UPDATE 2-Canada to cut small business tax rate to 9 pct after backlash

(Adds Trudeau comment, context, details of change)

TORONTO, Oct 16 (Reuters) - Canada's federal government said on Monday it would cut the small business tax rate to 9 percent from 10.5 percent as it sought to counter a growing backlash against a July tax reform that targeted wealthy individuals and family businesses.

Prime Minister Justin Trudeau and Finance Minister Bill Morneau appeared side-by-side in Toronto's far suburbs to announce the tax cut, highlighting their desire to get past what has become a major stumbling block as the two-year-old Liberal government heads into the second half of its mandate.

"Powerful interests have benefited a lot from the current system, and they will fight hard to maintain the status quo. We knew that going in. But nothing will stop us from building an economy that works for more Canadians," Trudeau said in a sometimes combative news conference.

While Trudeau has enjoyed a rosy profile on the world stage since winning a surprise majority in 2015, his long honeymoon at home has ended, curtailed by the bungled tax reform and the election of a younger, hipper opposition leader who could steal away vital votes at the next election.

Polls show the ruling Liberals' lead over rival parties starting to slip ahead of an October 2019 election.

In trying to reset the tax debate, the government said the small business tax will be lowered to 10 percent effective Jan. 1, 2018, and to 9 percent in 2019, and Trudeau shifted the focus away from those using the loopholes toward the tax code itself.

"It's not the people who are the problem, it's the system," Trudeau said.

At the same time, one of the most reviled part of tax reforms proposed in July - measures to limit access to the lifetime capital gains exemption that critics said hurt the ability of families to pass their business on to their children - was abandoned.

In July, Morneau proposed tax reforms meant to close loopholes for those that use private corporations to reduce the amount of tax they pay.

The three-pronged tax reform, which affected those who sprinkled income among family members or used passive investment income in order to be taxed at a lower rate, sparked outrage among doctors, farmers and family businesses, and backbench Liberals have criticized the handling of the reform.

"They have completely messed this up. Doing it in the first place was a bad idea, not to mention rolling out in July," a senior Liberal said before Monday's tax cut was announced. (Reporting by Denny Thomas and Andrea Hopkins; editing by Susan Thomas and Phil Berlowitz)