Proceedings of the Standing Senate Committee on
National Finance
Issue No. 65 - Evidence - May 1, 2018 (morning)
OTTAWA, Tuesday, May 1, 2018
The Standing Senate Committee on National Finance, to which was referred Bill C-74, An Act to implement certain provisions of the budget tabled in Parliament on February 27, 2018 and other measures, met this day at 9:45 a.m., to consider the subject matter of this bill.
Senator Percy Mockler (Chair) in the chair.
[Translation]
The Chair: Honourable senators, welcome to this meeting of the Standing Senate Committee on National Finance.
[English]
My name is Percy Mockler, senator from New Brunswick, chair of the committee. I wish to welcome all those who are with us in the room, and viewers across the country who may be watching on television or online on the Senate website at sencanada.ca.
I would like to ask the senators to introduce themselves, starting on my left.
Senator Jaffer: My name is Mobina Jaffer, and I’m from British Columbia.
Senator Mitchell: Grant Mitchell from Alberta.
[Translation]
Senator Pratte: André Pratte from Quebec.
Senator Moncion: Lucie Moncion from Ontario.
[English]
Senator Marshall: Elizabeth Marshall, Newfoundland and Labrador.
Senator Eaton: Nicky Eaton, Ontario.
Senator Cools: Anne Cools, senator from Toronto.
The Chair: Honourable senators, today we begin our consideration of the subject matter of Bill C-74, with all our bookbinders, information sheets and questions. Bill C-74 was referred to us by the Senate of Canada last Tuesday, April 24. Bill C-74, An Act to implement certain provisions of the budget tabled in Parliament on February 27, 2018 and other measures, is what we call the budget implementation act.
[Translation]
This type of legislation is squarely in line with the mandate of the Standing Senate Committee on National Finance.
[English]
To begin our examination and go over the entire bill, we have before us a number of officials from the Department of Finance. The three I will introduce formally now and the support officials in the back will be available to senators for questions.
The first is Trevor McGowan, Director General, Tax Legislation Division, Tax Policy Branch. Thank you, Mr. McGowan, for being here with us.
[Translation]
I would also like to introduce Mr. Pierre Leblanc, Director General, Personal Income Tax Division, Tax Policy Branch, from Finance Canada.
Thank you for being with us today.
[English]
Also, Maude Lavoie, Director General, Business Income Tax Division, Tax Policy Branch. Thank you for being here to share your comments.
I would like to thank all the officials for being ready to help us give the best possible examination we can to Bill C-74. What we are expecting from you now is to go over the measures in the bill and to explain them. If it is all right with you, we would like to take the opportunity to ask questions after you finish your explanations.
Honourable senators, in order to have a full understanding of Bill C-74, we will proceed in the following way. In your book binder, it is tab A, clauses 2 to 46, Part 1, which is entitled “Part 1: Amendments to the Income Tax Act and to Related Legislation.”
On tab A, clauses 2 to 46, I will ask Mr. McGowan to make his presentation and give us the information. Mr. McGowan, please.
Trevor McGowan, Director General, Tax Legislation Division, Tax Policy Branch, Department of Finance Canada: I will be providing an overview of Part 1 of the bill, which relates to the income tax amendments. I will proceed in the order in which the measures first appear in the bill. Many of the measures, as the Income Tax Act is a complex statute, amend different sections of the act and are found in the bill in non-sequential order, and many deal with multiple clauses. I will go based on the order in which they first appear.
The first measure relates to the Pension for Life benefit. It provides the appropriate tax treatment of the new Pension for Life benefits. These three new benefits are the Pain and Suffering and Additional Pain and Suffering benefit, which would be tax-free, and the Income Replacement Benefit.
Next, it ensures the new Memorial Grant Program for First Responders is tax-free. This starts in 2018-19 and will support families of first responders, such as police officers and firefighters, who have fallen in the line of duty.
The next measure relates to the reduction of the small business tax rate. The tax right applicable to qualifying small business or active business earnings of a Canadian-controlled private corporation up to a $500,000 limit is being reduced. Prior to this bill, it would be 10.5 per cent. This bill would reduce it to 10 per cent effective January 1, 2018, and ultimately to 9 per cent effective January 1, 2019.
Next, the bill also contains amendments relating to the holding of passive investments within a private corporation. This contains two sub-measures. The first measure limits the ability of small Canadian-controlled private corporations with significant passive investments to access this lower small business rate of tax. The access to the small business deduction and the lower rate of tax would be reduced based upon the amount of passive income in excess of $50,000 within the corporation.
The second measure provides that private corporations will no longer be able to obtain refunds of taxes paid on investment income while paying dividends that are eligible for the enhanced Dividend Tax Credit. This provides better coherence within the tax system with respect to income from passive investments and from active businesses.
The next measure relates to income sprinkling. It is intended to prevent the ability of a relatively higher income earner to divert income to a relatively lower-earning family member and thus reduce their taxes by taking advantage of the relatively lower marginal tax rate of their relative.
The next measure relates to additional tax relief for the Canadian Armed Forces. This measure extends an existing deduction available for Canadian Armed Forces personnel and police officers deployed on international operational missions. The measure eliminates the requirement that a particular risk score be assigned to the international mission before the benefit is available. It also increases the deduction or the effective exemption up to the level of pay of a lieutenant-colonel.
The bill also introduces the Canada Workers Benefit, which is a refundable tax credit that supplements the earnings of low-income workers. This replaces the existing Working Income Tax Benefit. It expands the class of expenses eligible for the Medical Expense Tax Credit to include expenses associated with service animals for persons with severe mental impairments. For example, this could include service dogs for individuals with post-traumatic stress disorder.
It accelerates the indexation of the Canada Child Benefit by two years so that it will begin to be indexed in July 2018 to ensure that the value of the Canada Child Benefit is maintained.
It extends by one year the Mineral Exploration Tax Credit, which is a 15 per cent tax credit intended to support grassroots exploration for minerals in Canada. It extends until the end of 2023 a temporary measure that permits a qualifying family member — which could be a parent, spouse or common-law partner — to become the plan holder of a Registered Disability Savings Plan for an adult beneficiary whose capacity to enter into a contract is in doubt.
It contains two measures relating to charities. The first relates to the 100 per cent revocation tax when a charity’s charitable status is revoked. When that happens, the 100 per cent revocation tax, based upon the value of its assets, can be reduced when the charity makes gifts to so-called eligible donees, which in general terms are other arm’s-length charities. This would add municipalities, on a case-by-case basis, to the list of eligible donees for the purpose of reducing exposure to the other revocation tax. It would also eliminate a duplication in the rules with respect to certain universities outside Canada, the student body of which ordinarily includes Canadian students. Such universities can be qualified donees for Charitable Donation Tax Credit purposes, but they must currently be both prescribed in the regulations and also registered with the Canada Revenue Agency. The latter requirement was introduced relatively recently. This bill would reduce this duplication and only require registration with the Canada Revenue Agency.
Next there are two measures relating to child benefits. The first relates to data access. In 2016 the government introduced the new Canada Child Benefit, which replaced, amongst other things, the National Child Benefit supplement. Information relating to the National Child Benefit supplement has been shared with provinces, solely for the purposes of administering their social assistance payment regimes. This measure would allow sharing of information relating to the Canada Child Benefit for the same purpose.
It also extends, retroactively, eligibility for the former system of the Canada Child Tax Benefit, the National Child Benefit supplement and the Universal Child Care Benefit, which were replaced by the Canada Child Benefit, to foreign-born individuals who are Indians under the Indian Act, who legally resided in Canada and have Canadian-born children, so that such individuals who were not eligible for the former system of tax benefits but are eligible for the Canada Child Benefit since its introduction, would become retroactively eligible for the former system of child benefits back to 2005.
Lastly, the bill would extend eligibility by five years for the enhanced capital cost allowance rate of 50 per cent related to equipment used in certain clean energy projects, and this would apply to property acquired before 2025.
That’s a summary of each of the measures in Part 1 of the bill.
The Chair: This concludes the explanation of Part 1. The chair will recognize Senator Marshall.
Senator Marshall: I will start at the beginning, in the same order.
In terms of Pension for Life, you didn’t mention the caregiver benefit. Does that fit into one of the categories you spoke about, the new caregiver benefit? I think there is so much allowed a month.
Mr. McGowan: That’s not one of the amendments under the Pension for Life. The three affected are the Pain and Suffering benefit and the Additional Pain and Suffering benefit, which would be tax-free, and the Income Replacement Benefit, which would be taxable in essentially the same way as the income it replaces. Before retirement age, for example, the measure gives you RRSP contribution room; and after retirement age, it ensures that the pension income-splitting rules will be available. That’s what I meant by “appropriate tax treatment.”
Senator Marshall: So the caregiver benefit must already be in there as not taxable, I would expect. Would you know that?
Mr. McGowan: I can’t say with certainty. I think I know the answer.
Senator Marshall: I read something about caregivers in one of our briefing notes.
The small business tax rate reduction, you talked about the dividend gross-up factor and the Dividend Tax Credit. You did give numbers. I didn’t catch them. Can you tell me what the dividend gross-up factor is. That has been reduced, right?
Pierre Leblanc, Director General, Personal Income Tax Division, Tax Policy Branch, Department of Finance Canada: Basically the idea is that the taxation of dividends at the personal level essentially reflects taxation at the corporate level, so taxes presumed to have been paid. Currently, the dividend gross-up is 17 per cent. It will be reduced to 16 per cent effective 2018 and the Dividend Tax Credit to 10 per cent.
Senator Marshall: So the Dividend Tax Credit will now be 10 per cent. What was it?
Mr. Leblanc: Right now it’s 10.5 per cent, the same as the small business rate.
In 2019, the rates will change again. The gross-up will be 15 per cent and the Dividend Tax Credit rate will be 9 per cent, again in line with what will be the new small business tax rate.
Senator Marshall: Will that be revenue neutral for the government? It sounds good, reductions, but when you factor them both together, will it be revenue neutral to the government?
Maude Lavoie, Director, Business Income Tax Division, Department of Finance Canada: The reduction of the small business tax rate, including the impact on the personal income tax — so the gross-up factor and the Dividend Tax Credit — is expected to cost the government $2.9 billion over the next six fiscal years.
Senator Marshall: Can you split out the reduction in the small business rate and tell me whether the dividend gross-up factor and the Dividend Tax Credit factors together will result in more revenues to the government?
Ms. Lavoie: Those two factors together will cost the government $2.9 billion over the next six fiscal years.
Senator Marshall: I’m surprised.
Mr. Leblanc: The way to think of that, senator, is that businesses don’t pay out all their earnings. If they were to pay out 100 per cent, maybe it would be close, but since a good amount is retained and that’s the purpose of the preferential rate —
Senator Marshall: Okay. Thank you.
You talked about passive investment income and refundable taxes, and some of them now will no longer be refundable. That’s if it’s over $50,000 in passive income; can you explain that again? Under the initial proposal, it looks to be double taxation,that some income would be taxed at over a 70 per cent rate. That will still happen in some cases, won’t it?
Mr. McGowan: There are two measures relating to private income or passive income in a private corporation, and it can be very easy to merge the two.
I will talk about the small business deduction first. That’s the one that has the $50,000 of passive income threshold. It diminishes access to the small business deduction, which is the mechanism that provides the lower small business tax rate on income up to $500,000. It does it based on the amount of passive income in the corporation in excess of $50,000 and at a gradual rate, so access to the small business deduction will be fully eliminated at $150,000 of passive income. The $50,000 threshold, assuming a return of 5 per cent, reflects assets of $1 million.
That is similar to an existing rule that reduces access to the small business deduction based upon the size of Canadian-controlled private corporations. It’s for smaller companies. If you have taxable capital employed in Canada in excess of $10 million, then access to the small business deduction starts to get reduced up to $15 million, where it is completely eliminated.
This would add a parallel restriction. They don’t apply cumulatively. The greater of the two reductions would apply so that you won’t have a reduction for passive income in addition to one for taxable capital. It is whichever reduction is greater. It builds upon an existing mechanism in the tax rules. But that applies to passive income earned in Canadian-controlled private corporations and it affects access to the small business deduction. Its separate from the tax measure that applies in respect of refundable taxes.
Senator Marshall: I’m interested in refundable taxes.
Mr. McGowan: The measure in respect of refundable taxes better aligns the system of taxes that applies in respect of the taxation of investment income with that which applies in respect of active business income and credits. And it corrects a bit of a technical gap in the rules. I’ll apologize in advance because this is technical even in the context of the tax rules.
When you earn income in a private corporation, in very general terms, it can either be taxed at a higher rate — your general rate on income is around 15 per cent — or a lower rate. If you have income taxed at a high rate, then the Dividend Tax Credit mechanism says when you pay out a dividend, it gives you credit for tax that’s presumed to have been paid by the corporation. If you pay a high corporate tax, you should have a high-enhanced Dividend Tax Credit to reflect the higher amount of tax you paid. Likewise, if you have a lower amount of corporate tax, you should get the lower Dividend Tax Credit.
When that is combined with our tax rules relating to refundable taxes on investment income, it produced an odd result where you can have refundable tax paid on investment income earned within a private corporation. That is an additional refundable tax that goes on top of the corporate tax and brings the total level of taxation within a corporation roughly up to the level of the top tax rate, and it eliminates any benefit of moving a passive investment portfolio to a corporation to access a lower tax rate. It provides a sense of neutrality between holding it directly or in a corporation. But when a dividend is paid out to the shareholders, then that additional refundable tax can be refunded.
This measure prevents a refund of tax on investment income which, once refunded, results in a lower rate of tax in the corporation. It prevents that refund when you have payment of an eligible Dividend Tax Credit that gives you a tax credit that is intended to reflect a high rate of corporate tax. In very simple terms, it ensures that if you pay high corporate tax, you get credit for the high corporate tax, and if you pay lower rates of tax, you don’t.
Senator Marshall: But even based on your explanation, it still sounds to me, in the context of what you said initially, that some of these refundable taxes are no longer going to be refundable, so they are not really refundable taxes.
Mr. McGowan: Refundable taxes would continue to be refundable.
Senator Marshall: All of them, or are there some cases where they won’t be?
Mr. McGowan: I want to be clear. There are two ways the question could be intended.
Currently corporations have what is called “refundable dividend tax on hand,” which is the refundable tax they have paid that can be refunded upon payment. One question is what happens to that existing stock of refundable tax? That’s not lost. There are transitional rules to ensure that is not lost.
But the new rules introduced two new categories of refundable tax. One is called the eligible refundable dividend tax on hand and the other is the non-eligible refundable dividend tax on hand. They can be refunded, or not, depending on what type of dividends you pay and the type of income that goes into it.
The transitional rules ensure that the existing stock of refundable dividend tax on hand is transferred into the appropriate category under these two new types of refundable tax accounts. But, going forward, you’ll have a new regime with two types of refundable taxes. So, they are not lost; they are just different.
Senator Marshall: Where will I find examples? Will the government have examples on its website of what the changes will mean based on what the rules are now compared to what the rules will be once this legislation goes through?
If you could get back to the clerk, that would be fine.
Mr. McGowan: I know we have examples. I’m just trying to remember the best ones.
The Chair: Mr. McGowan, if you could provide information to the clerk, please, ASAP following the meeting regarding Senator Marshall’s questions.
Senator Pratte: On the Pension for Life, this replaces the lump-sum program, if I am correct.
Mr. Leblanc: Yes, that is our understanding.
Senator Pratte: The Pain and Suffering Compensation is up to $1,550. Do we have any idea what the average payment will be?
Mr. Leblanc: I would recommend you talk to those from Veterans Affairs to ensure you get the right information.
Senator Pratte: Okay.
What is the expected cost of this measure or these measures?
Mr. Leblanc: We can find it here in the budget. Given that you have these benefits or changes in these benefits and you have different types of benefits, our role here is mainly to explain how each of these should be taxed. In terms of the benefits themselves, just to make sure you get the best information, we defer to others.
Senator Pratte: Do you know if there is an increased cost compared to the current program? Could you provide that information?
Mr. Leblanc: It is probably best if we take the question and find those who can provide you the right answer. We’re just not the experts on that measure, other than ensuring the appropriate tax treatment.
Mr. McGowan: Right. The measures in the bill ensure the appropriate tax treatment, but I believe, although I’m not completely certain —
Senator Pratte: The appropriate tax treatment of the measures?
Mr. McGowan: Right, of the three benefits. The actual payments for the benefits, I think, are contained elsewhere in the bill. I would have to check.
The Chair: Mr. McGowan, do you have officials in the gallery who can answer that question?
Senator Pratte: It would be Veterans Affairs who can better answer those questions?
Mr. Leblanc: Yes, it would be. We will make sure to relay the questions.
The Chair: To relay the questions and provide the answers.
Senator Eaton: I want to get into the sprinkling of income section.
When we went across the country doing hearings on some of these parts, we heard from a lot of people in agriculture. Is agriculture exempted from the sprinkling of income?
Mr. McGowan: No specific exemption is provided in respect of agricultural businesses, but there are a number of exclusions that we would typically expect to apply in the agricultural context.
Senator Eaton: Yes. There are clarifications, I gather.
Will the budget introduce a reasonableness test, which I think was brought up several times by other officials?
Mr. McGowan: Yes. I would be happy to go through the base rule in addition to commenting on some of the clarifications and refinements that have happened since the release of the July 2017 draft.
At the core of the rules is, as you’ve said, a reasonableness test.
Senator Eaton: There were several farmers who started laughing at the thought of their wives or children filling in a time sheet after they come in from feeding the chickens or milking the cows. It would be interesting to see how it is implemented. Is it a one-time only thing or is a daily thing and they send it in with their tax return? How does it work?
Mr. McGowan: There are a number of components to the rules. How it effectively works, just to go through mechanically how you could apply the rule, is that if the tax on split income applies, it imposes a tax at the top marginal rate, which is intended to eliminate any benefits of splitting or diverting income from a top rate taxpayer to a lower rate taxpayer. It applies in respect of what’s called split income, so dividends and interest, things like that, that can be diverted to a lower income earner.
At the core of it is, as you said, a reasonableness test, and it is an exclusion. So the tax on split income — or TOSI, as we call it — will not apply to the extent that the amount an individual receives is reasonable.
I should have mentioned that in order for the rule to apply, there has to be a business from which income is diverted, and one of your relatives has to be involved in the business. If you don’t have a relative involved in your business, it just cannot apply in a business.
If you are in that situation where you have a business with relatives involved in it and you are receiving passive income, there is a reasonableness test.
One of the things we heard as part of the consultations from July is that taxpayers would like additional certainty, both in terms of how the reasonableness test applies and what it means, which we have revised and clarified. In particular, we have clarified that it looks to the relative contributions of the individuals involved and doesn’t require an absolute determination based upon what contributions you have made and how much you should get. It is more based upon the relative contributions of yourself and your relatives: Is the splitting of income reasonable?
Before you even get to that test, in order to provide additional certainty, other exclusions have been provided. The reasonableness test looks to, in essence, your relative contributions of labour and capital in respect of the business.
One bright-line exclusion that was put in to provide greater certainty for taxpayers relates to labour. If you make a significant labour contribution in support of a business, then you are automatically excluded, and that would be deemed to apply where you have put in —
Senator Eaton: So if we are running a small mom and pop shop, we are going to be excluded. If we both work in the business, we don’t have to pass a reasonableness test. Is that what you are saying?
Mr. McGowan: It is age dependent, I should add. If you are under age 18, the existing rules continue to apply, so that exclusion would not be available. But for the general group of 25 and older, for adults, you could be automatically excluded where you have made a significant labour contribution. That is intended to be a little general and a bit flexible, but it is accompanied by a very specific bright-line test of 20 hours per week throughout the portion of the year in which the business is operated.
You had asked about agricultural businesses. If you have a farming business that only operates for one portion of the year, then you would only have to satisfy the 20 hours per week through that portion.
Senator Eaton: In other words, at the end of the year, if I have a farming business — and I know of several of them that employ their children. They have 3,000, 5,000 and 6,000 acres. They have a dairy business and some beef cattle and they sell hay to Ocala in Florida for polo ponies. Their accountant would sit down and they all contribute, so they would just have to do one thing and it would be up to the CRA to decide whether or not it was reasonable. In other words, it is not an ongoing, weekly thing.
Mr. McGowan: I should say, this labour contribution test, the 20 hours per week, if you satisfy that, there is no question as to reasonableness. It is somewhat binary. You put in 20 hours or you don’t.
The interaction between those two rules is critically important to understanding how it works. We have these new bright-line tests, and they’re intended to represent cases where it is presumptively reasonable. If you meet these bright-line tests, you don’t have to worry about even looking at the reasonableness test. You spend more than 20 hours per week. The Canada Revenue Agency isn’t going to come in and say, “Okay, you both spent 40 hours per week, but I think one has contributed more than the other, so we will adjust the taxes.” This provides an exclusion based upon your labour contributions before having to apply the reasonableness test.
That said, the reasonableness test is still there. If you don’t meet one of the specific bright-line exclusions from the rules, you can still be exempt from the tax on split income if what you’re earning is reasonable.
Senator Eaton: Can you give us a limit? What is considered reasonable?
Mr. McGowan: It is a factual determination on a case-by-case basis, looking at all the facts and, in particular, the relative contributions by two people. The Canada Revenue Agency has put out guidance on how it would apply the test.
There is no specific bright line on what is or is not reasonable. That function was intended to be included as part of the bright-line exclusion. There is the excluded business exception that we discussed, if you have, on average, more than 20 hours per week in the year or in any five previous years. If you have worked for five, 10, 15 years in a business, have put in your labour contributions and you choose to retire, or if you are putting in less than 20 hours per week, you will continue to be excluded based on any five previous years of labour contributions. That is intended to apply and help retirees.
That provides a bright line, but there is still the general reasonableness test if you don’t meet that. Those are two operating in parallel exclusions. It is not the case that if you fail to meet a bright line, you are automatically caught. You can still demonstrate reasonableness, and that is general by design so it can apply in the correct circumstances.
As for the other bright-line exclusion, we talked about the one for labour; this can be thought of as the one for capital. It applies where you have more than 10 per cent of the shares of the corporation carrying on the business, provided the business earns less than 90 per cent of its income from services. If all of its income is from services, then one is presumed to have a lower capital requirement. And there is another exclusion relating to labour that might be available in the case of more labour-intensive businesses.
For this “excluded share” exception, it applies where you have more than 10 per cent of the shares and it is almost exclusively service businesses. To pick up on the agricultural example, if you have a farm selling farm products such as milk, or what have you, and two spouses own 50/50 or 89/11 of the shares carrying on that business, that exclusion will be available. In that case, you would not test the reasonableness of dividends received by any particular spouse, you would just be excluded.
I’m sorry if I am harping on this, but it bears repeating that if this exclusion isn’t available and you have, say, less than 10 per cent of the shares or if the corporation carries on a 100 per cent services business, that does not mean that the tax on split income automatically applies because there is still the reasonableness test in the background for those who are 25 and over. That is intended to respond to the criticism we heard the most about the lack of certainty of the reasonableness test while still maintaining the flexibility. It does so by providing bright-line exclusions, but it retains the flexibility of a reasonableness test. Even if one or more bright-line exclusions are not met, you still have the reasonableness test to fall back on.
Senator Eaton: Yes, thank you. And I suppose the reasonableness test is subjective. It is someone sitting in CRA deciding whether or not you are reasonable or not. You have happened explain a lot of it.
Senator Jaffer: I want to continue with what Senator Eaton was asking. My colleagues all know, but just so you know, I am a farm owner. I want to put that on the table.
I am really concerned about reasonableness because it is subjective. You didn’t answer the question of Senator Eaton as to why a husband, or whomever, has to come in and put down how many hours they worked. How will that work?
The other words you used were “20 hours,” and how will you address that? I know 20 hours is 20 hours, but farming is seasonal; it is different. It is not 20 hours every week. If you have blueberries, it is not 20 hours a week for the whole year. The other word you used a lot is “relative.”
Could you explain all of that?
Mr. McGowan: Yes, I would be happy to.
When we were talking about time sheets, the mind goes to the exclusion based on the number of hours. There is specific bright-line exclusion from the tax on split income if you make a significant labour contribution in support of a business. That could be less than 20 hours per week, as long as it is significant. However, there is a bright-line rule saying that will be considered to have been met if you spend more than 20 hours per week throughout the portion of the year that the business is being carried on.
In a farming business or in a seasonal business — and I certainly don’t mean to imply all farming is seasonal. For dairy farmers —
Senator Jaffer: And for egg farmers, et cetera.
Mr. McGowan: Exactly. But for seasonal businesses, it is only throughout the portion of the year in which the business is being carried on. If you meet that 20 hours per week threshold in the year or in any five previous years, you have certainty that without regard to reasonableness or anything like that, you are excluded from the tax on split income. That could require some sort of time keeping. That would probably be a best practice in terms of demonstrating it to the Canada Revenue Agency.
It is similar in principle to the requirement that currently exists for employees, if you pay your employee a salary. If you pay your child a salary to work in the business, that would be deductible only to the extent that it is reasonable. Often you have time keeping there.
If the exclusion you are choosing to rely upon is based upon the 20 hours per week, then it would be reasonable to keep track of how many hours there are, although that is not in the legislation; that is based upon dealing with the Canada Revenue Agency.
But it is important to remember that there are other exclusions. I mentioned the farming context. That is not a service business. If each spouse has more than 10 per cent of the shares of the business, then another exclusion automatically applies. Again, you don’t have to fall back to the reasonableness test.
If you are in the reasonableness test — and this is getting to the relative part of your question — there is a more general catch-all exclusion where the tax on split income will not apply if what you are receiving is reasonable. It is reasonable having regard to the relative contributions of yourself and — I will speak generally — your relative working in the business. It could be a spouse or a parent, for example.
One comment we heard as part of the consultations was that when we talked about a reasonableness test, a reasonable return, that implied some sort of objective return. If I put in 20 hours per week or 25 hours per week, the Canada Revenue Agency would come in, look at the value of our skills and what we could obtain in the open market, and perhaps do a transfer pricing analysis, which you see in the international tax context. You have to determine what an arm’s-length person would have paid for those services.
That also led to concerns where you have abnormal returns or returns that are higher than normal. If you sell your business or have a windfall gain — finding oil on your property or something like that — in excess of what somebody would pay you for your labour, there was a concern raised about how that is dealt with: Is the tax on split income always going to apply?
We endeavoured to clarify that it is not some objective determination of how much your labour is worth or how much of a return on your capital you should get. If you put in $100,000 for common shares, the government doesn’t have to determine what a reasonable return on common shares or capital investments is in the context of a business. Rather, it looks to your relative’s contributions. So, if Pierre and I were related and were both working in a business and sold it or had some giant return that was more than we would have expected, it doesn’t look to an absolute number of what is reasonable. It just says, “Well, you’ve put in relatively equal contributions, so you can take out relatively equal income.” It doesn’t require a more complex transfer-pricing-focused determination, which can often be complex and time consuming in the international, multinational-corporation tax context. It looks more to what you put into the business in terms of labour and capital and what your relatives have put into the business in terms of labour and capital, and then the divisions of income you’ve taken from the business and whether that can be considered reasonable.
It requires less of a compliance burden than the transfer-pricing analysis that taxpayers were concerned would be required. It also allows for the possibility of “super-normal” returns and the appropriate tax treatment in those cases.
Also, if you have, say, two people who are related and working in a business or in respect of a business and neither one of them contributes all that much — say they were gifted shares or inherited them — then that’s okay because they have made similar contributions in respect of the business. It looks to how you carve up the pie and not the size of it.
One last benefit to using that concept is that it aligns more closely with an existing rule in the Income Tax Act, in subsection 103(1.1) that applies in the partnership context. In the partnership context, there already is a rule that has been around for many years that looks to allocations of income and other tax amounts from a partnership and whether they have been reasonably allocated to the partners based upon those partners’ contributions of labour and capital. It more closely aligns the tax on split income rules with existing rules that apply in the partnership context that taxpayers have been living with and working with for a number of years.
Senator Jaffer: I know the horse has left the barn when it comes to income splitting, but one of the things that we heard across the country was this: Did you do gender-based analysis? What has happened to the feminist agenda of this government, because it is assumed that one person is the main earner and that the other is the person who is contributing? For many farm couples, they are equal. One of the things I heard a lot where I come from in B.C., from farm owners, is that it’s not he doing and she helping. It’s both doing. How are you taking all that into account?
I’m being respectful. I don’t mean to be rude, but farmers have a lot to do. Obviously, now, you’re going to make them keep more documents. That’s a frustration of farmers. Now I’ve said it.
How did you apply gender-based analysis to income splitting?
Mr. McGowan: Yes, we absolutely did a gender-based analysis.
Senator Jaffer: Are we able to see it?
Mr. McGowan: Yes. It was included in the Technical Backgrounder on Measures to Address Income Sprinkling that was released in December.
Senator Jaffer: Could you give a copy to the clerk?
Mr. McGowan: Absolutely. You’ll see the conclusions of the gender-based analysis in that document.
We did do one. It’s a sophisticated gender-based analysis. It’s not simplistic, good or bad type of thing. There are nuances, certainly. For example, if you are diverting income to a lower income earner — and the rules don’t presume the gender of the lower-income earner, although we can look at the data and say that more often it’s one case rather than the other. So the rules are silent on which gender that might be. But, if you have diversion of income to, for example, a lower income earner and the taxpayer stops doing that because a tax advantage is taken away, that would have the effect of reducing an impediment to entering the workforce for that lower income earner. Instead of being taxed at a higher rate based on income if they entered the workforce because of all the split income that had been diverted to them, they would be taxed at a much lower marginal rate. So there’d be less of a barrier to entering the workforce for the lower income earner.
On the other hand — and it’s a nuanced analysis — to the extent income is actually diverted to that individual and not simply on paper only and going back into the higher income earner’s bank account, you have economic questions about economic independence and the like. All if that is to say that it’s not a simple good-bad; it is nuanced. I think we did a thorough gender-based analysis on it. You can see the conclusions in this December release that came out with the revisions.
Senator Jaffer: If you give it the clerk, she’ll give it to us all.
The Chair: If you could provide the clerk with that information. Thank you.
Senator Andreychuk: I’m going to pick up on what both Senator Eaton and Senator Jaffer talked about.
You’re now telling me that you’re trying to get at what is happening in income sprinkling to be closer to what partnerships are, labour and capital. Why?
Let me preface this. When a lot of this was put in place in the late 1970s and 1980s, it was to recognize that not all businesses are the same. It was the talk of family farms: maintaining the farm, being able to work as a unit. It was a teaching exercise for children. It was understanding the crisis that farmers usually go through. You can plan your week, but it doesn’t go that way. If it rains, you’re hailed out. If one of you gets sick, someone else has to cover. I even remember the days when children would be held back to help and wouldn’t go to school. So we were trying to encourage going to school and not doing that.
Why the push to make it like partnerships and not recognize the uniqueness of small business, which usually is family started, family owned? They want to pass it on. Why the difference in direction?
Mr. McGowan: I don’t think the intention underlying the initial rules was to necessarily align them with partnership. Rather, one of the purposes of the revisions to the reasonableness test that occurred in response to the July 2017 proposal was to more closely align them with the rules applying to partnerships and to provide additional certainty for taxpayers because it would be similar to a system that had been in place for years, had been administered and people knew how it worked. So that would reduce some uncertainty.
The general idea behind the income sprinkling proposals, building upon on the tax on split income in section 120.4 that was introduced, I think, around 2000, is intended to address a situation where a higher income earner effectively diverts their income to a lower income earner in order to take advantage of differences in their marginal tax rates and achieve an overall reduction in tax that is unfair relative to somebody who does not have those diversion opportunities available. Employees can’t do it; single earners can’t do it.
In terms of the origins, it goes well back. You can think back to the Carter commission on taxation. They looked at one of the fundamental characteristics of our tax system: What is the appropriate basic unit for taxation? Is it an individual or is it a family? Our tax system in general — obviously, there are exclusions — looks to an individual. If you have one individual who is a high income earner compared to another making the same amount of money, the idea in general terms is they ought to pay roughly the same amount of tax. This diversion of income, which is not available for employees or for single individuals, to a lower income spouse or to however many adult children you have, is unfair when you make the comparison between individuals in comparable circumstances.
That’s more of the genesis as opposed to a sense that the partnership rules are so great we should apply them in the context of corporations. Looking to the partnership rules informed our design of the tax on split income, but it wasn’t the driver.
Senator Andreychuk: So the emphasis still is to make employees equal to small businesses.
Mr. McGowan: Not equal, but rather to have —
Senator Andreychuk: Closer, I think was the word.
Senator Cools: Similar; same as; equivalent to.
Mr. McGowan: Well, not to have them equivalent. Obviously they are very different. If you have an employee earning income, they are taxed on that income. There are a host of rules in the tax act that provide — I don’t want to say advantages, because that implies some sort of unfairness by design. It provides lower rates of taxation, this bill, for corporations and for businesses. In addition, you have a number of deductions that are available to businesses that are not available to employees. So there is certainly no attempt to align the taxation of employees and businesses; they are simply different.
You can see, as well, that this bill reduces the tax rate on small businesses from the current 10.5 per cent to 9 per cent, enhancing the advantage of having a Canadian-controlled private corporation and running your business through that, which allows for more retained capital in the corporation to help it grow, which obviously is different from an individual earning employment income.
Rather, you can look to a case where one person earns, say, a half million dollars and pays a certain amount of tax on that. Let’s say that person is a single earner, has no one to divert income to, as compared to someone who can sprinkle income to their spouse who is not working or their adult children. That results in significantly different tax consequences, when, in reality, in both cases you have the same individual receiving the same remuneration for their services.
Senator Andreychuk: Interesting phrase, diverting income, rather than availing yourself of the legitimate tax program.
You use words like “relative,” “significant,” “reasonable,” et cetera. These are all, in the end, going to be the discretion of some CRA person. Are they being trained to understand this?
What I understand is if you try to phone, if you are an accountant — and this is what has been told to me. If I don’t understand it, I have to phone CRA and they can’t give me the answer out in the field. Are you training them to understand this? Because, quite frankly, I would fail the test with all you’ve told me today, and that’s probably reasonable because I’m not an accountant. But I do want the farmers to know what is happening to them and I do want the small businesses to know because that anxiety of not knowing is not helpful, neither to the government nor to the small businesses.
In that sphere, how do you do a job description in a family farm? I may decide to go on the tractor and my husband may stay in and cook the meal and get the kids to school. It’s a joint venture of keeping the family unit going, the farming unit going. And it isn’t seasonal. Most farmers do take breaks — they are entitled to them — but there is always something going on on the farm. It isn’t just harvesting and seeding.
Who will make those assessments to help farmers document a job description? Are they going to keep ledgers? That is the question they keep asking me. Because that hasn’t been expected. It appears now to be expected.
Mr. McGowan: Thank you for your question. I’m going to try to go through them in points, but if I miss anything, please remind me.
You mentioned at the start a number of general terms, a reasonableness test.
Senator Andreychuk: Discretionary words that would be defined by CRA.
Mr. McGowan: Right. So these are more general terms. “Can your relative contributions be reasonable? Have you made a significant contribution to the business.” Certainly in the context of the July release, we heard a number of comments on and concerns about whether or not something would be reasonable and CRA discretion. We made a number of refinements to the rules in an attempt to address that concern, but we kept some of the flexible, more general language in for, I think, a very important purpose.
What we did was we more closely aligned it to rules that have been in existence for years, the partnership ones we discussed, so there is additional familiarity. But more importantly, we included specific bright-line exclusions so that if you meet them, if you put in your 20 hours per week, if you have more than 10 per cent of the shares of an eligible corporation, then the rules automatically don’t apply. There’s no discretion; there’s no sense of reasonableness; there’s no looking at your relative contributions or your job descriptions. The tax on split income simply doesn’t apply if you have met these bright-line thresholds.
But, of course, there will be situations where you don’t meet the bright-line thresholds. Say you put in 15 hours a week but your contributions are still significant; you still put some very important labour inputs or capital inputs into a business. In those cases, we thought it important to have the more general language still be available. If you’ve made a significant labour contribution, even if it is not 20 hours per week, you can still be excluded. If your return is reasonable, even if neither of the excluded share or excluded business exceptions are available, you can still have the exclusions.
So you have both the benefits of a bright-line test providing certainty if you put in a certain number of hours or you have a certain number of shareholdings. But if you have a farm and are 50/50 shareholders in the farming corporation, then the tax on split income would not apply because you have presumably met the excluded share exclusion. So it’s a mix and I think they have to be taken together in context.
Lastly, you had asked about the Canada Revenue Agency. These are these bright lines. There is no discretion. If those apply, then no CRA auditor is looking at reasonableness.
That has a side benefit, as well. We heard a concern in the consultation period where two spouses were each contributing in their own ways to a business. To take an example we heard, one is a doctor and one is a receptionist and they are both working full time in a business, or one does the back office business management and the other is more “client facing.” If they meet the excluded business test, they both work full time, more than 20 hours per week, then the CRA doesn’t look at the relative contributions of either of them; they are just excluded.
In terms of the Canada Revenue Agency, they put out guidance on how the rules are to be applied. We worked with the Canada Revenue Agency in developing that guidance. They continue to engage with stakeholders and release more technical interpretations. As I said, the rules are somewhat more aligned with an existing tax regime, so there is that additional certainty in terms of going forward.
Senator Andreychuk: Why did you choose the age of 24?
Mr. McGowan: There are essentially three categories, maybe four, for the taxing of split income. The existing rules that were introduced around 2000 apply to individuals under 18. They were colloquially called the kiddy tax for many years, and those are largely being preserved with these amendments.
The additions have two different sets of rules for those aged 18 to 24 and those 25 and over. I’ll lump all those 25 and over into one category, but there is a special exclusion that is intended to follow the pension income splitting rules. They can apply for older individuals, but there are two additional categories, those 18 to 24 and those 25 and above. The 18 to 24 group represents an intermediary class between those under 18. It is presumed that any passive income they are earning is diverted and is subject to the kiddy tax, and that’s based on the rules that are currently in the act.
Those aged 18 to 24 are in between the 25 and above who are presumed to have full economic independence. The classic example might be a university student. One common tax plan we see — and the data is reflected in the budget text — is where as soon as an individual turns 18, they start receiving a lot more dividend income through university. It’s common that a professional parent like a lawyer might reserve income in a corporation and start sprinkling when they turn 18.
So the 18 to 24 class has a lot of the exclusions. It is not as comprehensive as the under 18s, but it doesn’t provide the full suite of exclusions available to those over 25, reflecting the presumed differences in economic independence between those classes.
There is sort of a midway point between the 25 plus and the under 18s.
The Chair: There is a bit of confusion on under 18, 18 to 24 and then 25 and up. Could you give us the exact nomenclature that’s being used by the budget process and the CRA?
Mr. McGowan: The tax on split income has a number of exclusions, and I think those are all in the exempt income definition, but there is a series of exclusions from the tax on split income. Some of those exclusions are available only in respect of certain age groups, so that’s where you will find it.
For example, the excluded share exclusion, where you have more than 10 per cent of a business, is available to those 25 and over. There is an additional arm’s-length capital contribution exclusion that applies to those who are 18 to 24. So within the rules and the exempt income list of exclusions, there are simply different exclusions that apply depending upon your age.
The Chair: Where can we find that? Could you provide the clerk with the information? I think it’s relevant rather than being in a grey zone.
Mr. McGowan: It’s in clause 13 of the bill. It’s in the “excluded amount” definition. You can see, at the start, each of the paragraphs is essentially a different exclusion depending on age.
The Chair: Mr. McGowan, could you specify which clause that is in the bill?
Mr. McGowan: In the bill, it’s clause 13(1). In the Income Tax Act it would be section 120.4 (1), in the definition of “excluded amount.” That definition contains the list of exclusions from the tax on split income, and some apply depending on the age of the individual.
The Chair: Thank you for the clarification. If there are additional questions, we will come back to you on that particular segment.
Senator Mitchell: Thank you, Mr. McGowan and colleagues. I will say that after the briefings yesterday and today and despite your valiant efforts, I’m still confused about a couple of things. I wonder if I’m confused because I’m thinking apples and oranges.
One of things that made me go to apples and oranges on this question of splitting income was that you mentioned the payout of passive income in passing. There are two ways to pay money out of a CCPC; one is by dividends and one is by salary. Passive incomes could sound like dividends or like a salary for which I’m not working.
This begins to confuse me and I think that’s some of the confusion that some of us feel. I’m saying you can pay a dividend out to somebody who deserves it because they worked a lot in building the business or they made a capital contribution.
You can pay a salary out to someone who is not working; they may be at Harvard and your business is in Edmonton, and it is helpful to pay your 18-year-old something, and that would not be appropriate.
You can pay a salary out to somebody who actually is working, which would not be in dispute, and you can pay a dividend out based on somebody actually working in the business — a salary — or to somebody who made a reasonable contribution in an investment.
Am I getting there with this? It seems to me what this is all about is finding the person who made a reasonable, real investment, and they could be paid if they never worked again; finding someone who worked 10 years to build a business and now they’re 65 and don’t want to work anymore, and they would be paid perfectly legitimately; or my 18-year-old son who really works. Those three things would not be in dispute, but how does that compare to the payout when you mentioned passive?
I think I’m almost there; don’t disappoint me.
Mr. McGowan: If anything, I’d say you are right. That’s a great point and one I wish I had made earlier. You’re absolutely correct. There are different ways to take money out of a corporation. You can take it out as dividends or salary.
If you take it out as salary, there is a clear and long-standing set of rules in the tax act saying that you can only get a deduction for reasonable salary expenses paid to your kid in Harvard or something. That’s been around for longer than I’ve been practising.
You only get your deductions to the extent they are reasonable and that limitation is important, one, because it reminds us that the easiest way to avoid the tax on split income is to pay a salary. If that’s how you take the income out of your business and that’s how you pay your children, then the tax on split income simply will not come into play because they will not have received dividends or these other types of passive —
Senator Mitchell: But they have to work. You can’t just pay it; they have to work.
Mr. McGowan: That’s right. There is that restriction and that’s why tax planning arose such that if you have a kid who is in Harvard and over 18 and you want to pay income to them from a business and then achieve significant tax savings, you could pay it as a dividend which prior to the introduction of the tax on split income rules didn’t have a reasonableness test.
Yes, you are absolutely correct. You can take money out as salary. That’s the simplest and I expect the most common way to not have the tax on split income come into play. If you do pay a salary, it has to be reasonable.
If you instead pay it as dividends or interest, even interest has to be reasonable to be deductible. But if you pay out more passive income, then you are into the world of tax on split income.
Senator Mitchell: So if you really work, I can pay you, no problem. If you really pay dividends or you really made an investment, I can pay you dividends based on that; or you really put sweat equity into the business a while ago that built some de facto equity, I can pay you out on that. That is where you get into under age 18, it is not likely they would have had money to put into the business. From ages 18 to 24, it is more likely but not entirely likely, so it is a little less restrictive. Over the age of 24, they might actually have real money to put into the business, so that would be a way they could earn if they put in more than 10 per cent.
Mr. McGowan: Yes.
Senator Mitchell: My next question relates to a similar confusion, but I think it is just a terminology issue. It is on this balancing of enhanced dividends and lower dividends depending on how much tax you paid into a CCPC. I guess it is just around the issue of passive income, because if I have passive income, I pay a lower tax in. If I have non-passive income, I pay a higher tax in. That is adjusted accordingly when I pay the dividend out by an enhanced Dividend Tax Credit or a lesser dividend tax credit.
Where I am confused is when you started talking about refundable tax. It dawns on me that there are two kinds of refundable tax now. One is a refundable tax where I pay it, it goes into a pool, and I get it back under some circumstance. The other kind is a tax where I didn’t make any income, but even though I am not getting a return of tax, I’m getting a tax paid to me. It is called a refundable tax, which happens with the child benefit, for example.
In this case, what you were talking about was the former refundable tax. For some reason, I paid taxes, and now I get them back when I pay this out. I thought that isn’t a general application. I thought there were refundable taxes like that in very specific cases, to do with pension overages, pools and things like that. Am I right?
Mr. McGowan: You are absolutely correct. The terminology is a bit confusing. I admit, even as a tax lawyer with a background in corporate and international tax, when I came to Finance I was confused by the different types. The Canada Child Benefit is deemed overpayment of tax. The new Canada Workers Benefit is a refundable tax. This is refundable “dividend tax on hand” and Part IV taxes, and there are other refundable taxes in the corporate context where you pay the tax and you get it back. Yes, they are, unfortunately, similarly named and confusing. You are absolutely correct.
Senator Mitchell: That works into the adjustment on the enhanced Dividend Tax Credit versus the regular Dividend Tax Credit.
Mr. McGowan: Right. Under the rules, if you are a private corporation, on your aggregate investment income you have a refundable tax that is paid on that. The idea, in general terms, is to provide more refundable tax so that you don’t get a potential deferral benefit, earning it in a corporation versus individually.
Then you have a tax under Part IV of the Income Tax Act that is similar. It deals with inter-corporate dividend rules. If you have this refundable tax in a corporation and you pay a dividend up to another corporation, you can get a refund of your refundable taxes paid in the lower one. But that dividend up to the second corporation can be subject to tax under Part IV to maintain the prevention of the deferral benefit. In this context, there are a couple of different types of refundable corporate taxes.
Senator Mitchell: I get it. Thank you.
The Chair: Tomorrow night we will have some accountants coming in, and there is no doubt, Mr. McGowan and the people from Finance, that they are listening to you. They will give us examples tomorrow, and you will be listening to them on the impacts. This will probably confuse a senator like me.
Senator Cools: Mr. Chair, I won’t be here in the fall. I want to propose that this committee undertake a full and comprehensive study of the Income Tax Act. I think it is time that the committee did that.
Thank you so much for coming before us, Mr. McGowan, Mr. Leblanc and Ms. Lavoie. I have been listening to you with some care, and I have been reminded of Mark Twain’s works. I am sure you have known his works, The Adventures of Huckleberry Finn and The Adventures of Tom Sawyer. In one of those novels there is a little Black girl, a slave or something. Someone was trying to find out who she was or where she came from, and she looked up and said, “I just growed myself.” I have the impression that the CRA just grows itself. Sorry, but that came to mind. It is a very beautiful spot in those books. I read them all when I was little.
I want to come, if I can, to something I would describe as a moral matter or issue, if not a moral question or dilemma.
I have been listening to you for quite some time, and I get the impression that the CRA just grows itself when it needs to. It expands into areas when it needs to. I listened to you with some care. You used the words “reasonable” and “reasonableness,” but how are these terms defined and who creates the definitions?
We all like to think that we are reasonable people, but the real moral question that you pose at all times in your remarks is this: What are the limits to governments taking money out of people’s pockets? What is the limit on governments, and how is that standard set? Who sets it?
Sometimes it is as though they are the observers of the public purse, and someone is there watching, looking and reading at all times, studying it and saying, “I think we can apply a tax here or increase the amounts here,” and so on. I always have the impression there is a big god of the sun, the environment or whatever that is just doing these kinds of things.
I wonder if you could help me grasp and understand it. The Income Tax Act has grown just like Topsy.
Mr. McGowan: The Income Tax Act, of course, has grown. I have a copy on my desk of the Income War Tax Act, 1917. It’s much thinner.
Senator Cools: That is right. When it was applied, it was supposed to be a temporary thing to help with the war and it was never taken back.
The Chair: Can you expand on your answer to the question, please?
Mr. McGowan: That is absolutely correct.
In terms of the rates and limits of taxation, they are set by Parliament. For individuals, we have a top marginal rate of 33 per cent.
In terms of the tax system, I can provide a few examples. We see this in a lot of the amendments in this bill, attempts through the internal and, admittedly, somewhat complex mechanisms of the Income Tax Act to limit and provide appropriate tax consequences. We talked earlier about the lowering of the small business tax rate to 9 per cent, which has consequential changes to the dividend gross-up and tax credit mechanisms. Those are intended to limit the imposition of tax, in a sense, such that you don’t pay tax twice on the same income; you pay roughly the same amount of tax whether you earn income directly or through a corporation.
In the dividend gross-up and tax credit mechanism that accompanies the reduction of the small business tax rate, a corporation pays tax at the lower rate. When a dividend is paid out to an individual shareholder, that shareholder’s income is notionally grossed up. Then a credit is provided to compensate them for tax paid by the corporation. That mechanism provides, essentially, a limit or helps to ensure the result that the tax you pay is consistent, whether you earn income directly or through a corporation. That’s so that, as you do in some other jurisdictions, you don’t have multiple layers of tax.
There are a number of mechanisms in the act intended to provide clear limits. Ultimately, though, that is something set by Parliament.
Senator Cools: For sure.
Mr. Leblanc: I have a quick observation. Over time, if you consider total federal revenues as a share of GDP, it has been a long time since they have gone up. You have a decrease of 1 or 2 percentage points as a percentage of GDP in the early 2000s. You have another decline in the mid to late 2000s. Since then, it has been pretty constant. The federal government’s share — its take, if you will — as a percentage of GDP really hasn’t changed.
Senator Cools: I am interested, because I now know no one who does their income tax themselves. However, 20 years ago, everyone I knew did their income tax themselves.
I have also noticed the proliferation of companies that welcome the Canadian population to come to them. You hear the ads of the various companies.
However, as the income tax scheme or system becomes more complicated, Canadians now leave it to these companies. It is an expense for people who are not earning very much money sometimes to pay $500, or whatever it is, to one of these companies to do their taxes for them.
Does anyone pay any attention to that, as the system gets more and more complex? Does anyone say to themselves, “Why should it cost people so much money to get their income tax done?”
Mr. Leblanc: Thank you for that question. You raise an important concern. Our general framework for considering any tax measure is its effect on equity or fairness, its impact on economic efficiency or competitiveness. We certainly consider for any tax its impact on the overall complexity of the tax system, that is, both the compliance burden for individuals or businesses and the administrative burden for the government. We are certainly mindful of that.
You mentioned the particular burden on low-income individuals. In Budget 2018, building on something done in Budget 2016, you have a significant expansion of the Community Volunteer Income Tax Program. That relies on volunteers from across Canada to help low-income individuals fill out their tax forms for no fee. It doesn’t cover everyone, but that is an important initiative.
The Chair: We are giving due diligence to Part 1, tab A, clauses 2 to 46 of the bill. Before we leave, perhaps we can conclude with Part 1 so that in the afternoon we can commence with Part 6, tab F.
Senator Marshall: I’m back to the refundable taxes. I didn’t want to get into a lengthy discussion as we did earlier, because the chair will cut me off. However, the supplementary information, it shows on the passive investment income, under refundable taxes on investment income, that the government will bring in an extra billion dollars over five years. Are you able to tell us what change was made that would result in the government bringing in an extra billion dollars?
Mr. McGowan: In simple terms, that change on the payment of a dividend that is eligible for the enhanced Dividend Tax Credit prevents obtaining a refundable tax on investment income. Private corporations will no longer be able to obtain refunds of taxes paid on investment income while paying dividends that are eligible for the enhanced Dividend Tax Credit.
Senator Marshall: Are those refundable taxes that won’t be refunded? Is that basically what it is?
Mr. McGowan: The refundable tax account remains. They can be refunded on the payment of non-eligible dividends.
Senator Marshall: It could be, but the government is expecting it not to be.
Mr. McGowan: It’s not that it will be permanently stranded and that it will never be recouped; rather, it’s preventing from getting the enhanced credit at the same time.
Senator Marshall: So you are saying it is a timing difference, that they will bring it in now but pay it out 10 years down the road? I am trying to get a handle on whether this is refundable taxes that will never be refunded.
Ms. Lavoie: The refundable tax will continue to be refunded.
What the change will do is that when a dividend pays out eligible dividends, the refundable tax will not be available at that time. The expectation is that corporations will then choose to pay ineligible dividends so that they can get the refund on their taxes, which will mean that they have a preferential tax treatment.
The impacts you see there on the table in the annex are mainly impacts on government revenues at the personal level. Upon receipt of ineligible dividends, shareholders will have access to a lower Dividend Tax Credit than they would on the payment of eligible dividends. So there will be an increase in taxes that comes from the taxation of dividends at the shareholder level. The estimated impact of that is what you can see in the table.
But within the corporation, the refund will still be available. The expectation is that corporations will change their behaviour and pay out more ineligible dividends now in order to access their refund, if they have a balance available.
Senator Marshall: Okay, thank you.
When you talk about individuals investing in a company, getting dividends, and that this would be a deemed dividend, doesn’t the CRA look at whether the person was gifted money to buy the shares? Does it make a difference as to the source of the funds to buy the shares? If you have a child who is investing in your company, and they put $100,000 into the company and will now receive dividends, doesn’t the CRA look to see where they got the money for the shares to determine whether it is a bona fide transaction and didn’t come from the parents?
Mr. McGowan: There is a separate set of attribution rules in the Income Tax Act that looks at those sorts of considerations. However, those are separate and apart from the refundable tax measure in the bill.
Senator Marshall: Yes, I knew that. Okay.
The last comment is the one I mentioned earlier about the veterans. A briefing note we had referenced the caregiver recognition benefits to say that they aren’t taxable.
Could you check that and let us know? I am trying to see who prepared the briefing note. It is the Library of Parliament.
Mr. Leblanc: Thank you for the question, senator. We will check that. The caregiver recognition benefit was a Budget 2017 measure, so that’s why we don’t have the information with us. We will follow up.
Senator Marshall: Thank you.
Senator Jaffer: I know the chair will thank you, but the three of you are really defending something difficult, and I respect what you are doing. Our remarks are not directed toward you. You are just doing a job, but it is very frustrating for us and the people we represent. You are saying this is complex, but what happens to people who don’t live it? You live it all the time.
I don’t need you to respond to that.
I wanted a clarification from you. I didn’t quite follow when you were talking about people who didn’t have a right to live here, if I understood that correctly, and they got the child benefit. Can you explain that again, please? What did you say?
Mr. Leblanc: Basically, there is a provision. Generally, consider the Canada Child Benefit and other similar benefits. For the Canada Child Benefit, the eligibility criteria are Canadian citizens, permanent residents, refugees or those protected persons, certain types.
Let us say you have a foreign-born individual who is still a status Indian under the Indian Act.
Senator Jaffer: Foreign-born and status Indian?
Mr. Leblanc: Yes. You have communities that straddle the border, as an example. They are eligible for other types of benefits in the federal system. It can be things like Employment Insurance .
Basically, we made them eligible for the Canada Child Benefit in 2016. It is a bit of a cleanup measure. We didn’t go back and make them eligible for the old system of child benefits. This measure does that.
Senator Jaffer: What was the original rationale for indexing the Canada Child Benefit payments as of 2020? Why is the government now proposing to index them as of July 2018?
Mr. Leblanc: When the Canada Child Benefit was brought in in 2016, it was a really big investment.
Senator Jaffer: Yes, it was.
Mr. Leblanc: It was also quite a significant increase in spending on benefits for families with children. At that time, the government said, “Okay, we are going to, with prudence in mind, wait a little while before we start indexing the benefit.” Given the strength of the economy, partly fuelled, we think, by strong consumer spending which the child benefit has helped support, the government considers itself in a position to index it earlier. When payments for the 2018-19 benefit year start in July 2018, those will be indexed at 1.5 per cent based on the same indexation system for the tax system.
Senator Jaffer: Were families consulted on this, and what will the effect be on middle-class families?
Mr. Leblanc: They weren’t consulted, per se. They will get more money, so we hope they will be happy with that.
The Chair: As we conclude Part 1, Senator Eaton.
Senator Eaton: I will go to Part 5. How much of cannabis consumed in Canada will be —
Senator Moncion: We are in Part 1.
Senator Eaton: I’m sorry. I will save that question, then.
The Chair: Before we leave, I wish to thank you for the information that you have provided.
There is a question I would like to ask. I was prompted by it when I heard Mr. Leblanc talk about the impact it will have on GDP. Did the department calculate the total cost to those measures? There is a cost and there are revenues regarding those measures. What are the revenues coming in, the expenses and the net revenues of those measures that will impact all Canadians?
If you haven’t done that, and I’m looking at the impacts, we will be returning in public this afternoon at 1:30, so could you provide us with an answer?
Ms. Lavoie: The estimated revenue impacts of the measures, if that is what you mean, are in the annex to the budget.
The Chair: For the record, what is the total revenue coming in, the total expenses going out and the net revenue?
Ms. Lavoie: You mean overall for the government?
The Chair: Yes, overall, the tax measures.
Ms. Lavoie: That is also in the budget, so we can provide that information.
The Chair: And you will provide us with that information this afternoon?
Ms. Lavoie: Yes.
The Chair: Thank you.
Honourable senators, I remind you that we will hold a second meeting on Bill C-74 at 1:30 p.m. in room 257, East Block.
(The committee adjourned.)