The Treasury Transfer Effect – You Read It Here First

Munir Sheikh, former head of Statistics Canada and of tax policy at Finance Canada, has an op-ed in today’s Globe: “A Canada-U.S. tax gap means a Canada-U.S. tax transfer.”

As he notes, “any U.S. citizen, resident or company earning income in Canada is subject to U.S. tax, with a credit for Canadian tax paid or accrued.” So, slashing Canada’s corporate tax rate further below the American rate causes U.S. companies to pay more American tax on their Canadian profits.

This analysis should be familiar to this blog’s readers. My 2009 paper estimated that Jim Flaherty’s target of a 25% combined federal-provincial corporate tax rate would transfer between $4 billion and $6 billion annually from Canadian governments to the U.S. treasury. These figures line up rather well with Sheikh’s numbers.

Using a quite different approach, he estimates “a potential $500-million annual tax transfer from Canada to the U.S. for every point reduction in the Canadian tax rate.” Compared to the 35% American federal rate, a 25% Canadian rate would create a ten-point gap, implying an annual treasury transfer of $5 billion.

Of course, these figures are estimates. Both Sheikh and I conclude that further research is warranted. However, the treasury transfer effect is another gaping hole in the feeble case for Canadian corporate tax cuts.

7 comments

  • Armine Yalnizyan

    Great post Erin.

  • Indeed this was not “news” and you were on to this a long time ago … but “expert” verification of left wing policy wonks is always a good thing. I am disappointed that the mainstream media have ignored David Dodge and others making similar points.

  • Ahem. As I noted in a previous comment, Munir Sheikh left two inconvenient facts out of his article:

    1) Provincial corporate tax rates, once you’re out of the small business tax regime, are nontrivial in every province in Canada:

    (http://www.canadabusinesstax.com/corporate-income-tax-rates/)

    However, in the U.S. there are a number of zero corporate income tax states, and the states that have corporate income tax rates generally have lower rates than Canadian provinces:

    (http://www.taxadmin.org/fta/rate/corp_inc.pdf)

    So comparing only federal rates is incomplete.

    2) The Americans are talking seriously about dropping their corporate income tax rate to 25%:

    (http://www.bloomberg.com/news/2011-04-07/ryan-s-rate-target-would-force-2-9-trillion-in-tax-break-cuts.html)

    So an analysis ignoring this point is incomplete.

    I know you like his conclusion, but his reasoning is… not air-tight.

  • 1.) For treasury transfers, the relevant comparison is between the U.S. federal rate of 35% (which applies on a worldwide basis) and Canada’s combined federal-provincial rate (which provides credits for American tax purposes). I have included provincial corporate taxes. If you want to add in American state taxes, then the combined U.S. rate is more like 40% on average.

    2.) It does not make sense for Canada to keep actually cutting corporate taxes based on the possibility that the U.S. might cut its corporate tax rate at some point.

  • @Erin: I agree that no _further_ Canadian federal corporate tax cuts are required at this time. But talking about the U.S. federal rate as being fixed at 35% forever is a mistake. It’s been remarkably stable for the last two decades, but there is a real possibility that the base will be broadened and the rate brought down in the next year or two.

  • Is your impression that Sheikh left out provincial corporate taxes from this sentence?

    “According to the 2010 budget, the Canadian corporate tax rate at 16.2 per cent in 2012 would be half that of the U.S. at 34.2 per cent.”

    If he were just citing statutory federal rates, the numbers would have been 15% and 35% for 2012. I think he was citing the “marginal effective tax rates” (which include provincial taxes) from Chart 3.3.1 in Budget 2010. If so, the op-ed mistakenly had 16.2% typed instead of 16.7% and was unclear in defining these numbers.

    Marginal effective tax rates are not relevant to the treasury transfer effect. However, they are one metric of how much lower business taxes are in Canada.

    When Sheikh gets into treasury transfers a couple of paragraphs later, he uses the same numbers as I did: 35% minus 25%. I do not think he omitted provincial taxes.

  • @Erin: I agree that it is possible that he was unclear rather than wrong. The phrase “the Canadian corporate tax rate” would normally be construed as the 25% number, not the 16.2% (or 16.7%) number.

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