William A. Macdonald is a corporate lawyer turned consultant with a long history of public service and social engagement.
With the spread of COVID-19 and the end of the post-Second World War era, the world has not been this dangerous a place in 75 years.
Since the end of the destructive Napoleonic era in Europe in 1815, every bad era has been followed by a good one, and vice versa. The good postwar global order ended with four events: the collapse of the Soviet Union, the emergence of international Islamic terrorism (9/11), the 2008-09 financial crisis and the post-2015 emergence of an increasingly aggressive and anti-rules China.
The future will only be bearable if the world can break the good era/bad era pattern. But the United States will not be able to regain its global leadership as long as the rise of the centrifugal forces there and in the European Union continues. Another superpower may not take Washington’s place. The postwar era began with the exclusion of Russia and China. Today’s world needs to find a way of including and containing both.
Unfortunately, today’s external global environment is also particularly harsh for Canada. We have never been more isolated in our history. Yet these realities could also provide us with our best opportunity ever to become a different kind of great country for a different kind of world.
Despite many vulnerabilities, Canada is getting better on two crucial private sector fronts: finance and high tech. In finance, Canada’s investment managers have been turning in very strong performance. In high tech, Montreal, Ottawa, Toronto-Waterloo and Vancouver are becoming world leaders. The key is to link and reinforce those two engines of growth. And I have a relatively simple yet powerful tax proposal for doing so.
Canada is already growing increasingly attractive to the best high-tech people in the world, while other countries are becoming less so. U.K. residents have lost easy access to the EU. Top talent elsewhere either has reduced access to the U.S. or does not want it. At the same time, in the new global Zoom world, and with Canada physically right next door, Canadian talent is easily accessible for the United States.
Meanwhile, many of Canada’s traditional exports continue to struggle because of new negative global forces. Prospects for oil are bleak amid a harsh worldwide price collapse and the politics of environmentalism and global warming. Manufacturing continues to decline as a percentage of the modern economy, and goods protectionism is on the rise around the world.
So, Canada must move from brain drain to brain gain. Finance and high tech offer the best opportunities and both are much harder than goods for protectionists abroad to exclude.
But to get the best talent, Canada needs a powerful private-sector investment policy to reinforce its socio-cultural and political strengths. Harnessing the private sector is the only way to prepare for a post-COVID-19 economy and manage Canada’s soaring debt.
My proposal is not the only way forward, and may not be the best (although I think it is). But it is a practical “what works” approach that is fair, easy to grasp and would enable the country to live within its means and prosper.
The goal is to build much larger, more dynamic pools of capital in Canada. And the way to do that is to allow each individual investor to treat their holdings as a single pool of assets for the purposes of capital gains taxation. Any gains realized by selling off any Canadian holding could be reinvested without immediate tax.
A simple taxpayer election, like the current rollover (deferral) provisions for a few categories of capital gains, would do it. The option would be available to all Canadian resident taxpayers and involve no registration requirement – only filing a tax return.
In effect, until assets in an individual’s pool are withdrawn (or so deemed on death or a move outside Canada), they would remain at work, creating businesses, jobs, incomes and tax revenues. There would be no change in the present capital gains tax system or level – half of capital gains are subject to tax, and they still would be if not reinvested in the pool.
The plan would be easy for those paying and collecting tax. No special tax-exempt fund, plan or administrator would be required; and no directives on a qualified reinvestment – other than it be Canadian. A taxpayer need only elect to have the cost of a disposed stock, bond or other investment cover the cost of new investments to defer recognition of the gain.
If a taxpayer did not reinvest, a taxable gain would be reported. Election would not be available in the year of the taxpayer’s death or when the taxpayer ceased to be a Canadian resident. If the full proceeds were not reinvested within a reasonable time (say 60 days), a pro rata portion of the gain would be subject to tax. Income earned from investments, such as dividends or interest, would still be subject to taxation, and interest on money borrowed to acquire securities would remain deductible.
Several recent developments – both risks and opportunities – suggest now is the right time. Oil sands investment may never return to what it was. And investment in manufacturing and commodities generally just “ain’t what it used to be.”
Will Ottawa lose revenue if more capital gains are sheltered from tax? Initially, yes. But recent economic and financial setbacks mean relatively small initial revenue losses from deferred capital gains because, in a tepid economic recovery, those gains will likely be limited for a while.
Similar to infrastructure spending, short-term revenue losses are best seen as a long-term investment. Favouring reinvestment from successful ventures over profit-taking for short-term tax advantages will counter the cyclical failure of Canadian business investment to recover after 2009 as strongly as it normally would.
Better treatment of capital gains will also make Canada’s capital markets more efficient. People will sell for investment reasons, rather than tax considerations. The global venture capital market – the one that launches new businesses and moves on from one success to the next – would find Canada a much more attractive place to do that.
Canada needs to save again, too. After the current wave of COVID-19 government spending and the huge current account deficits incurred after 2008, our net country borrowing totals some three-quarters of a trillion dollars.
The proposal reflects today’s realities, not ideology or theory. Canada has huge advantages – resources, space, water and food. And it’s still the best neighbourhood in the world. The most promising way forward is to make it even more attractive for the best people – entrepreneurs, innovators, creators, professionals, scientists and managers. The ability to build personal wealth by keeping one’s gains invested would be a powerful magnet. The proposal would also “socialize” private-sector gains by keeping them at work creating jobs and wealth, and enhancing government revenues.
High tech, in particular, would receive a huge boost. We are likely in the early stages of the second quantum revolution. The first one brought us the modern digital world. Mike Lazaridis, the technology genius behind the BlackBerry and the Perimeter Institute (the cutting-edge physics research group in Waterloo), believes the next one will produce an even greater transformation. He says Canada needs to match universities that are strong in basic scientific research with entrepreneurial and investment strength – a one-two punch.
U.S. president Franklin D. Roosevelt realized that science and the government, together, contributed enormously to victory in the Second World War. He wanted that same collaboration to bring the U.S. economic success in peacetime by combining effective public support for science with strong incentives for the private sector. Historically, Canada has been even more willing than the U.S. to use collective action to advance shared causes.
After 2008-09, Canada had economic advantages over the United States and other advanced countries that could have lasted a decade. Instead, they disappeared because we chose to spend now and earn later – at record levels. Nonetheless, we have another Canada moment now when our country is viewed positively from abroad. Canada needs to rebuild its economic brand while its political and socio-cultural brands are still strong.
For two decades after 1945, Canada had a tax policy that was well suited to its strengths. Special provisions encouraged oil, gas and mining development. The absence of a capital gains tax proved a driver to all investors and businesses. It rewarded success. We again need a custom-made policy for Canada’s particular situation.
The controversial report of the Carter Tax Commission in 1966 recommended taxing capital gains as ordinary income – an approach out of tune with how investors and business people behave. Ottawa softened that to the current 50 per cent of gains.
In its December, 1970, paper on taxing small business, Ontario accepted that compromise, but continued to argue the reinvestment rollover case. “The need for both private savings in Canadian hands and capital-market efficiency strongly favours a reinvestment-related tax-free rollover approach for all shares and business assets,” the paper said. I have believed in the capital-pool approach since then, when I advised the Ontario government in its fight against Ottawa’s tax proposals. I have yet to find a better way forward.
Today, the inclusive global order is weak and a steadily weakening Canada is more isolated in a difficult environment, next door to a United States with a struggling economy and a seriously dysfunctional political system. Canadians must drop their moral smugness and complacency, and engage in serious discussions about the economic future.
During Prime Minister Justin Trudeau’s 2019 “rebranding Canada” trip to the World Economic Forum in Davos, he offered encouraging words – but no action. Now is the time for action.
At Davos, Mr. Trudeau said Canada would not just manage change but take advantage of it. How? Unless matched by some big deeds, the words will not become reality. Small will not work for tomorrow’s world, which will become even more competitive and protectionist. Mr. Trudeau’s assertion will happen only if Canada does better – starting with Ottawa.
Government spending is not the best way to move ahead. Only a very big policy boost for private-sector investment will work.
The Canadian business community has been absent for 20 years from serious discussions of economic policy. It shows. The business sector should take a hard look at this capital gains proposal and consider whether they could help make it happen. Unions should ask if any other proposal would work better to create good jobs for their members.
If we do not have at least the start of an answer now, the populism spreading in other Western countries will reach Canada.
But our new Finance Minister, Chrystia Freeland, seems to be on a government-directed track. “We need to build our way out of it [the pandemic] through targeted, carefully thought-out investments,” she says. This kind of government-centric economy will not give Canada the brain-gain encouragement it needs.
The capital pool idea tries to fit the English proverb “a fair exchange is no robbery” into the modern world of jobs and wealth creation. The idea is win-win – the non-zero-sum world of mutual accommodation; a social contract that works. Yes, the new Canada will need more public investment, both physical and in people, but that can never make up for insufficient private-sector investment.
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