By: Jeff Pollock
March 16, 2017
Rumours are abound that Canada’s Minister of Finance, Bill Morneau, may potentially increase the capital gains tax rate in next week’s federal budget. Currently 50% of realized capital gains are taxed at your ordinary rate. Starting next week, this may increase to 75%. Should Morneau decide to make this change, it would be short-sighted and counterproductive to economic growth.
Once upon a time, Canada didn’t impose any capital gains tax whatsoever. That all changed on January 1, 1972, following the review and the implementation of a watered down Carter commission report, which originally recommended a 100% capital gains tax rate. However, the 50% inclusion rate that came into force in 1972 was increased to 75% in 1990, and then dropped to 67% in 2000. Then, the same year, it was reduced to 50%.
Yes, Ottawa says it needs money. Who doesn’t? Though Justin Trudeau campaigned on a pledge to run a federal deficit for several years, which he has, he also assured the market that the country would be in a surplus position by 2019-2020. Right before the New Year, the Department of Finance quietly published a report that projected decades of annual deficits that will run well beyond 2050. Before taking the drastic step of amending our capital gains rate, perhaps a better handle on our deficit projection is worth consideration.
There are several reasons we feel a change in the capital gains tax would be ill advised.
First, the stock market is a source of financing for the very same companies that grow the economy. Businesses sell shares of their stock and, in exchange, receive cash from investors. From there, they invest in their business by hiring new employees, expanding their operations, or acquiring other companies. Discouraging Canadian investors from buying shares of companies due to a higher tax rate dilutes the appeal of capital markets for businesses looking to grow by selling their stock to investors.
Second, a troubling problem facing Canada is the number of individuals accumulating debt. The average Canadian credit card balance grew 2.3% last year to $4,094. Resources, particularly at the high school level, should be utilized to illustrate to students, at an early age, the consequences of living paycheque-to-paycheque, or on borrowed money. In a recent study, 39% of Canadians living in debt were uncertain as to the benefits of paying more than the required minimum credit card payment each month as their bill comes due. To combat this dilemma, public policy should encourage individuals to invest and raising the capital gains tax rate would serve the opposite effect.
Third, the problem of “double taxation” would proliferate with higher capital gains taxes. Companies already pay tax on their retained earnings. While a dividend paid out to its shareholders is taxed preferentially, many companies, in their early growth stage, fail to return cash to shareholders due to the absence of profitability. Double-dipping on tax charged both to companies (which are the engine to economic growth) and its investors, who risk their savings, is an injustice that impedes entrepreneurialism and investment.
Bill Morneau will present his budget to Parliament next Wednesday, March 22. We will watch in anticipation for the reasons outlined above. A change in the capital gains tax is not only a bad idea but counterproductive to a government objective that prioritizes economic growth.
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