Tax time: top six tax dodges

It’s tax time!

Time hunt through shoe boxes and file folders for sports, music and transit pass receipts  and bills to reduce our taxes by a few bucks.

But his column isn’t about those pedestrian tax breaks. It’s about the big stuff: the big tax dodges most can’t afford, and can only dream about. It’s about the tax loopholes that help keep the rich and famous, well, rich and famous (and that are a big drain on our public finances).

Following are our top six tax dodges. But don’t expect to find all these on the general tax form: some are X-rated and only available to a select few.  (And to be more tantalizing, just three will be revealed this week with the final three for next week. )

1.  Stock option deduction (aka employee security option, etc.). It certainly doesn’t sound sexy and it’s far from the biggest tax dodge, but this mild-sounding tax dodge is one of the baddest. In fact, it’s so bad, the former dean of U of T’s management school, Roger Martin, wrote a book entitled Fixing the Game arguing stock options and their preferential tax rates should be abolished because they’ve led to CEOs pumping up their stock prices to increase their own compensation instead of investing in the long-term future of their companies, and of the economy.

This tax dodge means stock options received by CEOs, executives and others are taxed at only half the rate of normal employment income (i.e. the tax rates the rest of us pay). For Canada’s highest paid CEO last year, Gerry Schwartz (CEO of Onex Corp), who received 70% of his $87.9 million compensation last year in the form of stock options, it reduced his tax bill by a nice $15.2 million. That was $8.9 million less in federal taxes and $6.3 less to the Ontario government. Schwartz’s savings from this loophole alone was more than 300 times what the average Canadian was paid last year. A whopping 95 per cent of the benefit of this $1.2 billion tax loophole goes to the richest two per cent.

It’s not just the federal government that loses out on almost a billion a year in revenue, but the provinces also because their income taxes are based on the federal tax base. Ontario loses over $200 million a year. NDP leader Tom Mulcair recently pledged he would eliminate it if elected and put the money saved into benefits for low income families and children. But there’s little chance of that happening under Prime Minister Stephen Harper (or the Liberals who initially expanded it) because they’re too close to the CEOs who benefit handsomely from it. For instance Harper’s former chief of staff Nigel Wright went back to being a top executive of Onex Corp under Gerry Schwartz after the Mike Duffy affair.

2.  Partial Taxation of Capital Gains. This is the big brother of the stock option deduction. Capital gains—the increased value of real or financial assets—get preferential tax treatment, taxed at half the rate of regular employment income, and in some cases not taxed at all. In effect, those with the means to gain income from capital investment pay tax at half the rate of those who have to work for a living. This tax break costs the federal government $5 billion in lower personal income taxes and another $5 billion in lower corporate taxes and over 70 per cent of the benefits go to the top two per cent. This tax break costs provincial governments another $2.5 billion in lower personal income tax revenues and a similar amount in lower corporate tax revenues.

The original rationale for this tax break was that part of the increase in asset value represented inflation—but then the break was enriched in 2000 when inflation was much lower. The argument then was that it would spur investment. Since then wealth has certainly accumulated in the hands of a few, but there’s been little increase in productive investment. Even Bill Gross, former head of Pimco and manager of the largest investment fund in the world recently stated “The era of taxing ‘capital’ at lower rates than ‘labor‘ should end.”

3.  Tax free savings accounts (TFSAs). This is another one of those tax breaks that were supposed to serve a noble purpose—to provide those with lower incomes a tax efficient way to save for retirement—but are now expanding in Frankensteinian proportions, with most of the benefits going largely to the wealthy. TFSAs allow those with the means to put their savings into an investment account, the growth of which remains tax-free. Unlike RRSPs the money put in isn’t deductible from tax, but also unlike RRSPs when they are cashed out the proceeds are exempt from tax. This means that while TFSAs might not cost the governments a lot in lower revenues now, they will be a massive drain on future revenues. A recent report by the Parliamentary Budget Officer estimates that TFAs will cost Canadian governments $1.3 billion in revenues this year (two-thirds from the federal government), but that these losses will rise rapidly, more than doubling in four years. If contribution limits are doubled to $11,000 per year as the Harper government has promised, the costs will increase significantly, with total revenue losses exceeding $100 billion by 2080. Because it’s the wealthy who have extra money to save and invest, they are the one who benefit by far the most. As Ian McGugan writes in the Globe, this cynical move “would ensure our children pay more in taxes, or suffer cutbacks in public services, to compensate for the future revenue the government will be surrendering in a bid to attract votes today.”

Next week: more tax dodges

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