The Trudeau government’s mid-summer proposal to close a tax loophole, which allows individuals to funnel their professional income through a private corporation, has emerged as a central focus of the Opposition in the fall session of Parliament. Indeed, tax reform is expected to dominate a significant portion of the Conservative agenda this session, along with marijuana and NAFTA negotiations. With the Omar Khadr episode quieted until the pending litigation is advanced, tax reform is the most contentious and complex issue currently before Parliament.
Passively investing income in a private corporation treats income at a lower tax rate than it would otherwise be subject. In 1972, amid rising inflation and an economic downturn, securing a bank loan was relatively difficult for most small businesses. In response, the Pierre Trudeau government introduced a new tax scheme with a lower rate for small business. As a result of a lower tax rate, the intention was to increase the savings potential of these private corporations. In the 1990’s, however, professionals were granted the ability to incorporate as well, justifying the extension of the tax rate on limited liability grounds. The change allowed professionals, therefore, to split and divorce personal income within the corporation as named shareholders.
The proposed reform seeks to redress what is seen as a financial advantage of incorporated professionals, channeling their income through the corporation, over salaried employees. In the legal community, Trudeau’s tax reform targets equity partners and sole proprietors. In-house counsel, salaried associates, and public lawyers are largely exempt and have no real financial interest in the reform.
Closing the tax loophole has ignited debate within the legal community about the role of the lawyer in society and whether those who support the current scheme, lawyers sworn under oath to uphold justice and serve a public good, perpetuate injustice rather than rallying behind new laws to make the system more equitable.
Lawyers who support reform have cited the necessity of fairness and neutrality as justification for restructuring the Income Tax Act and abandoning a lower rate for incorporated professionals. The original intent of the law was to provide small businesses with the ability to save capital and reinvest it back into the corporation. Instead, supporters argue, incorporated lawyers have largely held on to their income, treating it as personal savings rather than using it to reinvest and advance economic growth.
The Canadian Bar Association (CBA), however, has joined other business organizations in publicly opposing the government’s plans. Representing its members, the CBA holds that the changes will inevitably harm small law firms by removing its saving potential. Restricting private incorporation would expose lawyers, doubling as entrepreneurs, to economic vulnerability. Contrary to the lawyers supporting reform, who argue that incorporated lawyers have invested in their retirement at the expense of an immediate economic gain for the rest of society, those opposed herald the benefits not readily conceived. Access to the capital saved at a lower tax rate, for instance, allows these lawyers to take parental leave that they would otherwise not have coverage for and return to the market later. The entrepreneurial lawyer has expenses, not additional income, the argument relies.
The current debate centers on equitable ideals. Any intellectual resolution demands contemplation of whether opposition to reform is in the interest of the public good or personal finances. The state has already decided.