Provincial Corporate Taxes: A 12% Floor?
In his 2007 â€œEconomic Statement,â€ Jim Flaherty threw down the gauntlet for provincial governments to cut their corporate income tax rates to 10%. Initially, it seemed like he might succeed in stampeding the provinces down to that level.
Alberta and Quebec were already at 10% (although Quebec had announced an increase to 12% in exchange for eliminating its corporate capital tax.) British Columbia and New Brunswick dutifully cut to 10%. Ontario and Saskatchewan announced plans to do so as well.
But the tide seems to have turned. Quebec went ahead with its increase to 12% and Ontario stopped cutting at 11.5%.
In this yearâ€™s provincial budgets, British Columbia raised its rate to 11% (with the NDP poised to win its upcoming election promising 12%), New Brunswick restored its rate to 12%, and Saskatchewan â€œdeferredâ€ its announced cuts (staying at 12% for now).
Two weeks ago, I suggested to the finance committee at Queenâ€™s Park that Ontario should at least â€œround upâ€ its corporate tax rate to match other provinces at 12%. Weâ€™ll find out next week if Charles Sousa shares my preference for whole numbers and additional revenue.
After half a decade of jawboning for provincial corporate tax cuts by conservative politicians, Jack Mintz, the C. D. Howe Institute, etc., most provinces seem to have settled out at 12%, which was the average provincial corporate tax rate when thisÂ push began in 2007.
Indeed, the only province left at 10% is Alberta. But as was reported yesterday, having the lowest provincial tax rate has not stopped corporations from shifting taxable profits outside the province. Between that and Albertaâ€™s budget deficit, there may be an opportunity to persuade it to join other provinces in maintaining and enforcing a 12% rate.
I had the following op-ed in the Saskatoon StarPhoenix earlier this month:
Cancel Corporate Tax Reduction
In presenting the recent provincial budget, Finance Minister Ken Krawetz admitted that the government could not afford a previously announced plan to cut Saskatchewan’s general corporate tax rate to 10 per cent from 12 per cent – a move that would have cost up to $175 million annually in lost revenue.
Yet he repeated his intention to proceed with the tax cut by 2015, which could blow a hole in next year’s budget. Fortunately, he now has a year to reconsider this expensive and unnecessary tax break.
The government has argued that it must match corporate tax rates of 10 per cent in other provinces. However, last week’s New Brunswick budget raised its corporate tax rate to 12 per cent. The NDP is poised to win British Columbia’s upcoming election on a platform of doing the same there, leaving Alberta as the only province with a corporate tax rate of 10 per cent.
By next year’s Saskatchewan budget, the choice will likely be whether to follow Alberta in a race to the bottom, or stand with all other provinces in upholding general corporate tax rates that range from 11.5 per cent to 16 per cent.
Saskatchewan already has a lower rate of 10 per cent for manufacturing and processing – the industries most able to relocate among jurisdictions. Corporate taxes do not explain Saskatchewan’s loss of 4,200 manufacturing jobs in the past seven years. For example, several meat-packing plants moved to Manitoba, where such manufacturing facilities actually pay a higher provincial rate of 12 per cent.
Krawetz proposes to cut the general corporate tax rate, which applies to large resource, financial, construction and service companies. Clearly, a potash mine cannot move to another province in pursuit of lower corporate taxes.
Similarly, a construction contractor working on that mine must operate in Saskatchewan. Businesses that exploit local resources or serve local markets do not leave because of modest differences in corporate taxes.
A common misconception is that businesses can simply report their profits in whichever province has the lowest tax rate. In fact, the Canada Revenue Agency apportions each company’s taxable Canadian profits among provinces based on the actual location of its sales and employees.
A corporation operating in a province must pay its corporate tax there.
Many major corporations that operate in Saskatchewan have their headquarters in the United States. Since the American government taxes them on a worldwide basis, cutting Saskatchewan’s corporate tax would simply shift their payments from the provincial treasury to the U.S. treasury.
For example, when an American potash company such as Mosaic repatriates profits to the U.S., it pays the American federal corporate tax rate of 35 per cent, minus the Canadian federal and provincial corporate taxes it has already paid.
Given Canada’s federal rate of 15 per cent, Saskatchewan’s combined federal-provincial rate is 27 per cent. Cutting further below the U.S. threshold would transfer more tax revenue from Saskatchewan to Washington.
State governments, too, levy corporate taxes, producing combined U.S. rates of around 40 per cent. Saskatchewan’s current combined federal-provincial rate of 27 is on the low end of the world’s major economies: Japan (38 per cent), Brazil (34 per cent), France (33 per cent), India (32 per cent), Italy (31 per cent), Germany (30 per cent), China (25 per cent) and the United Kingdom (24 per cent).
Even though Saskatchewan’s corporate taxes are already competitive with other jurisdictions, might they still impede investment?
A company will borrow money to finance new investment only if it anticipates an investment return at least equal to the interest rate. Since interest payments are deductible in calculating taxable profits, corporate tax applies only to profits in excess of the minimum return needed to justify the investment.
Similarly, a company will issue shares to finance investment only if it expects a return greater than any dividends due on the new shares. Federal and provincial dividend tax credits refund corporate tax on profits paid out as dividends to Canadian shareholders. Corporate taxes only skim off revenue above this threshold.
Therefore, corporate tax rates have very little effect on private investment financed by debt, Canadian equity or American companies. However, corporate tax cuts reduce the revenue available to fund public investment in highways, bridges, schools, universities and other economically important facilities.
Statistics Canada concludes: “Between 1962 and 2006, roughly one-half of the total growth in multifactor productivity in the private sector was the result of growth in public infrastructure.” The government of Saskatchewan should cancel planned corporate tax cuts and instead invest in needed provincial services and infrastructure.