They’re expensive, unfair and unsavoury: Five tax loopholes that must go

Justin Trudeau and his Finance Minister Bill Morneau are in a tight spot. They’re facing an election in seven months and need to commit funds to the promises they made during the last election. At the same time, they’re running higher deficits than expected while the economy is showing signs of slowing—and they probably don’t want to raise tax rates right before an election, either.

The good news is they have a way out of this quandary by fulfilling one of the election commitments they made four years ago: to review tax loopholes with the core objective of reducing those that unfairly help individuals with high incomes (Real Change, p. 80).

Morneau’s department did review tax loopholes, but it was done internally with no public consultation or discussion. Unfortunately, their plan to limit the use of private corporations to avoid taxes was badly enough launched that it met strong opposition, was only partially implemented and scared them off further reforms. There’s much more that should be done to close unfair and ineffective tax loopholes.

As a study by the CCPA’s David Macdonald showed, over 90% of the federal government’s personal income tax expenditures provide greater benefits to higher incomes than lower incomes, collectively costing government more than $100 billion a year in lower revenues. Higher tax rates on top incomes don’t do much if individuals can easily avoid taxes using these loopholes.

1. The stock option loophole may be the most unfair and regressive tax loophole of all. It allows those with stock options—mostly executives who receive this as compensation—to pay tax at half the rate everyone else pays on their employment income. Over 90% of the value of this $740-million tax loophole goes to the top 1%: those making over $250,000 a year. The average claim for the one-percenters who took advantage of this was over $128,000, saving them an average of over $60,000 each in lower taxes. It allowed the average top-100 CEO to reduce their taxes by $670,000 annually and lowered the tax bill for Canada’s top paid CEO by $4.5 million. 

This tax loophole isn’t just unfair, regressive and expensive, but it’s also economically damaging. It creates a lucrative incentive for those in the executive suite to put corporate profits into share buybacks, thereby boosting the value of their own compensation, instead of making real investments that grow the economy and create jobs. It’s such a destructive loophole that Roger Martin, former dean of U of T’s management school and director of the Martin Prosperity Institute, wrote an entire book calling for it to be eliminated, titled Fixing the Game

2. The business meals and entertainment expense deduction allows businesses to deduct half the cost of private boxes and tickets to sports events, concerts, all manner of restaurant meals and drinks, entertaining business partners and clients at night clubs, country and golf clubs, cruises, vacations and much more. This perk for business costs the federal government almost $500 million in lower revenues annually.

It also contributes to some unsavoury forms of lobbying and entertaining. For instance, SNC-Lavalin could no doubt have claimed many of the costs it incurred for "entertaining" Saadi Gaddafi as part of their alleged bribery scheme to obtain contracts in Libya. The tax law says that, in order to be eligible for this deduction, actual business must be conducted at these events. But surveys have found that this tax measure was widely abused and almost impossible to police. As Osgoode Tax Law professor Neil Brooks once said, "There is more tax fraud taking place at one Blue Jays baseball game than all the welfare fraud in Ontario in a whole year." 

Not only does this cost the federal government hundreds of millions annually, but it also drives up the cost and reduces the availability of tickets to sporting events for ordinary people. Even American President Donald Trump last year eliminated their similar deduction for entertainment expenses, although retained it for meals. It’s time that Canada also remove this expensive, unfair, and unsavoury tax perk for corporations, top incomes and the well-connected.

3. The capital gains loophole is one of our most costly and unfair tax loopholes. There are a number of different ways capital gains (the increased value of investments) are taxed at lower rates or not at all, but the main one is the partial inclusion of capital gains in personal and corporate income. It allows both individuals and corporations to include only half the value of their capital gains in taxable income, while everyone else pays the full rate of tax on the income they earn from actually working.

In total this costs the federal government an estimated $15 billion plus in foregone revenues. Over 90% of the value of this tax break goes to the top 10% and an estimated over 85% goes to the top 1%. Our federal government’s top capital gains rate is lower than in the United States, and the combined top rate on capital gains in all provinces is lower than the combined top rate in places like New York City. Over three-quarters of the benefits associated with both the stock option and capital gains tax breaks go to men while less than 25% goes to women, doing little to improve gender equality. 

4. The dividend gross-up and credit tax break provides a credit to those receiving corporate dividends. It’s supposed to compensate shareholders for the corporate taxes that businesses pay, but many don’t pay any corporate income taxes and most pay tax at a lower rate than the dividend tax credit provides shareholders for. This tax break costs the federal government over $5 billion annually, with over 90% of its value going to the top 10% and almost half to the top 1%. More than two-thirds goes to men, with less than a third going to women. 

5. Tax havens: Canadian governments lose an estimated $8 billion in annual revenues from corporations and wealthy individuals shifting their wealth and profits through tax havens through illegal and legal means.  As a result of public pressure, the federal government has put some additional resources into fighting international tax evasion, and will have new tools at its disposal as a result of international action to share information. But much more needs to be done. Wealthy perpetrators and promoters of tax evasion schemes are getting off lightly. Not a single Canadian has been charged yetfor international tax evasion. Canada also must take steps to close the loopholes that allow large corporations and wealthy individuals to pay very little tax through what is now perfectly legal international tax avoidance. Other major countries are taking action, but the Canadian government is still dithering, saying we’ll wait and see.

Just these five loopholes account for over $20 billion annually that the federal government could recuperate from closing unfair breaks and write-offs. That’s more than enough to eliminate the deficit or, more importantly, provide the funding necessary for important public services that would make all Canadians better off, such as a national affordable childcare program and pharmacare. Tax loopholes make the system much less fair and leave the rest of us worse off: it’s time to fulfill election commitments and close them once and for all.