The Two Sides of Tax Planning

There are always two sides to the tax planning game.

The game involves the people and their government fighting over the same dollar. The game moves at a glacial pace but as in soccer, the action moves from one end to the other.

Just now, the government of Canada has decided to start moving into the other end of the field. Their game is to take away the use of certain structures that allow people to sprinkle income, defer taxes on amounts earned in a business, but not used there, and to minimize the ability to turn income into capital gains which are presently only half taxable.

We usually don’t see the government as tax planners

Well, they are. They use euphemisms for taxation policies. “Revenue tool” is the current favourite. The idea is to extract the money they want in ways that are politically possible. While they may argue that a tax on liquor, cigarettes or gasoline is “fair” they don’t really care. They want the money and use whatever argument they can find to get it.

It has always been thus.

Jean Baptiste Colbert had it right in the 1600s.

“The art of taxation consists in so plucking the goose as to procure the largest quantity of feathers with the least possible amount of hissing.”

Citizens do it too.

Their perspective is a little different. They want to keep the most money possible. As with government planning, personal tax planning is a familiar subject.

John Maynard Keynes had it right in the 1930s.

“The avoidance of taxes is the only intellectual pursuit that still carries any reward.”

The current government offensive is first about “income sprinkling” which is just a sophisticated “income splitting” tool.  As long as the rates become higher as incomes become larger, income splitting will be an attractive tool. It address tax planning device number one. Divide income to advantage.

The second tranche of their proposal is to attack the second leg of tax planning – “defer income.”

Canada’s corporate tax system is quite elegant. It integrates corporate tax with personal so that income earned in a corporation and subsequently distributed to shareholders attracts the nearly identical tax that it would if earned directly by the shareholder. The problem lies in when the dividend is paid. It is possible for a corporation, or group of them, to keep 35 cents of each income dollar for a very long time. That deferred tax earns money in the interim and provides a meaningful advantage.

The third attack is on converting income to capital gains. Income type conversion is a tool most planners use. Change income to a type that has a more attractive rate or better deductions.

In all cases, the government makes the rules and the people play according to them. When the people get too clever, the government changes the rules or moves out of bounds or whatever.

Can there be fair taxation?

The government can find many ways to justify their tax methodology. Does justification make the tax fair? It is a perspective issue.

Taxation is only half the question. The more advanced perspective says, “Can any tax be fair if the money is then wasted?” The perspective comes in when you ask what do you mean by wasted. Some people see the CBC as immensely valuable while others see waste. It is a puzzle. There are hundreds of other processes and programs that could fit the CBC place in the question.

Something you may have missed

In a corporation’s financial statement there is often a balance sheet item, “Deferred Taxes” Essentially that is the amount of additional tax that would have been payable if the accounting income was equal to taxable income. There are timing differences. Sometimes the rate a business can depreciate capital purchases for tax purposes is higher than they use for accounting purposes. The deferred tax item keeps it rational.  Some other day they will owe more in cash than the accounting numbers suggest.

The same logic applies to deferred retirement income plans. Some day you will pay more.

The government also has deferred tax amounts. In their cases, it is taxation they will receive in the future but make no expenditure for purposes of government when they get it.

It is called accumulated deficit or government debt. It works the same way as corporate deferred taxes. For corporations and people, there is no tax due now, but we will pay more in future versus, the government approach which is we have spent the money now and will collect it later.

Governments can be largely unaccountable

As long as people don’t understand that government debt is a future tax, the government can create the illusion that tax rates are low. The debt, coupled with liabilities for promises they have made and for which they have no money, is a vast sum. To meet them, they will have only a few choices.

  1. Collect taxes from people who may not be able to pay and who certainly don’t want to pay. Lots of hissing.
  2. Renege on the promise to pay their bonds. Politically difficult. There are many examples in history of what happens next.
  3. Renege on promises. Reduce pensions or medicare coverage or stop spending on keeping infrastructure safe and usable.
  4. Find new revenue tools.

Only new tools will be tried until they are desperate.

Citizens can make it harder for them by treating anything they pay the government as a tax. Fees, cigarette prices, gasoline prices, estate tax, income tax, sales tax, and a hundred more.  Some visible, some not.

Think it through

There is no fair way to get money that will be wasted.

The only fair tax is one efficiently collected, wisely administered, and where the money provides a benefit to the citizens they could not have gotten any other way for the price. We don’t have to benefit from every program, but we should expect the provided value is worth the price.

Don Shaughnessy arranges life insurance for people who understand the value of a life insured estate. He can be reached at The Protectors Group, a large insurance, employee benefits, and investment agency in Peterborough, Ontario.  In previous careers, he has been a partner in a large international public accounting firm, CEO of a software start-up, a partner in an energy management system importer, and briefly in the restaurant business.

Please be in touch if I can help you.  866-285-7772

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