TEI comments on pre-budget discussions submitted to Ontario Standing Committee on Finance and Economic Affairs: February 11, 2004.

On February 11, 2004, TEI testified before the Ontario Standing Committee on Finance and Economic Affairs in connection with the Committee's pre-budget hearings. TEI was represented by Toronto Chapter members Vincent Alicandri of Hydro One, Inc., and Robert G. Westlake of GE Capital Canada, Inc.

Tax Executives Institute (TEI) commends the Ontario Standing Committee on Finance and Economic Affairs for holding pre-budget consultations again this year. The hearings provide an important avenue for the Committee to gather input from Ontario taxpayers and TEI is pleased to have the opportunity to participate. TEI bas several recommendations in respect of taxation measures to promote a business environment favourable to investments in Ontario thereby fostering economic growth and job creation. Our recommendations will also reduce compliance and administrative costs and spur economic efficiency and prosperity for Ontario by improving its competitiveness vis-a-vis competitors in Canadian provinces and neighbouring U.S. states.

Background

Tax Executives Institute is the preeminent association of business tax professionals. (1) TEI's 5,400 members work for 2,800 of the largest companies in Canada, the United States, and Europe. TEI's membership includes representatives from a broad cross-section of the business community, with members employed in all major industries and sectors of the economy. In that sense, TEI is unique--we do net represent a particular group or industry. These comments reflect the views of the Institute as a whole, but more particularly those of our Canadian constituency who make up approximately 10 percent of TEI's membership and belong to chapters in Toronto, Calgary, Montreal, and Vancouver. In addition, many U.S. and European members work for companies with substantial Canadian and Ontarian operations.

Summary of Recommendations

TEI urges the Standing Committee to make the following recommendations to the Ontario Government:

* Phase-out and repeal the Ontario Capital Tax (OCT).

* Announce, in the first budget message, the Government's intent to reduce the Ontario corporate income tax rate to 8 percent as budgetary constraints permit.

Ontario Capital Tax (OCT)

TEI has consistently advocated the elimination of capital taxes at the Federal and provincial levels. In November 2002, TEI testified before the House of Commons Standing Committee on Finance and urged the elimination of the Large Corporations Tax (LCT) levied under Part 1.3 of the Income Tax Act, Canada. In February 2003, the Federal government's 2003 Budget Message announced legislation to implement a phased reduction, and ultimate elimination, of the LCT. TEI endorsed the Federal government's policy statement that capital taxes, including the LCT, are a significant impediment to investment in Canada. (2) Indeed, because the tax is counterproductive, we encouraged the Federal government to consider accelerating the reduction and repeal of the LCT. Specifically, we recommended that the LCT tax rate for 2004 for all corporations be reduced to 0.1 percent and that the tax be eliminated in 2005. The recommendation is based upon our view that accelerating the LCT's repeal would hasten investment in Canada by Canadian and foreign firms and thereby spur job growth. (3)

Similarly, TEI wrote to the Honourable Greg Sorbara, Minister of Finance for Ontario, in November 2003 urging the Ontario government to eliminate the OCT during the same period that the Federal government will eliminate the LCT. (A copy of TEI's letter to Minister Sorbara is attached.) Indeed, the elimination of the OCT should be accelerated, we said, in order to ameliorate its negative effect on the economy. Specifically, we recommended that the Ontario government consider reducing the OCT tax rate for all corporations for 2004 to 0.2 percent and to completely eliminate it effective 2005.

In his December 16, 2003, response to TEI (copy attached), Minister Sorbara said:

With respect to your comments about Ontario's capital tax, it may interest you to know that over the next few months, we will be working closely with Premier McGuinty and consulting with the people of Ontario to develop a plan that will restore balance to Ontario's finances. That plan will be outlined in the 2004 Ontario Budget. Be assured that your comments about Ontario's corporate income taxes and the capital tax will be taken under advisement.

We urge this Committee to recommend the gradual phase-out and elimination of the capital tax. This tax discourages investments in capital assets (e.g., buildings, machinery, equipment, and computers)--the essential infrastructure for business activity and employment in Ontario. By eliminating the capital tax, Ontario would align and harmonize its tax and budget policies with respect to the capital tax with those of the Federal government, thereby encouraging business investments and promoting economic and job growth for Canadians generally and Ontarians especially.

Rollback of Ontario Corporate Income Tax Rate Reductions

TEI's November 2003 letter to Minister Sorbara also stated:

   Although Ontario's current
   fiscal situation may hot
   permit the government to
   proceed with the scheduled
   corporate income tax rate
   reductions, TEI strongly
   encourages the Ontario government
   to consider freezing
   corporate tax rates at their
   current levels rather than
   rolling the rates back to
   2001 levels.

Regrettably, on November 24, 2003, the Ontario government introduced legislation, effective January 1, 2004, that will cancel the legislated corporate income tax rate reductions, increase the general corporate tax rate to 14 percent, and increase the manufacturing and processing rate to 12 percent. This action has engendered significant adverse consequences for businesses in Ontario, as follows:

* Under financial accounting rules, all tax assets and liabilities recorded in a company's balance sheet must reflect legislated tax rates. Thus, all corporations doing business in Ontario must revalue tax assets and liabilities that were recorded under the previous tax rate schedule. Most companies will likely record a reduction in earnings because of the rate increase.

* The sudden reversal of the rate reductions will undermine investor confidence in the stability of Ontario's fiscal regime because business investments were made in Ontario during the past two years based on the short-lived promise of reduced tax rates.

* The competitiveness of Ontario businesses will be eroded vis-a-vis businesses in other provinces, including Alberta, where the tax rate is scheduled to decline from the current rate of 12.5 percent to 11.5 percent effective April 1, 2004. In addition, the combined Federal and Ontario rate, (4) including the Ontario capital tax and withholding tax on dividends, generally exceeds the combined U.S. tax rate. (5)

* The increased effective in come tax rates reduce companies' annual returns on capital employed, reducing share-price performance and access to capital.

* The cumulative effect of the foregoing is a reduction in business investment in Ontario, which will lead to a reduction of gross domestic product and jobs in Ontario. (6)

Although Ontario's fiscal situation may net permit the government to implement immediate reductions in Ontario's corporate income tax rate, TEI urges this Committee to recommend that the Ontario government announce in its 2004 Budget its intent to reduce the corporate income tax rate to eight percent when the fiscal situation improves. Such an announcement would mitigate the damage to the business environment in Ontario from the November announcement and would send a positive signal to Ontario businesses and others considering expanding to Ontario. (7)

Conclusion

Tax Executives Institute appreciates the opportunity to participate in the hearings held by the Ontario Standing Committee on Finance and Economic Affairs in respect of pre-budget consultations. TEI's representatives at the hearing will be pleased to respond t your questions as well as follow up in writing on any item addressed.

(1) Members of TEI are responsible for managing the tax affairs of the businesses by which they are employed and must contend daily with the provisions of the Income and Excise Tax Acts. As a professional association of in-house tax executives, TEI is concerned with issues of tax policy and administration and is dedicated to working with government agencies in Ottawa (and in Washington D.C.), as well as in the provinces (and states), to reduce the costs and burdens of tax compliance and administration to out common benefit. We are convinced that the administration of the tax laws in accordance with the highest standards of professional competence and integrity will promote the efficient and equitable operation of the fax system. In furtherance of this principle, TEI supports efforts to improve the tax laws and their administration at all levels of government. We meet often with the Canada Revenue Agency, the Department of Finance, and their counterparts at the provincial level, to discuss important tax developments and ways to improve tax policy and administration for the benefit of both government and taxpayers alike.

(2) See Chapter 5 and Annex 9 of the 2003 Federal budget paper.

(3) In a similar vein, we have urged the Quebec government to reinstate and accelerate its planned reduction in capital taxes. A copy of the letter to the Quebec government is attached.

(4) Investors in Ontario businesses whether private, multinational corporations or public Canadian companies that are listed on the New York Stock Exchange must consider Canadian withholding tax burdens on dividends in addition to the effective corporate tax rates. When withholding tax burdens are added to the combined Federal and Ontario income tax rates and capital taxes, the current Ontario tax rate (42.4 percent) exceeds that of U.S. competitors located in neighbouring states, as shown in the Ontario 2002 Budget (i.e., Illinois--39.7%; New York--39.9%; Indiana--40.1% Ohio--40.5%; Minnesota--41.4%; Pennsylvania--41.5%). The 42.4 percent tax rate assumes a Federal rate of 22.1 percent, an Ontario rate of 14 percent, a capital tax rate of 3.3 percent (as estimated by the Federal Department of Finance), and a withholding tax on net income available for distribution equal to approximately 3 percent of net income (($100 of pre-tax income X (1-39.4% combined income and capital tax rate)) x 5% withholding tax).

(5) A recent study by the C.D. Howe Institute compares the projected rates of tax on capital for large corporations in Canada in 2008 with the anticipated rate in the United States. After giving effect to the rate reductions announced previously by the Federal and provincial governments (assuming no rollback in Ontario), the study shows that the effective Canadian tax rate on capital in 2008 would be 27.4 percent, which is lower than the 2003 rate of 31.8 percent, but is much higher than the effective rate of only 20.1 percent in the United States. The study notes that if Ontario eliminates its capital tax and Alberta reduces its corporate income tax rate to 8 percent by 2008, the combined Canadian tax rate on capital would decline to 24.6 percent, but that rate would still compare unfavourably with the anticipated U.S. rate of 20.1 percent. See Chen, Duanjie and Mintz, Jack M., Taxing Investments: On the Right Track, But at a Snail's Pace, C.D. Howe Institute (June 2003), at 3.

(6) The Organisation for Economic Cooperation and Development (OECD) estimates that every incremental dollar of revenue raised from corporate income tax results in an output loss and other inefficiencies of $1.55. In other words, the cost to the economy is 55 percent more than the incremental corporate tax revenue collected.

See OECD Economics Surveys: Canada 1997.

(7) In his December 16, 2003, letter to TEI, Ontario Finance Minister Greg Sorbara said, "Our government believes these rates both maintain the competitiveness of Ontario's corporate tax rates and ensure Ontario's capacity to provide public services." As indicated in note 4, the Ontario combined tax rate exceeds that of neighbouring U.S. states as well as that of Alberta. TEI recommends that the Committee urge the Ministry of Finance to review TEI's recent letter as well as the Ministry of Finance's 2002 Budget data concerning the competitiveness of Ontario's corporate income taxes and the capital tax in forming its recommendation for the 2004 Ontario Budget.