Trudeau suggests wealthy Canadians use small businesses to dodge taxes – do they?

Liberal leader Justin Trudeau speaks to the media prior to a rally in Edmonton on Wednesday, Sept, 9, 2015. THE CANADIAN PRESS/Jonathan Hayward.

OTTAWA – The Liberal leader’s political adversaries have pounced on his comment suggesting some small business are “just ways for wealthier Canadians to save on their taxes”, accusing Trudeau of maligning the businesses that create the lion’s share of jobs.

“I think small businesses should be paying less taxes, we just have to make sure that it’s done right … We have to know that a large percentage of small businesses are actually just ways for wealthier Canadians to save on their taxes and we want to reward the people who are actually creating jobs.” Justin Trudeau, in an interview with the CBC’s Peter Mansbridge, broadcast on Sept. 8.

NDP MP Malcolm Allen demanded that Trudeau apologize “for smearing small business owners as tax cheats.”

“He simply doesn’t understand the reality facing mom and pop shops – hard-working small business owners who create the vast majority of new jobs.”

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Defence Minister Jason Kenney chimed in via Twitter: “Small business are the heroes of our economy, but J Trudeau says ‘a large percentage’ are just tax dodges for the rich.”

Both the NDP and Conservatives are promising to reduce the small business tax rate to nine per cent from 11 per cent.

Did Trudeau unfairly malign small businesses or was his assertion correct?

Spoiler Alert: The Canadian Press Baloney Meter is a dispassionate examination of political statements culminating in a ranking of accuracy on a scale of “no baloney” to “full of baloney.”

This one earns a rating of “a little baloney” – it is mostly accurate but more information is required.

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Embed code: A little baloney

Here’s why:

Various academic and think tank studies have found that reductions in the small business tax rate disproportionately benefit wealthy individuals who incorporate their businesses in order to reduce their personal income tax burden, split income with family “shareholders” and avoid capital gains taxes.

In a 2011 paper for the University of Calgary’s School of Public Policy, economists Jack Mintz and Duanjie Chen concluded that reducing the small business tax rate actually discourages the growth of companies and, therefore, of job creation.

Among other problems, they wrote:

“Many small businesses are created to enable individuals to reduce personal tax rather than grow companies … With corporate organization, it is easier to split income among family members holding shares of a corporation.”

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The duo also argued that preferential tax treatment for small businesses creates a negative “threshold effect,” wherein a small company “may stop growing simply to preserve the tax savings associated with the definition of smallness.” And it could result in larger companies breaking up into smaller units in order to save on taxes.

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Another study, co-authored in 2014 by Michael Wolfson, Canada’s former chief statistician, found that the wealthiest Canadians disproportionately take advantage of the preferential small business tax rate.

From 2001 to 2011, that study found that fewer than five per cent of Canadian taxpayers in the bottom half of the income scale owned at least 10 per cent of the shares in at least one Canadian-controlled private corporation (CCPC). By contrast, as much as 80 per cent of taxpayers in the top 0.01 per cent of income earners were CCPC owners.

In another study soon to be published in the Canadian Tax Journal, Wolfson and economist Scott Legree linked personal income tax returns to corporate returns. They found the federal treasury lost at least half a billion dollars in tax revenue that would have been paid had individuals not been able to funnel their personal income through corporations.

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And that’s a conservative estimate because the study did not include families who funnelled income through corporations to children no longer living under the same roof.

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“The popular rhetoric is that the special low small business tax rate that is available to CCPCs is designed to support small businesses, in part because they face greater challenges than large businesses in areas such as financing and because they are believed to be major sources of job creation and entrepreneurship,” concludes the study.

“However, our analysis suggests that roughly half a billion dollars annually is foregone in ways related primarily to income splitting, where no such benefits are generated.”

The experts:

Based on his research, Mintz told the Huffington Post earlier this year that “60 per cent of the small business deduction goes to households with more than $150,000 in income. That’s because you tend to have a relatively high number of high-income households who own small businesses.”

However, Wolfson said about 70 per cent of what the tax act defines as small businesses are owned by the bottom 90% of income earners.

Still, he added:

“A highly disproportionate number is owned by the top 1% and the top 0.01%. So like most things, a bit of nuance is required.”

Trudeau’s concern about an untargeted reduction in the small business tax rate being used by wealthy Canadians to save on their tax bills is warranted, in Wolfson’s view, but one could quibble about his assertion that a “large percentage” of small businesses are doing so.

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“If you’re saying it’s bigger than 50 per cent, I don’t think so” Wolfson said. “If you’re saying is this something that really should be zero and even one or two per cent would offensive – and in fact it’s five or 10 per cent – then that five or 10 could be a large number. So it depends on your frame of reference.”

The verdict

Trudeau’s concern about the wealthy using the preferential small business tax rate to avoid paying personal income tax is warranted. However, saying “a large percentage” do so is open to debate. He would have been on safer ground had he been either more precise or more vague – the studies would have supported saying “many” or “too many” small businesses are tax scams.

For these reasons, Trudeau’s assertion earns a rating of “a little baloney.”

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