Chamber stands with our colleagues and members from around B.C. and throughout the country, and asking the minister and the federal government to continue to work with the business community before it makes any changes, and to address the remaining shortcomings in tax policy without unfairly impacting independent businesses. Thank you.

Senator Mockler: Thank you.

The first questioner will be Senator Neufeld, to be followed by Senator Jaffer, to be followed by Senator Marshall, and to be followed by Senator Pratte.

Senator Neufeld: Thank you, all of you, for some great presentations, presentations which we have heard quite a few of now, that are much similar, regardless of what part of Canada you go to. We haven't visited Eastern Canada yet, but we have held hearings in Ottawa to get the input of the people from Ontario and Quebec and now we're on a trip across B.C., Alberta, Saskatchewan and Manitoba; and then, in a couple of weeks, we will do Eastern Canada. So, we have certainly, at least I have, certainly heard the same thing.

It is always said that the Income Tax Act is really complex and can be simplified. I think, having been around government for quite a while, it's a little easy to say that sometimes, but a little more difficult to put that on paper.

I asked this question of our previous presenter, and I believe you all will give me the same answer. Would you say that what the federal government should do with what they have done so far is -- introduced changes in July when not everybody is really paying attention to government, then said in October, “Well, we're going to change it back a little bit” -- remove all of those changes that they put into place, and actually do a complete review, a royal commission, or whatever you want to call it, on the whole tax act to try and simplify it as much as possible and make it more fair? And I don't agree with the second mandate; I would rather that they did that right away. Would you agree with me? I'll ask each of you to respond.

Mr. Black: Sure. As a quick point in passing, you mentioned you are at the beginning of a fairly big tour. I have served on such committees and travelled the province and the country. It is not glamorous work, so thank you for your service to our country. The stuff you are doing is critically important.

Senator, four changes were proposed: small business reduction, the passive income threshold reduction of $50,000, eliminating the capital gains conversion issue, and then changes around the income sprinkling. In our view, as I mentioned earlier, those were designed as a reaction to the negativity as opposed to thoughtful policy, and so it is the view of the Greater Vancouver Board of Trade -- it is pretty much unanimous across the country -- that we want all of those changes to be suspended; none of them to be implemented, to be very clear, until such a time as a thoughtful and comprehensive analysis of the taxation system, personal and business, is conducted in Canada. We're very supportive of that taking place as soon as possible.

Ms. Huberman: From the Surrey Board of Trade's perspective, we concur. It's not only that the tax changes were brought in during the summer. It's that they were so complicated and for small- and medium-sized businesses – businesses that, for example, are making machinery, that are so busy trying to sell their product or service -- there needs to be a much more comprehensive review.

Mr. Litwin: Senator, I can certainly concur with my colleagues, and, in fact, I might even ramp up my good colleague, Mr. Iain Black's, statement around, “We need to hit the pause button.” I think we need to press the reset button, and we need to suspend all of these changes until such time as we can do that comprehensive review of the tax system. That is what we're hearing from our businesses, and they are speaking in unison, tens of thousands of them. So, it is without hesitation that we say, yes, a full suspension of the changes and a complete review of the system.

Senator Neufeld: Can any of you tell me why you think the government would actually take action on such a small part of the Income Tax Act which basically attacks family farms and other small businesses?

After watching the CBC report last night on the Paradise Papers and after small business people and farmers watched that program, when the government says they want tax fairness they must be asking, “Is this fair to me?” Here they are attacking small businesses and the farmers. When you look at income trusts and all those kinds of things, the Caribbean, moving money around, do you not think that the thing that the government should be focusing on is trying to capture that tax, or even capturing the tax that big banks should be paying, instead of being able to route money all over the world -- I mean, that's complicated -- to pay a lesser tax than what the corporate tax rate?

Mr. Black: I won't touch on all of the questions. I will touch on two of them, if I may.

First of all, with respect to the government's motivation we cannot and will not speak to the partisanship of the politics per se. However, I do think it's objectively fair to say that the government was elected on a mandate of doing something in this area, given the language and narrative that they developed around fairness and taxation and the cliché of the middle class and those who wish to join it, although I must confess, I am not sure what that means. But armed with that mandate, I believe that the changes they made, I think they were simply just misinformed. I think that it seemed like a good idea at the time. I think that there were a couple of file folders. I can envision a couple of file folders of ideas on a desk. To make good on that mandate, they launched a couple of these ideas, and they were just simply ill-informed. They were factually not in context.

Mr. Litwin made reference to the small business owners making an average of $75,000 a year. Well, the tax planners and accountants of those small businesses who are withdrawing between $75,000 and $125,000 out of their business -- in the years when they have made money and can do so, let us remember, because that's not a guarantee -- their advisers have resoundingly said that, yes, you are impacted by these proposed changes, contrary to the narrative developed by the federal government, that only people making $200,000 to $250,000 a year, and I quote, “who have already maxed out RRSPs and already maxed out Tax-Free Savings Accounts.” All the experts said that's simply not true. It is not arithmetically correct. So, I think a concept was being pursued when the homework had not been done.

On the second point about the Paradise Papers. I think, actually, that speaks to the broader conversation around tax competitiveness. I'm of the view that if we have a competitive tax regime at a personal or corporate level, corporate including small business, people don't have the need to do some of that stuff, and if they do break the rules, you go after them and you go after them hard. We're very big believers in as few rules as possible, and enforce them, make them meaningful. The boards of trade, all of us, we do not like tax cheats, ever, full stop. Play by the rules and go after those who break them.

But if you have a set of rules that encourages the behaviour that is made transparent through the release of the papers over the weekend, that probably points to a bigger conversation around whether we actually have a competitive tax system in place, whether the citizenry and the businesses believe that they are contributing in good faith to running the critical social services of our country. I believe that is possible, and I don't think that's where we are today.

Ms. Huberman: To add to that, the whole purpose of this exercise was to level the playing field, but it's difficult to level the playing field when you have such a diversity in businesses. You have some people playing by the rules and some people not playing by the rules. That's why the comprehensive tax reform review needs to be in process, and all of these tax changes that are proposed need to be suspended. Every business is different in the way that they operate. To level the playing field, which was the original purpose of these tax reforms, is a very difficult exercise.

Mr. Litwin: Senator, to the first part of your question, I don't think it would be valuable for me to surmise around the intent of the government to pursue this change, but certainly from the perspective of our members, I would add that many of them feel they are getting a mixed message from the federal government right now. We know this is a government very much focused on innovation. It's encouraging investment. My goodness, in B.C., if we could push more of our small businesses into that medium and large category, that would be the way to go. We would realize incredible wealth and prosperity here, and across Canada, if we would figure out that formula.

But right now, these changes are actually hampering investment in companies to innovate. Much of our data here in B.C. says that green technology is a huge emerging opportunity for our economy. Many of our members, no matter what sector they are in, they think green technology and innovation in that sector is a huge part of our success moving forward.

Right now -- and again, I'm not a tax expert -- when you look at some of these changes and the implications of what they mean for a venture capitalist to put some money and invest in a great small business start-up here in that clean-tech space, they will hamper their ability to get the funds they need to grow that business, to create movement, and to grow the pie, so to speak, in the B.C. economy.

So, I think the general business population in B.C. feels very confused as to the message this government is trying to send. They value innovation, and yet they are proposing to roll out a tax change that will absolutely hamper investment and innovation.

Senator Neufeld: Thank you.

Senator Jaffer: Thank you to all three of you for being here. I know all of you and I want to thank you for the work that you do in our province. You certainly represent the small business very well in our province.

These changes I believe have really caused instability. They have taken away the faith of people who work very hard, but more important, it has pitted hardworking employees against owners. We have never had that kind of conversation, with the word “loopholes,” where employees and small business owners had this feeling of one against the other. I believe the Minister of Finance has caused tremendous damage to our communities by bringing this kind of discourse. Many employees have fixed incomes. You have said that some have pensions, holidays, et cetera. We small business owners, you all know, don't have pensions, no fixed hours, no benefits, paying into EI. It goes on and on. Each has different benefits and different issues, and it's sort of like comparing apples and oranges.

My first question is to all of you. Mr. Black, you said you heard from some 11,000 people in four or five days; that's not normal. What has happened in our communities is that we have pitted one against the other. The Minister of Finance has caused great damage in our communities, and I would like you all to reflect on that.

Mr. Black: Whenever you establish a narrative that divides, you end up distracting from the germane elements of the debate itself, and as your previous panelist said, it's not rare that tax policy becomes sexy. So, it's very easy to get into a narrative that is a little bit more emotional and emotive. Tax policy is very important, and when you have a narrative that divides, it is a problem.

I will speak very quickly to the reaction of our members. They were indignant. They were offended. They didn't like being called tax cheats, or the inference, if not the exact phrase. I think what underpinned that indignation was the suggestion that was very often said, that there are certain Canadians in small business who are taking advantage of loopholes or mechanisms that “weren't available to the average Canadian. ”

The C.D. Howe Institute has utterly refuted that. The government has not made the case that small business owners have or use, or misuse as it were, tax advantages that are unavailable to other Canadians. That underpinning in the logic just did not hold water, especially for the men and women who are signing the front of a paycheque, who are putting their mortgage on the line, their life savings on the line, to actually create employment. Unfortunately, that created a great deal of angst that prohibited us from getting into the really important conversation around tax reform itself and the thoughtful and reasonable conversation that should follow.

Ms. Huberman: Certainly, it was a very emotional issue for our members. These are family businesses, and they have invested their heart and soul in making their product or delivering their service.

However, I think the discourse can be remedied. I think the Canadian government has an opportunity to say that they have listened to business. In our business centre that we have in our office, we have a high number of immigrant businesses. Half of our population is a mother tongue other than English. The highest number of refugees come to Surrey, British Columbia. Many of them are looking at entrepreneurial opportunities, instead of trying to get employment. They're saying to us, “We're going to wait. We're going to wait and see what happens with this tax reform. We're not too sure what's going to happen.” So, certainly I think there's an opportunity for the discourse to change.

Mr. Litwin: Thank you for the question, senator. The benefit of going third is I can keep echoing my colleagues here. I’ve got a good thing going.

You are absolutely right: A very negative narrative and dichotomy has been set up. Roughly speaking, if you are a small business owner who is a tax cheat and leveraging loopholes, you are now part of an elite class and your employees are part of a totally different class, and you are now set up in a form of class conflict. I don't want to over-exaggerate the dichotomy, but I think actually that is what is now spreading across the province and the country in terms of how this conversation is being set up, and it's not healthy.

The moral of the story at the end of the day in British Columbia, where small businesses employ 54 percent of the workforce, is that you have just made it harder for them to stay in business and provide over 50 percent of the jobs here by setting up that negative dialogue.

So, to echo what Ms. Huberman just said, I do think there's an opportunity to reverse the narrative, to heal the wound, so to speak, because I think businesses are hurt; I think they're stunned; I think they are feeling bruised. It will now take some effort and energy for the federal government to change the tone and tenor of that conversation.

Senator Jaffer: My second question is more specific. I have heard people say that small businesses can use their RRSPs, which is more for people who are employed than for small business, and it is compared to passive income. We all know -- I don't need to tell anybody here -- that the rules on RRSPs are very limiting and you can't really access them. They are more for when you retire, sort of deferred income, passive income, something you can access right away. When your business is not doing well, you can access the income or you can grow your business for innovation. The three of you have heard from the people you serve about passive income, and I want to hear from you as to what you have heard.

Mr. Black: I will keep my answer very short. The concept of being able to take advantage of RRSPs and Tax-Free Savings Accounts presupposes that the small business has actually made a profit, and that the business owner has actually reached a point where they can extract some cash from the business. Bearing in mind that 50 percent of all businesses go bankrupt in the first five years, and those which remain go bankrupt in the second five years, like the 50 percent number. Finding that elusive moment of profitability and cash-flow-positive status, to allow you to extract money out of your business, whether in dividend form or as a salary, is not an everyday occurrence for a small business. I think it's a bit of a moot point when it comes to the Tax-Free Savings Account and RRSPs, because there's not a regular consistency with which that happens.

The danger in the passive income conversation -- again, small businesses go through good times and bad times, and frankly, many more lean ones than, than lush ones -- is keeping money in their businesses to allow them to get through those lean times, so they don't need to lay off employees, to cut back on the capital investment needed to keep themselves in business or be competitive.

That's not unusual for a small manufacturer buying, say, a large piece of manufacturing equipment for a small, 50-person steel fabrication firm. That piece of equipment might be a couple of million dollars, $3 million or $4 million. So, presuming that that small business owner has had the ability to save up that $3 million or $4 million, they have far surpassed the $1 million and the consequent $50,000 income that's being proposed as the change to this whole thing right at the gate. My point is that the revised suggestion by the Minister of Finance around that, of approximately $1 million they could keep in passive income to produce that $50,000 threshold income that is being proposed, is very low, and it will not serve the vast majority of small businesses who have to purchase large equipment.

Ms. Huberman: Senator, the whole conversation about RRSPs really muddies the water for business owners. Business owners, as I mentioned, put their heart and soul into their business. If they have 50 employees, they're saving for the good times. There really is an opportunity for that employer -- and every single business has their specific cases on success – and it's up to them to determine when they should be able to invest it. They should not be taxed for their passive-investment income. They should not be penalized.

As I mentioned, a third of our land base is agricultural. We have farmers that are still struggling, especially in the new economy of agri-innovation and new human capital needs. So, the whole concept of RRSPs should be taken off the table when it comes to business ownership, and passive investment is an incentive for business owners to invest, when they see fit, into the future.

Mr. Litwin: I will keep my comments brief, because my colleagues have covered it.

Suffice it to say, a business owner who is talking about investing in RRSPs is in a rarified atmosphere of business success. Less than 5 percent of businesses even make it to a $1 million in revenue, and it takes blood, sweat and tears for years to even get there.

From our perspective, this is about the capital investment intensity that is required to launch and grow and make a business successful. A threshold of $50,000 a year, if you are running a cidery in the Okanagan, won't even pay to reroof your barn. I think there was a complete and total disconnect for the federal government around what it takes to grow and nurture a small business, and that's keeping in mind that you not even get over that $1 million, sort of, dream revenue market. It's very rare.

Senator Marshall: Mr. Morneau, the Minister of Finance, testified before us last week, and he is adamant that the amended proposals are going to proceed. Just looking at the one on passive income and the $50,000 threshold, he has said the details are going to be in budget 2018. What should we, as senators, be looking for when we review the budget bill for next year to minimize the impact on small businesses, and also to minimize the impact on the B.C. economy? I'm just trying to think ahead, because when we get the budget bill, we're only going to have a certain number of weeks to look at it, and we won't be coming back to British Columbia to hold any additional hearings. So, what should we be looking for, because I do think that the government is determined that these proposals go ahead.

Mr. Litwin: There are two areas of real concern for us, and I reiterate that we would like, not just a pause, but a full reset on the whole review. We're still pushing for a full stop on all proposed changes, and we think a comprehensive review is what should happen first.

Senator Marshall: Okay. Based on what he said last week, he is not supportive of an overall review --

Mr. Litwin: Got it.

Senator Marshall: -- and these are going through. Okay.

Mr. Litwin: I just wanted to make sure that the record continued to reflect that intent. The two areas I would recommend that this Senate committee continue to look at are at the threshold, the adequacy of the threshold. I think it's far too low. From a very brief analysis, a case study of even 100 small businesses and what they have done in the last five years in terms of capital investment or just investment to grow their company, I think you would find it's well in excess of $50,000 a year for those companies that are making a go of it. I would look very closely at the criteria around investment into those small businesses that, again, helps them grow.

I have pulled some of the updates off the Department of Finance Canada website, and we have got one-sentence explanations for very complex recommendations that are coming down the pipe. How do we still encourage investment such that it is not taxed at a personal income tax level?

Senator Marshall: For the adequacy of the threshold, do you have anything -- I wouldn't think that you have done any type of scientific analysis -- based on your experience and based on the position that you hold now? What would you say, $1 million or $100,000? Would you have any feeling with regard to what the threshold should be?

Mr. Litwin: Well, senator, not to sound flippant, but you are asking me to set a threshold on the dreams of an entrepreneur. How much money do they need to invest in growth? I couldn't say. It should be in the millions.

Mr. Black: I would echo Mr. Litwin's comments, and I would add a specific point: I would look for evidence in the tax bill to the effect that recent studies have been done to answer the very question you just posed of Mr. Litwin. In the absence of that evidence, I would reject it, because I think it is somewhat arbitrary.

We are not a not-for-profit organization, which means we operate on a mandate of breaking even every year, and putting aside a little bit of money in a rainy-day fund, and I want to be really clear, that is passive investment. We're a non-profit that is trying to put aside a little bit of money so that when things don't go well we do not have to lay off people.

Our formula is based on payroll. If I save enough money over the course of five, six, seven, eight years in our little rainy-day fund, hopefully it will be well in excess of $1 million or $2 million, which very quickly gets me to the target we're talking about right here. We are a non-profit. We're not buying manufacturing equipment or putting a new roof on the barn in the Okanagan in the critical agri-food sector. So, I would look for evidence as to where they came up with the thresholds in the first place.

The second thing I would look for is some sort of a, dare I say it, an inducement around tax competitiveness. If you are going to, and dare I say it, penalize the passive investment -- I prefer to call it the rainy-day fund, because I think calling it passive investment is a little insulting to the small business community that is saving this money up for a rainy day. It is not a slush fund to make money on. It's money that they need in case things go sideways.

I would add an inducement that says, “If you go ahead and put that roof on the barn or buy that piece of manufacturing equipment, we will give you a 100 per cent write-off in the year you make that investment.” In other words, put some balance into it that says, “If we're going to tax you for -- which is the intent, as I understand it -- latent money that's caught up in small businesses that's not being used to drive the economy, then give an inducement to release it and put it to good work to make those capital investments, induce it by giving an aggressive write-off for that actual investment.

Ms. Huberman: Senator, just to add, in the tax bill coming next year, we will need to take a look at when the timing of any amendments will take place. There is such a level of uncertainty for businesses right now, or even for those people who want to start businesses. That timing needs to be very closely looked at, and it can't be retroactive as was in the original reform that was proposed in July 2017. Second, what investments are being made in CRA? CRA will be undergoing reasonability tests. CRA is not really trusted by business. So, what investments are being made by CRA to be there for business, to ensure that they can continue to do what they need to do?

Senator Marshall: The minister, when he testified, he didn't really answer the question, but his officials indicated that no economic impact analysis carried was out on the proposals to determine the impact on the economy. You all mentioned various aspects in your opening remarks. I think somebody said that businesses will close, employees will be laid off and innovation will be suppressed. There's a lot of uncertainty in the business community.

When the doctors testified before us a couple of weeks ago, one of the comparisons I made is that when changes are proposed, everybody says that this is going to happen and hat is going to happen and the sky is going to fall. Really, after the changes are made, it just seems that everything goes back to the way it was and everybody learns to cope with the new rules. What do you think will really happen in British Columbia if these tax changes go in? Do you think that people will just adjust and that it won't have an impact on the economy or the businesses?

Mr. Litwin: I think “adjust” would perhaps be the wrong wording to characterize the reaction. I think they will cope and I think there will be attrition in the small business community. I think you will see some businesses fall off, and it will be a real struggle for them.

Senator Mockler: Ms. Huberman, do you have a comment?

Ms. Huberman: Many of our businesses in Surrey are under 50 employees, and if the tax bill or the tax reform is too complicated, they are willing, and we have heard this specifically, to shut down their businesses. They're saying, “What is the point of us staying in business? Maybe we will move our business somewhere else.”

Mr. Black: Notwithstanding that fact that I think those who aren't in business are going to pause about getting into business, which would be a real tragedy because you are talking about opportunity costs, and they are a little difficult to measure.

I would not want to underestimate the resilience of our business community. We're very good at surviving. But let us not confuse that with tax fairness. If the objective of this exercise is to make the tax code fair, the acid test should not be small businesses' ability to survive what is bad policy.

Senator Pratte: Listening to you and other witnesses, I have the impression that this tax reform will affect a large number of small businesses. Yet, when Department of Finance officials appeared before us, they gave us some numbers that seemed to indicate that, in fact, it's a small minority of small businesses that will be affected. On income sprinkling, they mentioned the number of 50,000 out of 1.8 million CCPCs will be affected, and on passive investment with the 50,000 threshold, they say that less than 3 percent of CCPCs will be affected, those that are actually over the $50,000-threshold.

Apparently, your impression from the feedback from your members, is that it's not a small minority. It's a large number of your members who will be affected. So, I'm trying to understand why there is such a gap between the feedback you have from your members and the statistics that come from the Finance Department. They have given us very detailed numbers. Why is there such a wide gap between their numbers and the feedback you have from your members?

Mr. Black: I can't explain as to why that gap exists, but I can absolutely validate that that gap does exist. That is the same group of people who were informing, one would presume, the minister and the Prime Minister, to use the narrative around the issue, that these measures will not impact anybody unless they are making $200,000 or $250,000 a year and have maxed out their RRSPs and their Tax-Free Savings Account. Yet, every expert in tax across the country, including the big firms -- Deloitte, KPMG, Ernst & Young, et cetera, et cetera -- have said categorically that that is not accurate, and have pointed to the $75,000 to $125,000 range. So, there is no doubt there.

As to the passive income, the $50,000 threshold, if one uses a 5 percent return, it says that you have got $1 million cash on hand as “passive income.” A lot of non-profits have got that, including us. So, the notion that a small business with 50 people is going to have a minimum of $1 million -- and hopefully this is a good thing -- the problem is this has been characterized as a negative thing – in that rainy-day fund or a capital investment fund that is $6 million or even $20 million, to drive more employment and more capital investment into their own economy, the notion that that would be such a small percentage is just not practical and is not based on the massive uprising that we have seen in our membership.

Ms. Huberman: On the third week of October, the Surrey Board of Trade met face to face, individually, with each of our MPs in Surrey, and that gap, as you mentioned, senator, definitely exists. Why it exists, I have no idea. Their communication to me was, as you articulated, that only 1 percent of the business community would be impacted. This is not only accountants, these are businesses that have CGAs, CMAs who are saying that it is going to be much more difficult for them to pass down ownership of family-run businesses to the next generation because of these new tax implications. It's going to lead to lower savings within their businesses, eroding future investment, not encouraging future investment. Why that gap exists, I don't know. But, as we articulated earlier, there needs to be a comprehensive review of this tax bill.

Mr. Litwin: Senator, that's a very good question and I thank you for the opportunity to address it.

A number of years ago, I testified in front of the HUMA Parliamentary Committee tasked with reviewing the Temporary Foreign Worker Program. In that testimony, I spoke to the fact that our data didn't match up with what Stats Canada had around temporary foreign workers in discrete labour markets here in British Columbia. So, in my experience, this is not the first time data and statistics coming out of the federal government don't match the reality of business on the ground, and I say that with all due respect because the volume of data that is tracked is immense. However, it has not always accurately reflected what we see on the ground in real time, that we were able to validate in those discrete labour markets. So I put that out as my first proposition.

On the passive investment piece, and the $50,000-threshold, I think you said this would affect less than 50 percent of the businesses out there. That is still a huge number of businesses. Also, that doesn't account for the businesses that hope one day to be in that category of putting aside 50,000, and then one day more. So, I think, and with respect, it’s a bit of a moot point that less than 50 percent of businesses would be affected by this $50,000 threshold.

Senator Pratte: It would be less than 3 percent. That's what the government says.

Mr. Litwin: Less than 3 percent – sorry, if I got that piece wrong. What I would then say is that 3 percent sounds like a small number if that is the vision of our current federal government. Certainly, the vision here in British Columbia is that we will grow this small business community by leaps and bounds in the decades to come because we have identified that one of our biggest opportunities in British Columbia is to migrate those small businesses into that larger business category, through to that category. Right now in British Columbia, we're setting up programs, infrastructure, investment opportunities where we can start to grow those businesses. So, now would be a very appropriate time to look very critically at that $50,000 threshold.

Senator Pratte: Would you agree that inside this large group of CCPCs, there may be a difficulty with a smaller group, which may be the professional group? That's the example that the government has given most often, especially doctors, which does not really fit with the description that you have given of entrepreneurs, people who take risks, who invest in machinery and so on. Doctors don't really take risks -- well, they invest in equipment but there's certainly less risk. They have guaranteed revenues by governments and so on. Would there be a way for the government to maybe aim at specific groups inside the large CCPCs that would not affect entrepreneurs. That is, specifically aim at groups that maybe use the CCPC category specifically for tax purposes and not to grow their business?

Mr. Litwin: Largely, what we hope is that there would be a more thoughtful and comprehensive review of what's currently being recommended. They could look at a more laser-focused approach. We're not adverse to that kind of approach, but we're suggesting that it should not now just happen off the side of the Finance Minister's desk, that there should be a very comprehensive review so that we're truly targeting the right people.

Ms. Huberman: The original discourse of “levelling the playing field” can't be achieved. As I mentioned, you have to take a look at each group, what they sell, whether it's a product or a service, and individual cases. I don't know how CRA is supposed to provide reasonability tests to every single different product or service that is sold. I think there's an opportunity really for government to just suspend all activity on these taxes and to really take a look at specific groups that they're going after.

Mr. Black: Very quickly, it is quite possible; it's certainly a narrative that has developed during the last four months, and it is quite possible that doctors were a target of the intended changes. That narrative has made the rounds for sure. If that's the case, then I would encourage the government to pursue that, but do it in isolation. Pursue it, and embrace the history that goes along with that challenge. It is a very delicate conversation because the federal government, I believe it was 30 years ago, encouraged doctors to incorporate in the first place. So, you have to own that history and deal with it. I mean, it is a grownup conversation, but have the conversation transparently.

Second, you have some side deals -- I believe Ontario is one example -- around some of the deals that were made around corporations -- a complicated ball of string, no question. But if that is the real intent of this measure, then go into it transparently and address it in that particular manner. Otherwise, you are dragging along for the ride millions of small business owners and their families, a very uncomfortable ride that is not of their making, and if this is true, not the intent of the government in the first place.

Senator Mockler: Senators, another panel is waiting.

To the witnesses, you have been very educational, informative and enlightening, and as we go forward, before we table and present our report in the Senate on December 15, if you want to add, please do not hesitate to write to the clerk. Thank you very much.

Honourable senators, I have been informed that Mr. Seeman has to leave at exactly 11:30. So, we will ask Mr. Seeman to make his presentation within the context of five minutes, and then questions will follow immediately. Then we will move on to Mr. Etsell.

Bob Seeman, Chief Executive Officer, Clera Inc., as an individual: Thank you, senators. I am a technology entrepreneur, and over the last 20 years, I have started five private companies in the areas of pharmaceuticals, data capture, mining, software and advertising. I have no pension, no RRSP, and I do not own a home. Instead, all my money has been invested into my companies, from which, if there is money to pay for it, I draw a modest income.

My goal is to have just one of my companies become extremely successful. Technology companies are very risky. They're all or nothing. The main purpose of using a limited company is to protect myself from personal liability if the company fails, which failure is highly likely. A limited company is also necessary to be able to sell shares to risk-taking investors. Technology companies require a lot of investment to create the technology over many years before the company can become profitable.

The standard way to raise money for risky startups is first to raise the money from your family. My spouse earns an income as a professional and she generally invests her money right at the start when the business is just an idea without even a business plan. Thus, she invests at a very low share price. Other members of my family may invest their own money at this time, too.

If and when the company's business plan and technology has successfully advanced, it needs to raise, at a higher share price, money from friends and close business colleagues. If and when the technology has successfully advanced even further, the share price is further raised, and much more money is required. At that point, all the investors are required by securities laws to have more than $1 million in net liquid assets. These investors are known as “sophisticated investors.” Only 1 percent of the investors that I have talked to about my businesses decided to invest. Almost all start-up money for technology companies comes from such sophisticated investors.

Since there is such a high probability of failure, the securities laws are there to prevent start-up companies from seeking investment from the average person. The laws are there to protect the average person. For my businesses, I have raised a total of $8 million from sophisticated investors. If one of my own companies is successful, it will likely make tens of millions of dollars. I would then invest those returns in other companies. Hopefully my investment can make those companies successful too. This is one critical reinforcing cycle that happens in Silicon Valley.

I am concerned that, in at least three ways, the proposals will create significant obstacles to the ability to raise investment funds for start-up companies like the ones that I have worked so hard to create. First, the attack on passive investments held in private companies will reduce the money that sophisticated investors, typically successful entrepreneurs themselves, have to invest in technology startups.

Second, the proposals to extend the tax on split income will deter people from investing in companies that belong to, or are operated by members of their immediate and extended families. They will be deterred because of the threat that any return on their investment will be taxed at the highest rate for individuals. In its current form, the relief for reasonable returns on a person's contribution is too uncertain. Who is to say that the CRA would agree that any return derived by my wife, my brothers or my parents, who invested at a very low share price when the business was just an idea, is a reasonable return on their investment?

Finally, although how the proposals will work in practice is not at all clear to me, one thing is very clear. The proposals are frighteningly complex, and even the experts are struggling to understand how they will be applied. This complexity can only result in greatly increased legal and accounting compliance costs for startups. Such costs are a significant issue for cash-strapped startups and reduce the amount of investors' money that can be used for the real work of developing the business and the technology.

Thank you.

Senator Mockler: The first questioner will be Senator Jaffer to be followed by Senator Andreychuk.

Senator Jaffer: Thank you very much, Mr. Seeman, for making yourself available. It is important that we hear from the challenges that you face.

What is very clear to me is that you work day and night. You do not necessarily have any assets to show for the work you do. Then you hear what the minister wants to do. What does that do to your morale? What does it do to how you feel about how you proceed? Up to then, I would imagine you have the stability of, yes, you are taking tremendous risks, seeing something at the end. Now, that end, that hope has been taken away, or am I exaggerating?

Mr. Seeman: You make an excellent point. I take high risks. My wife takes high risks. Our family takes high risks. Our investors take high risks and they are looking for the chance of return. They want to see me as motivated as I can be. My employees want to see me as motivated as possible for the company to be successful.

Senator Jaffer: Thank you.

Senator Andreychuk: I want to ask two questions. You said that if there are questions on the initial investments that you and your wife and extended family take, anyone who is in the business of investing will have at least $1 million. You have to have $1 million to attract those investors. Could you explain exactly what you meant?

Mr. Seeman: What I meant there is that when you start a company, there's a progression. First of all, you get from your family, because your friends or your business colleagues aren't going to invest in your company unless your family has. Then the sophisticated investors that you are talking about, who have a million dollars in net assets will not invest unless your friends and family have invested, and then the venture capital funds will not invest unless the sophisticated investors have invested. So, it's a game of increasing confidence with increasing amounts of funds raised.

Senator Andreychuk: Am I interpreting correctly that the highest risk is for you. When you have an idea, you have to convince your family first, and it will continue provided you can continue to survive at first base.

Mr. Seeman: That's right. It all starts there. If you don't have the first $10,000, largely to pay for the legal fees, you are going nowhere.

Senator Andreychuk: And you are talking about high tech, which is highly competitive worldwide.

Mr. Seeman: Exactly.

Senator Andreychuk: Is there more risk in the technology fields, because you could pick up and go to California or India. IT services, we're told, are now worldwide, not geographically based.

Mr. Seeman: That's an excellent point. Intellectual property is transferrable instantly. It's less difficult than what we heard today about manufacturing businesses. Certainly it is far easier for intellectual property-related businesses to move.

Senator Andreychuk: So, these young entrepreneurs that you are talking about, who have a great idea, may or may not want to continue here if they see an advantage in another country?

Mr. Seeman: Precisely.

Senator Andreychuk: And that goes to Minister Champagne's release that talks about the diverse base of people we have in Canada and that diversity might drive them to other countries.

Mr. Seeman: Yes.

Senator Andreychuk: Okay, thank you.

Senator Marshall: Thank you very much for being here this morning. It's interesting, seeing that you are an entrepreneur.

I understand that the implications of the changes in the taxation with regard to I guess income splitting, but if you could just go over the impact of the passive-income proposals. Is it the threshold?

Mr. Seeman: On the first point on the passive income, passive investments, many of our investors invest through their corporations. So, they will have less money if they invest through their corporation in companies like ours. Then they are rich people, so even if they take the money into their hands personally, they will have less money to invest.

Senator Marshall: I understand. The government’s the last budget was an innovation budget. We see these tax proposals and we see the innovation budget document that came out last year. Does what they propose with regard to innovation have some positive effect or is it negated given what's happening under the tax proposals? Can you just reconcile the two? It seems like they're not reconcilable.

Mr. Seeman: They are not reconcilable. The innovation policies of government in the last 20 years have been increasingly counter innovation. Government subsidies are not a good idea for technology businesses. When an investor or a venture capital fund sees that, instead of raising money from sophisticated investors who are highly knowledgeable in the area, you have taken a government subsidy, that venture capital company will look the other way. They will invest in the company that has taken the sophisticated investor money. Government money crowds out sophisticated investor money. It is counterproductive. It costs the taxpayer. It's not a good idea.

Senator Marshall: So why does it crowd out?

Mr. Seeman: What happens is that the companies that are not as good can't raise money. The entrepreneurs are not as able. They spend all their time filling out forms and applying to government. The government people, or academics, who know very little about business, make the decisions. Venture capitalists say that they lose 90 percent of their money on their investments. I have never seen the numbers on bureaucrats handing out money, but I can imagine it's 99 percent of taxpayers' money being lost. What happens is that the wrong companies get the money. Entrepreneurs that don't take the government money are competing against government companies that do take the government money, and when the government subsidies stop those companies fail.

Senator Marshall: I must say that I have talked to a number of individuals who have companies and have been getting financing under the innovation strategy. What you are telling me is it is not an optimistic outlook for those companies. Thank you.

Senator Mockler: If there are no other questions, Mr. Seeman, we will say thank you very much for your information. Again, if you feel that you want to add something before we table our report in December, please do so through the clerk.

Now, honourable senators, we will ask Mr. Etsell to make his presentation.

Garnet Etsell, Past Chair, British Columbia Agriculture Council: Welcome to B.C. It's great to have you folks out here.

I am here today representing the B.C. Agriculture Council. It is the umbrella farm organization in the province, and is also a member of the Canadian Federation of Agriculture. I know that you are going to be getting a paper from the federation. We have seen a draft of it, and some of my comments today are lifted from that. We're in full agreement with their position.

Minister Morneau's initial announcement in July of 2017 created a lot of angst amongst the agricultural sector. The angst came primarily from the proposals related to the lifetime capital gains exemption, and conversion of income into capital gains. The unspoken elephant in the room was that the department was going to start eroding longstanding ability to complete intergenerational transfers of farm assets on a tax-deferred basis. So it is with pleasure that we hear that those proposals will not be moving forward.

However, there remains an aura of concern and, hence, uncertainty, that there may be a desire in the future to reopen the discussion. The things that you have been hearing, in terms of taking a deep dive, give me some concern that, in fact, that is going to happen.

I want to talk a little bit about farming and the use of private corporations. Of Canada's farms, 98 per cent are owned and operated by families. Many -- in 2016 it was 25 percent and the number is growing -- use the private corporation as the investment vehicle. The primary purpose is that this vehicle offers an efficient administrative process when it comes to multiple owners, and that's what you have in the family context. It starts with spouses, and it eventually includes the children. The model also facilitates an efficient mechanism for intergenerational transfers, because you are transferring the shares, not the individual assets.

Farming is a very capital-intensive activity. An old adage states that farmers are asset rich but cash poor, and generally that's true. Farm businesses are long-term investments, often spanning generation. Farms need to grow and they do this by leveraging on appreciating assets and reinvesting earnings in order to stay competitive. With few exceptions, there is not a massive buildup of cash, and when there is a buildup, it is to facilitate one of three things: risk management, that is, a rainy-day fund to mitigate against business downturns; second, future investment, growth and diversification are absolute keys to sustainability; and third, probably the one that is least used, is to facilitate retirement of elder shareholders.

Unlike other businesses, the farm family generally lives where they work. As a result, farm work is an inherent part of daily life from an early age. Farm children begin contributing to the farm operation at a young age in countless ways, building the practical skills that will be required to take over operational control down the road. Together, the family works to run the business, often contributing in indirect ways, and at rates that many outside of the farm community wouldn't even begin to entertain. The hours are long, the work is hard, but the reward is producing products that nature allows us to grow and is worth the effort.

The tax deferral rollover provisions are critical to maintaining the family farm. Without this ability the intergenerational transfer and the family farm as we know it will cease to exist. This is because the farm would have to be sold in order to pay the tax on the deemed proceeds, as there would not be the surplus funds available. Alternatively, the farm would have to set aside funds over time, thereby restricting their ability to grow and to be competitive in order to pay the inheritance tax.

Farms are large real estate holders, and they can easily be sold. Foreign buyers are looking for stable assets to park their money. We're starting to see this in British Columbia. Without the ability to complete intergenerational transfers on a tax-deferred basis, I don't think it's a stretch to say that food security and control by Canadians becomes a very real issue.

The government, in its 2017 Budget, correctly identified agriculture as a major economic driver. If we do not do all we can do to preserve the family farm, we will kill the goose that lays the golden egg.

I do have some comments, which I will not go into, in terms of income splitting as well as passive investment. They are in the paper that I have given you. Let me just make one comment in terms of passive investment, because there's one specific investment that I would like to draw your attention to. That is the rental of farmland. It is often used as a tool to facilitate farm succession, and the rental income provides the retiring farmer with income, while giving the incoming generation the ability to affordably manage the property. Our suggestion is that that really needs to be considered active business income and not passive income. Thank you.

Senator Mockler: We will begin questioning with Senator Neufeld, to be followed by Senator Jaffer.

Senator Neufeld: I can understand why the farm community is obviously concerned with some of the things that the government said they wanted to do. The last panel said that they would like to see the government hit the pause button, back off on all the changes that they have proposed and do a rethink of the whole tax act. You said that brings some nervousness. Is it real nervousness or would it be something that the farm community would maybe accept as the right thing to do, instead of trying to do these one-offs that end up backfiring on government and causing huge angst in the farming community?

Mr. Etsell: I have sat through all the panels this morning and I have found them fascinating. Be careful of what you ask for, right? Yes, there would be nervousness in terms of doing a massive stop and review. But by the same token, if that's what is going to happen, and I don't discount the need for it, we want to be involved.

That's the important thing: Don't do such a review in isolation. Include the business community and the farm community in that discussion.

Senator Neufeld: Would you say that farmers are generally happy with the present taxation system that's in place in the farming community today? I mean, in general terms -- I know you can't pick out every little thing.

Mr. Etsell: It's interesting, because it used to be that there were a lot of sections of the tax act that were specifically directed to farmers. We used to have the ability to average income. That was taken away.

There is the taxation right now of part-time farms that is treated separately, and it is unlike any other business. You can have a part-time business, but it's not farming, and if you have losses in it, you can apply it against other income. You can't do that with farm income. So, we have seen an erosion over time in terms of the benefits from the tax act. Investment tax credits used to be available to encourage innovation. That's been taken away. One of the last remaining ones that we have is this ability to do tax-deferred intergenerational transfers.

Senator Neufeld: The other thing you said that struck me was that farmers are large real estate holders and can easily be sold, that we're starting to see this happen in B.C. Can you give us some data on that, please? When we think about intergenerational transfer of farms -- I think the average farmer is somewhere in the 60 or 65 range, somewhere in there -- why aren't some of those farms transferring inter- generationally?

Mr. Etsell: Ever since I was an agricultural student at Olds Agricultural College, that number has always been high.

Senator Neufeld: It stays the same?

Mr. Etsell: I think the reason it is high, and I'll use my family as an example. I just turned 65. My wife is 60. Our kids, who are both involved in the farm, but currently don't actually own it, are in their 30s. I think that's what the data is capturing. Quite often the transfer of assets won't happen until mom and dad actually retire. Farmers seldom retire. We retire when we die, and the farm assets get transferred at that point. So, I think the statistics, in terms of the average age of farmers, is somewhat misleading. Like I say, our kids are intimately involved in our operation. So, if you took the average age, we would be down around 40.

Senator Neufeld: Can you give us some statistics the transfer of land?

Mr. Etsell: I can't. I can anecdotally give you some.

Senator Neufeld: Actually, if you do have some, could you forward it to the clerk, and then all of us will have that information? I would appreciate that.

Mr. Etsell: I will. My wife was the Executive Director of the BC Blueberry Council, and we were seeing, in the blueberry industry particularly, a lot of foreign buyers coming in and buying up farms.

Senator Neufeld: Thank you.

Senator Jaffer: Thank you, Mr. Etsell, for being here. We haven't introduced ourselves, so you may not know me. I'm Mobina Jaffer from B.C. I'm also a farm owner. I want to put that on the table so that you know I have an interest in this.

The time has arrived, when you are working so hard and you are not making so much money as you would make in other businesses, and then you have all these challenges coming with the tax proposals. My great concern is that we not only have people from outside who would buy our land, but also, we would sell our land at huge profits, and the farm disappears. I think there are bigger challenges. It is fine that foreign people buy and continue the farms, and I'm okay with that. The challenge is that we have a farm that we could sell and make a tremendous amount of money. However, that's not what we want to do. But if this goes on, we may.

What I'm saying is that there is a real threat, especially in the Lower Mainland and Southern B.C., of losing a lot of farmland. I want your opinion on that.

Mr. Etsell: I agree. I'm going to try to get those statistics that you have asked for to actually support that contention, rather than going on just my experience. That's very much a reality. We're seeing it particularly with farms where the next generation isn't particularly interested in getting involved because of the low returns. In those cases, they are very receptive to selling the operation, and it's easy to do.

Senator Mockler: Senator Marshall, to be followed by Senator Andreychuk.

Senator Marshall: You say you represent 14,000 farmers. Split income and passive investment are the only two proposals on the table, although I agree with you, the ones that were taken off the table may come back on the table. Do they actually impact farmers? I would think that the split income one does, for sure.

Mr. Etsell: The devil is in the details. The government did say, and I quote, “The businesses with family members who meaningfully contribute to the business will not be impacted.” But the devil is in the details. How do you determine that?

Senator Marshall: I can tell you this. We had the Department of Finance officials testify before the committee, and the official that spoke about spousal involvement in the business wasn't very sympathetic to splitting income with the spouse. That's a bad omen for the farming community. So, I agree with you there.

You were saying earlier that farms are asset rich but cash poor. I expect you mean in terms of land and equipment, et cetera. How is the passive income proposal going to affect your members?

Mr. Etsell: The important thing with the passive income component is that we not make the retention of capital within the farm a disincentive for future investment. That's the danger of what will happen with that whole area. You know, I struggle with the $50,000-threshold.

Mr. Etsell: Some of our members actually say that that's adequate. I mean, you look at a farm and who builds up $1 million in cash? On the other hand, the attractiveness of the threshold is that it's simple. I tend to agree with Professor Duff in that rather than looking at a threshold you should be looking at what the purpose is for the savings.

Senator Marshall: But as it stands right now with the $50,000-threshold, have you anything that would indicate how many members it would affect at this point in time?

Mr. Etsell: No, I don't. I think that the one that would actually affect members the most is the income sprinkling.

Senator Marshall: It would not be just the spouse, would it? It would be other family members, but the spouse mostly.

Mr. Etsell: What was interesting, I forgot if it was the last panel or the previous, but somebody mentioned that paying dividends to children who are in university. I think that's a legitimate compensation for, for the children who have contributed to the family farm for nominal, if any, income. Now they're going to university, very possibly to study agriculture to come back to the farm. Why wouldn't you pay them a dividend to help facilitate their journey through university, so that they come back to the farm educated?

In a sense, it makes sense. You start a business and you don't have disposable cash. Over time, you get some cash. Why wouldn't you compensate family members, yourself, your spouse and your children, for past services rendered? I mean, there's always the question of reasonableness, but provided that it was reasonable, why wouldn't it be allowable?

Senator Marshall: The tax on split income would impact almost all of your members, would it not?

Mr. Etsell: Absolutely.

Senator Marshall: Thank you.

Senator Andreychuk: Following up on that, having perhaps too much history in agriculture, the family farm was always something that successive generations of leaders of Canada understood. I recall the mechanisms in the 1970s that were put in place to recognize it, to ensure that we would still have an agricultural base, but a competitive agricultural base. University for the students, I recall, was built up at the University of Saskatchewan, and we had vocational agriculture degrees. You just didn't learn about agriculture and research. It was applied to the farms. They came to university after the harvest and they were gone before planting season. There was a lot of talk on how we maintain the farm structures.

Today, it's more important that we're competitive. It's to get the next generation more competent to deal with the agriculture of the future. Some of these tax maneuvers, if you want to call them that, have helped keep ahead of the curve. I know in my province we were growing wheat, oats, barley, rye. Now, it's chickpeas, lentils. You take into account climate change. They're telling us that a one degree difference will mean that we will have even different crops than the ones we have. You train the next generation to absorb, for the benefit of all Canadians, a safe agricultural system.

What do farmers of the next generation need to be competitive worldwide? Your business is blueberries, which is unknown to us, except for Saskatoon berries, which we're now developing. What is it that you need to really continue to be competitive in a world market?

Mr. Etsell: Well, there's no one more innovative than a farmer.

Senator Andreychuk: Exactly.

Mr. Etsell: You put us back up against the wall, and we will figure out a way to succeed. Certainly education is a big part of it. We need a tax system that is predictable and stable. It goes back to the question, do you really want to open it up, because we're kind of used to what we've got. By the same token, maybe if it was and there was wholesome discussion, it might actually be refreshing and we might, at least for the next 30 years, have a stable platform. It is stability, education, and farmers will figure out the rest.

You are absolutely right in that the chickpea and what has happened in the prairies has saved the grain industry. About 10 years ago we were in danger of losing our grain sector because of the reliance on wheat and barley.

Senator Cools: You said that you were in danger of losing something?

Mr. Etsell: Well, yes.

Senator Cools: Soil, ground soil, is that what you said?

Senator Mockler: Your last comment referenced “10 years ago and lately.”

Mr. Etsell: Oh, I'm sorry. You talk about the need for rainy-day funds and building up passive investments. Farming is very cyclical, and there are times when you have major economic downturns. We had that in Canada about 10 years ago. It was just the economics of the grain sector, and international prices were depressed because of overproduction in other countries. The economics were such that we were in very real danger of losing our grain sector.

Senator Cools: Grain sector?

Senator Mockler: The grain sector.

Senator Cools: Yes, that was it. I thought you said “soil.”

Senator Mockler: Senator Pratte, to be followed by Senator Oh.

Senator Andreychuk: I was just going to say that the prices of land also dipped at that time.

Mr. Etsell: Yes.

Senator Pratte: You expressed a concern about the subjectivity of the reasonableness test that would be administered by the CRA. We discussed this with the CRA people when they appeared before us last week, and they mentioned, as I think did the minister, that they presently use a reasonableness test when it comes to labour contributions. They seemed to say that it would not be much more complicated to use a reasonableness test when it comes to dividends, than what they do with labour contributions. So, they seem to think that there would not be more or less complexity than what they're using now when it comes to labour. Would you care to comment on that?

Mr. Etsell: Within the family farm context, the contributions can be quite diversified. I'll again use the example of the children. They will start at an early age. How do you account for that contribution over a period of time? If it's an adult, you can say they have worked X number of hours and their value is this rate. But for a child from the time of 12 years of age to 18, how do you assess that? That's one area of subjectivity.

For the wife, the spouse, who looks after the farm and children, so that the other spouse can devote probably more than a full-time job's worth of time on the business, how do you value their contribution? That's what I think we're thinking of, the subjectivity of those kinds of contributions.

Senator Pratte: Forgive me if I'm wrong, but if today a farmer was to pay a salary to his spouse, not dividends, a salary, then the CRA would use a reasonableness test to see if the salary was reasonable. So, such a reasonableness test is used today.

Mr. Etsell: Well, you can always equate through calculations the equivalency of a salary. Just because it's called a dividend, you can still equate it back to whatever the salary level would be.

Senator Pratte: One of your recommendations concerning passive income, your first recommendation, is that any taxes on passive income should only be levied when such income is dispensed through dividends to shareholders for personal use and not on an annual basis while they are retained within the business. How would that work exactly?

Mr. Etsell: Part of the problem with the proposals is that we don't have the detail. It would be relatively easy to keep track of that income within a tax account over time. In fact, one of the other recommendations is that it shouldn't just be an annual threshold, but a cumulative threshold, just like the RRSP or TFSAs, because you have downturns. I mean, $1million right now might generate $50,000, but with the way the markets work, that doesn't mean that it's going to be static. It might dip to $30,000 the following year. So you should be able to take that difference and add it to the threshold. It would be fairly simple to keep track of that.

Senator Pratte: I'm just trying to understand the goal of such a recommendation. If you have passive income and it's not taxed at all while it's in the company, just taxed when it's paid out as dividends --

Mr. Etsell: Well, assuming the company is taxable, it would be taxed at the marginal tax rates at the time. Keep in mind that the first overarching goal is that you don't want to make it a disincentive to save funds for future purposes, and if you are going to tax it when it's earned in the company, that is exactly what you are going to do. You are going to make it a disincentive for people saving up for those three things that I had mentioned.

Senator Mockler: Senator Oh, and then we will conclude on the second round with Senator Marshall.

Senator Oh: Canada is such an important country. We are probably fourth or fifth in agri-food exports all over the world. The government proposed in October a modification on the proposed tax changes. One representative told us that that is a good sign, although they are still waiting for the details on income sprinkling. Other agricultural representatives argue that the changes should be scrapped totally because many farms are family businesses and increasing capital requirements of farms requires considerable passive investment to prepare for expansions or downturns. Can you comment on how the proposed changes affect the agriculture business in your region?

Mr. Etsell: Well, like I said, the devil is in the details. We welcomed the changes that came about in October. But it's kind of like thank goodness they took the big one off the table. They have talked in terms of the income sprinkling saying that it won't affect those who contribute meaningfully to the company. We recognize that there may well be abuses out there, but as long as that principle is maintained, then I don't think we have a big problem with it. It's real, but it is the devil in the detail.

Senator Oh: If the passive income provision is not changed, do you think that more family farms will change into corporations?

Mr. Etsell: Like I say, only 25 percent are using corporations, and you may well see it cease to expand.

Senator Marshall: I have a general question. Where do you see the farming community going over the next 20 years? Do you think that family farms are coming to an end, that they're going to be bought out by bigger corporations?

Mr. Etsell: Good question. If you take a look at the model south of the border, they are large farming corporations, by and large. There are still a lot of family farms, but they are large farming corporations. If I had a model to choose, I would still want to choose the Canadian system. I think there are environmental issues with the way the U.S. model works. There are massive risks. We're involved in the turkey industry. That's part of our operation. And when you take a look at poultry farms south of the border, they have as many chickens on one farm as we have in all of B.C. The disease risk is huge. If something happens to that one farm, you have wiped out a good part of your production. We had that in the U.S. a couple of years ago with avian influenza in the turkey industry. It had a huge impact on Canada, because we weren't able to get the poults we needed. So, I think if you talked to most farmers, they value the family farm model.

Senator Marshall: Do you think that we're headed to bigger farms because of these tax proposals?

Mr. Etsell: As I said, as long as we can maintain the ability to facilitate intergenerational transfers on a tax-deferred basis, we're okay.

Senator Marshall: Thank you.

Senator Mockler: Thank you very much for sharing your comments on behalf of the British Columbia Agriculture Council.

(The committee adjourned.)