Merits of capital-gains tax hike are debatable, but we deserve better implementation

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Steve Suarez is a partner at law firm Borden Ladner Gervais LLP and a co-chair of the economics and taxation committee of the Canadian Chamber of Commerce.

Much ink has been spilled on the government’s proposal in the 2024 federal budget to increase the percentage of capital gains to be included in a taxpayer’s income and subjected to tax.

The capital gains inclusion rate (CGIR) will increase from 50 per cent to 66⅔ per cent effective June 25 (individuals continue to get the 50-per-cent CGIR on gains of as much as $250,000).

The legislation for this initiative is expected to be tabled this month and will leave Canada with one of the highest marginal capital tax rates in the OECD.

Much of the discussion around the issue unfortunately conflates different topics. The tax policy question – whether increasing the CGIR is a good idea – is a separate issue from the way in which the government is going about implementing it, which is in turn distinct from the political messaging being used to describe this initiative (“only the wealthiest Canadians will pay”).

It is entirely the government’s right to make the policy choice to increase the CGIR – the pros and cons have been debated elsewhere. However, on the other two issues, Canadians deserve much better than they are getting.

Most tax measures are made effective on the day they are announced. Not this one. The government’s revenue estimates for this change make clear that it anticipates disproportionately more tax revenue for the current fiscal year. It’s not hard to see why: Many of those affected will likely hurry to try to realize their gains before June 25 to get the 50-per-cent CGIR.

One of Canada’s leading tax scholars, who has frequently advised revenue authorities and supports the CGIR increase, described the government’s use of the June 25 effective date for this purpose as “cynical, manipulative, unfair and unprincipled.” Quite simply, he’s right.

That result is compounded by the lack of critical information taxpayers are being given. The CGIR affects dozens of rules across all parts of the tax system in many different situations; to understand the impact of this change requires extensive and detailed draft legislation reflecting many consequential tax policy decisions.

In particular, it would appear that the government (without explicitly saying so) is proposing to abandon the foundational principle of integration – viz., that the combined corporate/shareholder level taxation of income earned by a Canadian-resident private corporation and distributed out to a Canadian-resident shareholder should be roughly equal to what that same Canadian-resident shareholder would have themselves paid had they earned the same income directly rather than through a corporation. It is virtually unfathomable that such a key element of the tax system would be discarded without notice, consultation or debate.

The government has separated these urgently needed detailed rules on how this change will work from the draft legislation to enact the remainder of the 2024 federal budget, ostensibly for the political reason of “drawing the Conservatives out” on this issue. The result is that less than a month away from the new CGIR effective date, taxpayers and their advisers still do not know how this change in law will work, leaving them with a few weeks to act (or not) on very limited information. I see the impact of this – and the frustration it creates – every day in my practice.

While Finance Minister Chrystia Freeland has stated that draft legislation for the CGIR increase will be introduced before the June 25 effective date, at this point there is simply not enough time left for such complex rules to be digested and acted upon by taxpayers. This is fundamentally unfair. Releasing the rules of the game halfway through the third period does not pass the smell test and further weakens the public’s confidence in the fairness of the tax system (considerably diminished after the recent bare trust debacle).

Which takes us to the messaging. Increasing the CGIR is an incredibly blunt instrument to try to achieve “fairness” – whatever that means – because it applies so broadly across almost all types of property and to so many people across all income levels. The $250,000 annual threshold for individuals is a nod toward progressivity, but not an effective one, as capital gains (unlike income) are realized on a lumpy, one-time basis as property (often held for many years) is disposed of, and many corporations are family-owned.

The government’s continued claims that this initiative is limited to “the richest few” are simply not credible and thus continue to be attacked. Cottage owners can indeed justifiably feel they’ve been mistaken for being wealthy.

Many Canadians would be surprised at how little most doctors (especially family doctors) make relative to how hard they work and how many years they have invested in their educations. The health care system often forces them to incur the ever-increasing costs (rent, administrative staff, records management) of running a small business whose revenue is fixed by the government – not a great business model.

Indeed, it’s an open secret that doctors were allowed to incorporate and thereby reduce their tax bill 20 years ago as a (largely federally financed) substitute for pay increases that would be borne by provincial governments. These professionals and many others affected by the increased CGIR are hardly Canada’s wealthy.

The government could take any number of steps to limit the impact of this measure to the wealthiest Canadians and achieve its stated goal of “fairness.” The June 25 effective date could be extended to the start of 2025, giving people enough time to make considered decisions. An elective mechanism to realize gains without incurring the costs of an actual disposition of property could be added.

“Personal use properties” such as cottages are already the subject of special (adverse) tax treatment: Gains are taxed, while losses are ignored. Such property could easily and fairly be excluded from the increased CGIR, eliminating the reported chaos among cottage owners. The annual $250,000 threshold for the current 50-per-cent CGIR for individuals could be increased, extended to corporations (or at least shared by an individual with a corporation controlled by that person) or allowed to be carried forward to the extent unused in any given year.

The government could commit to preserving integration on capital gains realized by corporations. Any number of relieving provisions would help bring the actual effect of this measure in line with the government’s narrative.

While ideally politics would not be part of this debate, in the real world the government understandably wants to force the opposition parties into taking a position on this issue, with the consequent jousting over “whose side the Conservatives are really on.” So be it.

As it stands, the opposition parties will have no difficulty sidestepping this issue by simply responding: “We might support this measure if it were in fact limited to the very wealthiest Canadians, as you claim, but it demonstrably is not.” This then gives the government the choice of amending the proposals to conform with the messaging and forcing the opposition parties into a potentially difficult choice, or keeping them as they are and enjoying the additional tax revenue (from the wealthy and from others).

In either case, a government truly committed to “fairness” would not be taking the current approach. Taxpayers are not the only ones with important decisions to make in the next few weeks.