Proceedings of the Standing Senate Committee on
Banking, Trade and Commerce
Issue No. 38 - Evidence - April 18, 2018
OTTAWA, Wednesday, April 18, 2018
The Standing Senate Committee on Banking, Trade and Commerce met this day at 5:17 p.m. to study new and emerging issues for Canadian importers and exporters in North American and global markets.
Senator Douglas Black (Chair) in the chair.
The Chair: Good afternoon, and welcome colleagues and members of the general public who are following today’s proceedings of the Standing Senate Committee on Banking, Trade and Commerce here in the room or listening via the Web. First, I wish to say to both of our witnesses that I apologize for our delay in starting. It was completely outside of our control, but I and all of the committee members very much appreciate your forbearance.
My name is Doug Black. I’m a senator from Alberta, and I chair this committee. I would ask the senators present to please introduce themselves.
Senator Marwah: Sabi Marwah, Ontario.
Senator Unger: Betty Unger, Alberta.
Senator Tannas: Scott Tannas, Alberta.
Senator Dagenais: Jean-Guy Dagenais from Quebec.
Senator Stewart Olsen: Carolyn Stewart Olsen, New Brunswick.
Senator Wetston: Howard Wetston, Ontario.
The Chair: As always, we are ably supported by our clerk, who has just returned from medical leave — welcome back; back to business — and our analysts.
Today, our committee will continue our hearings on new and emerging issues faced by Canadian importers and exporters in relation to their international competitiveness. The committee is interested in learning about the potential impacts of these developments on Canadian importers’ and exporters’ competitiveness, as well as the manner in which Canadian importers and exporters and the federal government might respond to these developments. I’m pleased to introduce our witnesses for this important session today: From the Fraser Institute in Vancouver, Charles Lammam, Director, Fiscal Studies; and, from Ernst & Young LLP, Fred R. O’Riordan, National Leader, Tax Policy, Canadian Leader, Economics and Analytical Services.
Let us begin, please, gentlemen, with your opening remarks, which will be followed by a question and answer session. It is my understanding the clerk, in her invitation, asked you to provide commentary on this topic today specifically related to recent changes to the U.S. federal corporate tax system. I would, obviously, indicate if you wish to go broader than that in terms of the elements under study, we would welcome that as well.
Mr. Lammam, may we begin with you, please, followed by Mr. O’Riordan?
Charles Lammam, Director, Fiscal Studies, Fraser Institute, as an individual: Thank you to the committee for the opportunity to present my thoughts on the recent tax changes in the U.S. and the implications for Canada. My comments today reflect my own opinions and observations and not necessarily the views of other Fraser Institute staff, affiliated researchers or our board of directors. I hope you find my comments helpful and informative as you deliberate on these important public policy issues.
There are many factors that affect Canada’s ability to attract and retain investment, entrepreneurship and skilled workers. Some of them, such as global swings in commodity prices, are not within the government’s direct control. But government policies can and do shape Canada’s investment climate and therefore governments can affect how attractive our country is for work and business. And tax competitiveness is an important component of the investment climate.
Prior to recent sweeping tax reforms in the U.S., Canada enjoyed nearly a two-decade-long business tax advantage over the U.S. In fact, the gap between our statutory general corporate income tax rates was quite large. In 2016, according to OECD data, Canada’s federal-provincial combined statutory corporate tax rate was approximately 27 per cent compared to 38 per cent in the U.S.
It’s important to consider the effective tax rate. Based on the marginal effective tax rate, which is a broader measure of business tax competitiveness, as it includes input taxes, credits and deductions, Canada’s tax advantage was actually more pronounced in 2007, with a rate of approximately 21 per cent versus 35 per cent in the United States, according to calculations by the University of Calgary economist Jack Mintz.
This long-standing tax advantage helped Canada attract and retain investment vis-à-vis the U.S. One high-profile example was Burger King’s recent merger with Tim Hortons and subsequent move to Canada. As of this year, Canada has completely lost its business tax advantage over the U.S. Reforms south of the border lowered the federal statutory corporate income tax rate from 35 per cent to 21 per cent, allowed for immediate expensing of capital investment and created incentives to move overseas profits to the U.S. Together, these reforms have dramatically reduced the effective tax rate on new investment in the U.S. from approximately 35 per cent to 19 per cent, which is much lower than Canada’s current rate of 21 per cent.
With Canada’s business tax advantage gone, it will become harder to compete with the world’s largest economy for investment dollars. In addition to business tax changes, the U.S. has reduced its federal top personal income tax rate from almost 40 per cent to 37 per cent. Prior to this change, Canada was already highly uncompetitive internationally and specifically relative to the United States as our combined top federal-provincial income tax rate was just under 54 per cent versus the 46 per cent in the United States. And crucially, Canada’s top rate generally applies to a much lower level of income, exacerbating our highly uncompetitive top rate.
The gap between Canada’s top rate and that of the U.S. has widened considerably due to the reduction in the American top rate but also because of federal and provincial increases in Canada’s top rate in recent years. These developments further undermine Canada’s tax competitiveness. Higher personal tax rates make it harder for Canada to attract and retain high-skilled workers, including entrepreneurs.
While the U.S. federal government is making America more attractive for skilled workers and investment through tax and regulatory changes, Canada is doing the opposite. Ottawa and several provinces have undermined Canadian competitiveness with an assortment of policies that discourage investment. This includes higher tax rates on personal income, corporate income and payroll; persistent budget deficits that risk higher tax rates in the future; new regulations on carbon, resource projects and labour; and higher costs of doing business through minimum wage and energy price hikes and now, as we’re seeing with the Kinder Morgan Trans Mountain Pipeline expansion, increased uncertainty about the rules and policies affecting economic and resource development in Canada.
The cumulative effect of such policies, along with a strong anti-business rhetoric from many governments in Canada, has struck a harsh blow to the country’s investment climate. U.S. tax reform, plus uncertainty surrounding NAFTA renegotiations and access to the U.S. market, only rub salt in Canada’s self-inflicted policy wounds. It’s no wonder investors are turning their backs on Canada. There are several high-profile examples of major companies withdrawing investment from the country, a worrying sign that Canada is increasingly being viewed as a place not to invest. As the Royal Bank of Canada CEO recently put it, in real time, “we’re seeing capital flow out of the country.”
Canada’s investment problem is not simply anecdotal. The overall data paints a concerning picture. Business investment, excluding residential structures, is down nearly 20 per cent since the third quarter of 2014 after accounting for inflation. And there are no signs of improvement in the year ahead. Statistics Canada’s latest survey on investment intentions for 2018 found that private-sector investment is slated to fall yet again, the fourth consecutive annual decline. Meanwhile, foreign direct investment in Canada has plummeted since 2013.
Declining business investment, coupled with the fact that Canada now has the second-lowest level of business investment as a share of our economy among a group of 17 advanced countries, should be of great concern to policymakers given the positive effect investment has on economic growth and overall living standards. If investment in Canada keeps falling, Canadians will be economically worse off in the future.
Unfortunately, despite negative comments from a chorus of business leaders about Canada no longer being a desirable place to invest and the aggregate data pointing to a major investment problem, the federal Finance Minister has said the impact of U.S. tax reform requires further study.
There is a clear need for federal and provincial governments to take steps to improve Canada’s investment climate, not just in response to reforms in the U.S. but more broadly in light of faltering investment. This would not only make Canada more attractive to investors, it will also send a powerful signal that Canada is indeed open for business and a welcoming place for entrepreneurs and investors. Thank you very much.
The Chair: Thank you very much, Mr. Lammam. That was very helpful.
Fred R. O’Riordan, National Leader, Tax Policy, Canadian Leader, Economics and Analytical Services, Ernst & Young LLP: Thank you, Mr. Chair and members of the committee. It is a pleasure to be here with you this afternoon on behalf of Ernst & Young to discuss the important matter of U.S. tax reform and its potential consequences for Canada.
Ernst & Young, or EY as we’re also known, is a global professional services firm providing assurance, tax, consulting and advisory services to both private and public sector clients. Since the initial U.S. tax reform proposals were released by the Trump administration in September 2017, comprehensive U.S. tax reform advanced with remarkable speed. The final legislative provisions contained in the Tax Cuts and Jobs Act were passed by the House of Representatives in the Senate on December 20 and were signed into law by the President on December 22 to take effect as of January 1, 2018.
The main elements of the new legislation include lower business and individual tax rates, base broadening through limitations on deductions and credits, and a shift to an international territorial system for U.S. multinationals with anti-abuse provisions and a toll charge on previously untaxed accumulated foreign earnings.
How these changes on balance will impact the U.S. economy is subject to some debate among economists. Some have expressed concern about their long-term effect on U.S. federal deficits, the national debt and after-tax distribution of personal income, but there is a broad consensus that in the short to medium term they will have a fairly strong stimulative effect on the U.S. economy, on U.S. economic growth, inbound investment and job creation.
To the extent these changes spur the U.S. economy, Canada will likely share some of the benefit through increased exports, owing to the integrated nature of our two economies and access to the large U.S. market through the North American Free Trade Agreement.
However, there is a strong risk that these U.S. tax reforms will have a generally negative overall impact on Canada as the more tax competitive environment south of the border and potentially rising trade protectionism in the United States draw capital and skilled labour from Canada to the larger U.S. market.
A company’s decision to invest is sensitive to the rate of return on capital. Other things equal, capital flows into jurisdictions where its rate of return is highest.
Taxes imposed on businesses reduce the rate of return and affect both the amount and location of business investment undertaken.
Since 2000, Canadian federal and provincial governments have gradually reduced business taxes to attract investment here, primarily by implementing staged reductions in corporate tax rates, eliminating taxes on capital and reducing taxes on business inputs.
A measure of the effectiveness of this tax policy strategy is that, over the same time period, corporate tax revenues have continued to increase, and the ratio of corporate taxable income to GDP has remained stable. Canada’s policy direction is consistent with a global trend among many other OECD and G7 countries, the most notable exception, until now that is, being the United States.
As a result of U.S. tax reform, the U.S. federal corporate income tax rate has now fallen from 35 per cent to 21 per cent, compared with the Canadian federal rate of 15 per cent. The average combined federal-state corporate rate in the United States has fallen from 39.1 per cent to 26 per cent and is now below the average combined Canadian federal-provincial rate of 26.7 per cent, completely eliminating Canada’s previous competitive tax advantage.
A useful measure of this erosion in Canada’s competitive position and one that is more informative than a simple statutory rate comparison is a comparison of the marginal effective tax rate, or METR, on new business investment between the countries. The METR includes not only the corporate tax rate but also deductions and credits associated with purchasing capital goods and other capital-related taxes paid by the corporation. In effect, it measures the extra return on investment necessary to pay these taxes and maintain the same total return or, put differently, the share of the gross of tax rate of return on a marginal unit of capital needed to pay the business taxes on that capital.
Canada’s METR has been lower than that of the United States since 2006. This has been tremendously beneficial to Canada, influencing not only where businesses choose to locate but, for those multinational firms with significant cross-border operations and activity, where to place their highest-value functions and, thereby, report their revenues to tax authorities and pay the associated proportion of their corporate income taxes in the lower tax jurisdiction.
U.S. tax reform has sharply reduced the country’s aggregate METR from 34.6 per cent to only 18.8 per cent, compared with Canada’s 20.9 per cent. Disaggregated by industry, Canada’s relative tax advantage has been completely reversed in favour of the United States in all but three sectors: manufacturing, oil and gas and other services.
Although labour is less mobile than capital, the impact of U.S. personal tax reform is also threatening to Canada’s competitiveness because the U.S. has, temporarily at least, reduced personal tax rates across the board, whereas the top marginal rates have been increasing here in Canada. The top combined federal-provincial marginal tax rate on employment income now exceeds 50 per cent in six of Canada’s ten provinces. This is particularly important when both attracting and retaining the best and brightest talent and is a top priority for Canadian companies to maintain their own competitiveness.
Canadian businesses and policymakers alike need to seriously consider these tax reform developments in the United States and incorporate them into their own strategic decision-making.
In particular, our view is the U.S. tax reform merits an appropriate policy rethink and response by tax authorities in Canada. Rather than making ad hoc changes in a piecemeal fashion, the government should undertake a broad-based and comprehensive tax-policy review.
The full range and current mix of taxes should be examined, including both rate and base changes and issues. A comprehensive review would provide the means by which to judge the performance of our current system against the attributes of a good tax system. These attributes include fairness and equity, neutrality and economic efficiency, simplicity, administrative feasibility and certainty and, last but not least, international competitiveness.
Finally, the review should include an evaluation of relevant expenditure and tax expenditure programs to ensure they are meeting their stated policy objectives and that these objectives are well aligned and not working at cross purposes.
That concludes my opening remarks. I would be pleased to answer any questions.
The Chair: Thank you very much, Mr. O’Riordan. There are a number of questions coming.
Senator Stewart Olsen: Thank you both for being here. I just have perhaps a very broad question for both of you, if I might.
Mr. O’Riordan, I note your suggestion of a broad-based and comprehensive tax-policy review is excellent, and, of course, we should be doing that on an ongoing basis. However, I think we’re going to have to take steps more quickly than would ever be accomplished. I’m wondering if both of you could give me some idea of where the government should start.
Mr. O’Riordan: If I were to give recommendations for immediate changes, in a sense, I would be contradicting myself because I honestly feel it is better to do a comprehensive review, partly because tax policy is complicated and making a particular change in one area inevitably will have impacts on other areas, both in the tax system and the non-tax system.
So, in simple terms, I’ve outlined, I think, the main issues to look at; that is, rate and base changes. In response to what the U.S. has done, one area to explore would be to see whether there is further room to reduce certain taxes. We have lost our tax competitiveness with the U.S. We haven’t lost it with other jurisdictions. I realize that some people fear the so-called race to the bottom if we were to consider further reductions in the Canadian corporate tax rate. The reality is that Canada is roughly in the middle of the pack as things stand now. We’re not a low-tax jurisdiction. We’re not a high-tax jurisdiction. There is room to consider rate changes within that.
I mentioned the mix of taxes, partly because we should be looking at the corporate tax as a source of revenue but not in isolation. We clearly collect a lot of revenue on the personal income tax side and not an insignificant amount of revenue on the GST side, the value-added side. That’s an area to explore. I mentioned base changes as well. I would say, in all of those areas, we should be considering base changes. By that I mean look at tax expenditure programs, particularly on the corporate side, also on the personal side. Look at the value-added tax, the GST, and see about exemptions and exceptions in our value-added tax. There are lots of other tax systems internationally that are better than ours. You can look at tax administration. In particular, the GST and the HST regime, where a number of Canadian provinces are harmonized for tax purposes, but some aren’t.
Certainly, if we had better harmonization within that area, we would reduce administrative costs. We would also make those taxes more neutral, and we would reduce the cost of capital to the extent that there are still capital costs associated with some of them, an example being British Columbia, that went from a provincial sales tax to an HST and back to a PST. I’ll stop to give the other witness further opportunity.
Mr. Lammam: I agree with my fellow panellist about the need for a broad examination of Canada’s income tax system. There’s no doubt we are ripe for a review, and, certainly, the events from last year have added to the importance of doing so. But the reality is that we do have a competitiveness problem. I would probably argue, on the personal tax side, we are an outlier. We are not middle of the pack in terms of our reliance on personal tax but, in particular, with regard to the rate. Our top rate now, if you’re looking at Ontario as a representative province in Canada, is nearly 54 per cent, federally and provincially combined. That stands as one of the highest; I believe it’s the eighth-highest top rate in all of the developed world. It’s the highest among English-speaking countries and far higher than any rate in the United States. Importantly, those personal income tax rates at the top end in Canada kick in at much lower levels of income than they do in the United States, and the way we file our taxes adds to the competitiveness problem on the personal income tax side.
Yes, it’s important for us to review the system holistically. We’ve seen the evolution of the personal income tax system over the last 100 years become much more complicated than it needs to be. There are many exemptions. We have personal income tax expenditures that roughly total the amount the federal government collects now in personal income tax. There are a lot of opportunities to both simplify the system, generate revenues from doing away with the special carve outs that exist in the personal income tax code and reduce rates dramatically for everyone.
My colleagues and I have provided a detailed analysis of what that could look like for Canada in terms of broader, lower tax rates for everyone in exchange for doing away with what are largely ineffective personal income tax expenditures.
However, on the business side there’s much work to do. I would first point out that because we’ve seen personal income tax rates increase in Canada over the last six years or so, we’ve seen concurrent increases in our capital gains tax rate. Our capital gains tax rate is applied at 50 per cent of the marginal rate. We know capital gains taxes can have a very dulling effect on entrepreneurship, the supply of capital, and the demand for entrepreneurs in Canada. This is one policy initiative we can use that is very low cost in relative terms. The capital gains tax generates very little revenue for government, surprisingly, but comes at a very high cost in terms of its detrimental effect on entrepreneurship and investment. Either reducing the inclusion rate, eliminating the capital gains tax altogether or looking at other ways such as a roll over mechanism could do a lot to give the economy in Canada an economic jolt at a very low cost to government coffers.
On business taxes generally, my colleague outlined a lot of the positive developments we’ve seen in Canada, and they have been cross party over the last 15 years. That’s been a good thing, but there’s still a lot of work to do, regardless of what’s happened in the U.S. The U.S., I must say, really just adds impetus for changes in Canada.
It’s important to highlight, as I tried to in my opening remarks, that we’re struggling to attract investment. A business tax regime that is more competitive would allow us to do that and reap the benefits of greater investment in the country.
There are a lot of things that can be done. Unfortunately we’ve seen some backsliding in recent years as some provincial governments have raised their statutory corporate income tax rate. Reductions both federally and provincially in the statutory corporate income tax rate could be welcome. More neutrality across industrial sectors of business tax treatment would be extraordinarily helpful. Harmonization of provincial sales tax systems with the goods and services tax, GST, would do wonders for provinces like British Columbia, Saskatchewan and Manitoba, who have yet to harmonize their provincial sales taxes. There is a need to broadly re-examine our income tax system, but in the short term I think it’s incumbent on governments to enact pro-growth tax measures that will help combat the decline we’ve seen in investment, the uncompetitiveness —
Senator Tannas: I have a quick question, more out of curiosity.
When you’re looking at this comparison, is there anything that widens or narrows the gap in tax-like things? For instance, the United States, employers pay health-care insurance, which is significant. I read somewhere the average employer contribution is $7,000 per employee.
Are there some normalizing things that ought to be looked at when we try to understand the competitiveness rather than just apples and oranges of our relative tax?
Mr. O’Riordan: Well, if you mean, are there attributes in Canada which are somewhat different or more attractive?
Senator Tannas: Here it’s a tax; there it’s a cost. Right?
Mr. O’Riordan: Exactly. The METR comparisons my colleague and I mentioned are taxes on capital, not on labour. They give a clear picture of the cost of capital in these jurisdictions.
Clearly in Canada we deliver health services differently than our friends in the United States do and that can be seen as an advantage. It’s not a clear-cut advantage to me in the sense that businesses, when they decide their locations and so on, they will factor the cost of skilled labour in particular into those decisions. They will look at their tax burdens, as well.
As my colleague pointed out, the Canadian tax burden is considerably higher than in the United States, but they will also take into consideration the fact that provinces deliver health care. They may choose to have supplemental insurance for other benefit purposes and so on.
If I understand the direction of your question, yes, I don’t think any of us would say tax is the only driver of business location decisions and so on, and Canada certainly does have some comparative advantages vis-à-vis the United States.
Mr. Lammam: I think that’s what you were trying to get at. I don’t want to misinterpret your question. There are other things that matter outside of tax systems. In terms of taxes on capital, there’s no other more comprehensive measure I’m aware of outside of the marginal effective tax rate that we talked about that gives a sense of what the tax implications are of new investment in one jurisdiction vis-à-vis another. It’s a comprehensive measure I would consider to be apples to apples, but it comes with a warning that other things affect decisions about investment.
I wanted to reinforce a point I made earlier in my opening remarks that we shouldn’t be just looking at the business tax regime in Canada versus the U.S. to get a sense of the investment implications. I tried to paint a broader picture of a tax, regulatory and cost of doing business landscape in Canada that is increasing and really, for a lack of a more succinct way of putting it, an anti-investment approach we’ve undertaken here in the country vis-à-vis what’s happening in the U.S. on the tax and regulatory front.
If we broaden the analysis to look at other policies outside of business tax policy, it becomes concerning that outside of the federal government, including the provincial governments, we are pushing through with very anti-investment policies in the country.
Senator Dagenais: My thanks to both our guests. As you mentioned in your presentation, the U.S. economy is strong. The protectionist measures of the Trump administration are putting a great deal of pressure on Canadian importers and exporters, which will end up having a negative impact. I would like to hear your opinion on the overall, long-term impact. It is all very well to say that we compare ourselves to other countries, but our main economic partner is the United States. Our countries share a border, so it is easier for us to do business with them. I would like to hear what you have to say about the overall impact in the long term.
Mr. O’Riordan: As we economists like to say, in the long term we’re all dead. The short and medium term are the appropriate time horizons to look at, not to disagree with your perspective that in the longer term we should look at the trading relationship through the United States, whether we need to diversify our trade better and so on. I do think there are good signs on the horizon in terms of either trade agreements already achieved or we’re looking to achieve with other countries; Europe, China, the Pacific countries and so on. What is concerning is our ability to further exploit our relationship with the United States.
One thing I would stress is the size and importance of the U.S. economy relative to us. We’re a small, open economy. We have been a trading country forever and inevitably our best advantage to exploit is access to the large American market. On both fronts, access and tax competitiveness, we are currently threatened.
I would view tax competitiveness if anything as more threatening than the NAFTA arrangements. I’m optimistic we will resolve the NAFTA renegotiation with the Americans and the Mexicans but even if we didn’t there are lots of economic studies that look at the implications of not achieving that. Whether we conclude that agreement or not we still will be very much tied to the United States’ economy.
The United States economy is very important and tangible. Companies looking at doing business in North America have two choices, essentially; locate directly in that market itself or locate here in Canada and take advantage of some of those attributes that one of the honourable members has already mentioned.
We are attractive in certain respects vis-à-vis the United States but the cost of and return on capital is a key decision maker for companies. Our business investment is lagging, it’s low and we don’t see any signs of having it improve. Areas that would affect that and improve that, not only tax, but also our ability to innovative and improve our productivity, are things I think the committee should take into consideration and examine.
Senator Dagenais: You are saying that there will be a new NAFTA agreement. However, it will certainly not be a symbolic agreement, as we heard last week at the summit in Peru.
Mr. O’Riordan: I believe that talk is actually about the short term. Those motivations are political rather than economic, as I understand it.
Mr. Lammam: To add to the question of what the long-term impact will be, I agree with a lot of what my fellow panellists have said. It’s very difficult to get a sense of what the long-term implications are for a number of reasons.
Already there’s been an investment uptick in the U.S. While our energy sector is faltering, their energy sector is booming, in part due to regulatory changes south of the border. We’re going to see, to the extent we continue to be heavily involved in trade with the U.S., some of the uptick in U.S. economic performance spill over into Canada. There obviously are challenges on that front given protectionist measures from the U.S. and risks surrounding NAFTA which, by the way, have already had a dulling effect on many Canadian business people and entrepreneurs I’ve spoken to. Just the uncertainty about the negotiations has had a dampening effect.
If there were some meaningful barriers post-renegotiation, that would limit some of the spillover and uptick the U.S. is seeing and flow into Canada. For me, it makes it all the more important for us here to get our fundamentals right. We don’t want to be a country relying exclusively on the economic performance of others.
When you see economic fundamentals in Canada like business investment plummeting across a whole host of measures, it’s worrying because investment is an indicator of future economic success.
My view and recommendation is to take steps independent of what’s happening with NAFTA, and largely independent of what’s happening with the U.S. on tax reform, to ensure we have a holistic investment climate that is fostering investment, innovation and entrepreneurship.
Unfortunately, I don’t think we’ve seen that from either the federal and provincial governments over the last several years. It would require a bit of a U-turn in the approach to date.
With the international attention now that Canada is getting, it’s very concerning that The Economist just published an article calling into question whether Canada is a place to do business. This is not the kind of attention Canada wants or needs, particularly at this time.
Our reputation, which is being unfortunately impacted by this pipeline dispute, is not serving us well because not only is the tax advantage gone and concerns about NAFTA looming, there are concerns from investors that the rules and policies that regulate economic activity and resource development in particular are not sound or respected in the country.
I don’t want to sound overly negative but I do think we need to be cognizant of what’s happening with investment in the country because it will dictate how well we do economically over the long term.
Senator Unger: Mr. Lammam just spoke to the question I had, which is: How significant is the Kinder Morgan saga with regard to trying to restore investor confidence? Over the last few years I have watched the funding for many future mega projects being taken out and repurposed somewhere else.
Here is another question: Does the tax review that is mentioned have to be done by the government or could it be done by private people such as yourselves?
Mr. O’Riordan: With respect to the first question, yes, this is a concern. Several years ago I was involved in doing an economic impact assessment of LNG development in British Columbia and we demonstrated significant economic benefits to the country from getting LNG to export markets. At that time we were very optimistic that early proponents would reach their final investment decision and we would be pumping LNG. We’re still a long away from doing that.
In doing that analysis we helped persuade the Department of Finance to implement a tax policy change with respect to capital cost allowance for some of the infrastructure involved in LNG.
Yes, it is concerning and hopefully there will be resolution of these resource development issues and hopefully we will have a consensus that we can move forward respecting the environment and Indigenous rights and so on.
On the second question of the review, I would say there are advantages to having an independent tax policy review. It’s not that the Department of Finance or CRA don’t have excellent resources to undertake a review, but they are limited in terms of what they can do. I think that an additional perspective could be brought on that question by engaging outside experts.
I think a second advantage of doing that is, let’s face it, we’ve all talked here about tax expenditures and advantages afforded to certain people. Politically speaking, it’s much easier to grant entitlements than to take those entitlements away.
The way I see it, if you have an outside group that’s objectively and independently examining these things and makes recommendations, I would think it would make it easier, politically speaking, for the government of the day to look at them, recognize the expertise involved and propose and implement them than it would be to undertake those things themselves. Obviously, in a consultative process, which would be appropriate, they would certainly face headwinds from a lot of parties.
Mr. Lammam: I would reiterate the amount of investment dollars not being put to use in Canada from projects that are being either cancelled or approved.
As a couple of examples, there’s the Petronas cancellation of a $36 billion LNG project in BC; Trans Canada’s cancellation of a $16 billion Energy East project; having the CEO of Suncor, one of the largest energy companies in the world, saying he’s not interested in investing in Canada due to growing regulatory and tax burdens; as well as the CEO of RBCsaying he’s seeing capital flee the country in real time.
I could continue to go down a list of all these different projects that again have either been cancelled or not approved by government, and it does add up over time. That’s why I believe we shouldn’t understate the problem that’s confronting us now.
In terms of the review, I was quite enthused about the current federal government’s intent on reviewing the tax code. I think it’s fallen quite short, by any stretch of the imagination, of what a lot of people expected. There’s nothing to say that this needs to be done via government. As I said, we provided a detailed tax plan, including what tax expenditures to eliminate in exchange for lower marginal tax rates for virtually 98 per cent of all Canadians.
There are ways to go about doing this. I would agree that seeking input from organizations outside of the political process can be helpful in order to reduce any of the political pressures to do this or that form of tax policy.
The Chair: Thank you very much.
Senator Wallin: Let me follow up on that issue and hear from both of you. I’ll lay out my questions and have you just address them.
Because the U.S. tax reform came in in January and our budget followed, in the course of the pre-budget consultations — and, from our point of view, most importantly post-budget consultations in this country — has the government reached out to you and asked that question about how big an issue this is and what do we need to change? That is, not asking that you formally do a complete document and external review, but to consult and see if you have any guidance for them there?
The second question is really just on these big-ticket items that we’ve discussed — that is, NAFTA, carbon tax, pipeline — and the concerns from the foreign investors, is there a sense of how much those decisions or lack thereof has already been baked in? How much damage is yet to come? You see my question.
Mr. O’Riordan: Yes. I’ll deal with the first question first.
Yes, a colleague of mine at Ernst & Young and myself have met with senior Department of Finance officials to discuss tax and trade issues, the U.S. tax reform and NAFTA negotiations in particular. They are aware of our view that a comprehensive tax review would be appropriate at this time. They have heard similar representations from others, so we’ll see. They have not offered me any employment opportunities personally at this stage. The minister himself indicated they are looking at this question in the context of the budget and post-budget consultations.
Regarding the second question about intentions of companies, I’d say a couple of things. One is we at Ernst & Young are undertaking a survey at the present time of capital allocation decisions of our clients. I would be happy to share that survey with you once it’s complete.
I think the survey is important because it will help inform decision-making in terms of the response that is appropriate because we’ll have a better idea of not only the actions companies are currently taking but those that they’re anticipating taking. We have asked a series of good questions, if I might say that, including what they think governments here in Canada should be doing in terms of a policy response.
We have surveyed a large population in different geographic spaces in the country, different industry sectors and different sizes of firms, so we’ll have a pretty good database to collate and analyze.
The Chair: When will you have that?
Mr. O’Riordan: Probably within a month or so.
The Chair: Perfect. That will be very helpful, for sure. Thank you very much.
Mr. O’Riordan: It is being conducted on our behalf by the polling firm Abacus Data and we will be sharing the results.
The Chair: Mr. Lammam, as a result of Senator Wallin’s questions, do you have anything to add?
Mr. Lammam: Yes. I think last year’s small business tax debate was one that allowed a lot of voices to express their concern about not only the changes but more broadly Canada’s personal income tax system. It did shine a light on that. My experience in that public debate was that there is broad agreement from numerous stakeholders that, in order to have a tax reform that is acceptable to a wide range of stakeholders, there needs to be a broader and more comprehensive analysis rather than the very narrow approach that was taken with the proposed changes last year.
In terms of the study of this, I worry because we’ve seen or expected these sweeping tax reforms in the U.S. for over a year. Yes, once things got going, they moved quickly, but the intent of the new administration was quite clear coming into power that this was something on the table. I don’t think it’s really fair to say it caught governments off guard. I really think it boils down to the political arm of the government’s appetite to take seriously those changes.
Again, our Minister of Finance, in response to the changes, has said that it requires further study, which I think sounds like someone’s in denial about the impacts of those tax changes.
In terms of the damage that’s yet to come, I would point the committee’s attention to Statistics Canada’s survey of private and public sector organizations on their intent to invest in capital. They surveyed 25,000 such organizations. Based on the results of the survey, they concluded the intentions for capital investment in Canada this year are expected to be lower. This is the fourth consecutive annual decline. While I look forward to my colleague’s commissioned survey, we already do have a fairly significant survey undertaken by the nation’s statistical agency and it’s providing some quite concerning results.
The Chair: Thank you very much.
Mr. O’Riordan: I do agree the StatsCan survey was interesting, but you should bear in mind that survey was conducted last fall. We’ve asked specific questions in our survey about the impact of U.S. tax reform in particular. That’s really what we’re interested in. We realize there’s been a longer-term decline in business investment. We’re particularly interested to see what impact this will have. There could be mixed impacts in the sense that supply chain considerations may be rather encouraging to the extent that we’ve got integrated Canadian and U.S. supply chains, for example.
This issue cuts both ways. I already mentioned the increase in exports we would likely see in some sectors, so it’s not all negative but primarily, yes.
The Chair: That’s very helpful.
Senator Marwah: As both of you know, a reduction in tax rates is often accompanied by a rise in deficits. You see what happened in the U.S., a $1.5 trillion increase in deficit but they can get away with it because they are the U.S. Nobody knows what the long-term repercussions of that are. We responded and cut taxes and our deficit went up from the $18 billion it already is. Can we handle it?
Mr. O’Riordan: Starting with me?
Senator Marwah: Either of you.
Mr. O’Riordan: Bear in mind I haven’t made any specific recommendations regarding cutting taxes. I do think those recommendations should be on the table. Part of the reason I favour a comprehensive review is, among other things, exactly for the reason you’re proposing. Any changes will have implications and those have to be taken into consideration. They shouldn’t be done in a piecemeal fashion.
To the extent you have rate reductions, if you have base-broadening measures that increase the tax base, they could perhaps be done in a revenue-neutral way, for example.
I already mentioned, not only looking at the corporate tax rate in isolation, but also looking at rates in general for other taxes and the mix of taxes.
I do agree with the member’s question and concern about rising deficits, particularly in view of rising interest rates and the level of private debt in Canada. Debt accumulation is obviously a consideration, and I would expect the government would take that into account in any sort of adjustment of rates it would consider.
Mr. Lammam: My sense is that major changes to business taxes can happen in a revenue or net cost-neutral fashion. For example, the federal government cumulatively spends about $14 billion each year on both tax and spending programs that are effectively subsidies to particular businesses and industries over others. Doing away with such programs, which economic research has found are ineffective at stimulating economic activity, they in fact divert resources from productive businesses to unproductive ones. Doing away with the so-called corporate welfare as one revenue source, or cost-recovery source, the government can use to finance any further tax reductions, in particular looking at the carve-outs within the corporate and personal income tax systems, is another way to provide revenue-neutral tax reform. My colleagues and I have talked about some major marginal tax rate changes which could be financed through reductions or eliminations in tax expenditures. Granted, it’s politically difficult to take those particular carve-outs away; however, when Canadians are concurrently offered pretty dramatic reductions in marginal tax rates, it makes that more palatable.
There are certainly ways that tax cuts, whether on personal or corporate taxes, can be done in a cost revenue-neutral fashion. It just requires a broader examination of other spending and tax measures.
Senator Marwah: Both of you mentioned the marginal effective tax rate, which is a useful measurement, it looks at deductions as well as other deductions and credits. Is anything glaring in those deductions and credits that the government can look at, and act more quickly? I just worry about a comprehensive tax review taking a long time. Should we do something with accelerated depreciation? Regulatory changes? The carve-outs that you talk about, Mr. Lammam? Are there any other measures we can take relatively quickly while a review takes place?
Mr. O’Riordan: Certainly the Department of Finance publishes its tax expenditure account and it contains well over 200 existing tax expenditures, so there’s quite a broad menu from which the government can choose if it wishes to take some short-term action, both on the personal and the corporate side.
Senator Marwah: Are there any that you would recommend, or you think are easy to act on?
Mr. O’Riordan: Well, for all of those reasons I have already mentioned, I would hesitate to advise the government on which ones it might take.
There is a sense of urgency here, but the government does have some time. These American tax reforms come into effect now, this fiscal year. If they would agree to get a review up and running fairly quickly, and they have better information about what businesses are doing, through survey results and so on, I would personally rather see them do a package of changes rather than making isolated, short-term, knee-jerk reaction changes.
The Chair: Thank you. Anything you wish to add to that, Mr. Lammam?
Mr. Lammam: Yes, in terms of specific tax expenditures to eliminate, I would turn the committee’s attention to the report I referenced. I’d be happy to pass that along. We did an analysis in 2015, delineating several tax expenditures. I believe the total cost or additional revenue to government was in the $20 billion range.
There is a menu. There’s a lot that governments can choose from. In terms of your specific question about urgent or more immediate ways to spark investment, some economists have proposed matching the U.S.’s immediate expensing of capital investment. That’s one possible venue that could reduce the amount of tax paid on new investment in a pretty significant way.
There are measures to take. I think at this point it’s really about, do we want to have that conversation? Or are we going to continue to study what seems to be a pretty significant power or force that’s pulling away investment from Canada, in addition to what policy is doing internally within the country.
Senator Tkachuk: I just have a few questions here. The tax review you’re talking about, I’d like comments from both of you. Is it something like an independent Carter commission looking at tax changes, or perhaps maybe the Senate Banking Committee? A political arm, but not a political arm?
Mr. O’Riordan: I hesitate to recommend something as big as a Carter commission or another royal commission, but that certainly would be a possibility. I think the salient issue is the speed by which it can be done, and the degree to which it would be comprehensive and apolitical in nature.
The Chair: Thank you. Mr. Lammam?
Mr. Lammam: I think the reality is we have an immediate tax competitiveness problem in Canada, particularly on personal income tax and now we’ve lost our business tax advantage vis-à-vis the U.S. Those are immediate concerns, coupled with the fact we’ve got declining investment.
As much as I would like to say we should look to a Carter commission Part II now, before enacting any reforms ourselves, I just don’t think that’s realistic. I don’t think we have the luxury to do so. I think immediate response measures are certainly in order, and they can be done concurrently with engaging in a broader review of the tax code which, by the way, I think is long overdue. The last time we saw major tax reform in Canada on the personal side was in 1987, when the government reduced marginal tax rates in exchange for eliminating several tax expenditures. Thirty years on, now a good time to revisit similar changes but also take a broader look in terms of whether we should have a small business corporate income tax rate, whether we should have the carve-outs we do for certain businesses and certain sectors, or whether we should have tax expenditures for this or that activity in the individual personal income tax code.
Those are all important questions, but I do want to highlight that I think where I diverge from my fellow panellist is I do think there’s a sense of urgency now, but that does not preclude us from concurrently examining our tax system in a broader analysis.
Senator Tkachuk: There is something I think the government could do. I think businesses look at certainty and stability as much as they look at taxes and the cost of doing business. The Banking Committee last year, we went to Washington, D.C., and New York and we met with a number of financial people in New York. This was in May, I think. The new administration had just been elected, but already the economy was heating up.
There were all kinds of announcements of new investments. The stock market was going crazy.
We asked the businesspeople there why this was happening, and their answer was pretty simple: It doesn’t matter whether the tax changes are coming or not. We know one thing: They aren’t going to increase. It doesn’t matter we’ve only had a few regulatory changes, because we know one thing, there won’t be more new ones. That told the whole story.
It seems to me in our country, our problem is stability and certainty. No one knows what’s going on. Kinder Morgan is a very good example of that. That’s going to send a shiver not only through the resource industry, but it’s going to affect our trading relationship between Alberta and British Columbia. We have a four-province Western Canadian trading agreement. This is going to do damage to all of that and put us back decades from where we came on interprovincial trade. There are all of these things. This is a mess.
I think those are policy issues the government can change without having to look at decreasing taxes. Go about doing business in a fair way.
The Chair: Any comment, Mr. O’Riordan or Mr. Lammam?
Mr. Lammam: I agree with the senator’s comments wholeheartedly. I think uncertainty now has been heightened in Canada, and it has for many years. People don’t realize that with several of our governments running significant deficits and accumulating debt, there’s uncertainty built in that taxes will rise in the future in order to repay and service the debt.
There’s uncertainty now with regard to rules and regulations governing resource development. People are not sure if when the federal government says a project is going to be approved, that’s actually the case. The federal government itself has now introduced a new impact assessment agency that has many subjective criteria involved in analyzing resource projects. This is adding uncertainty.
We cannot ignore what’s happening at the provincial levels. A new government in British Columbia, potentially a new government in Ontario, certainly in Alberta next year, all of these developments have an impact on the perceived certainty and stability, as the senator discussed, about our policy regime. I don’t think that’s something that can be discounted. I would like to distinguish, however, between the uncertainty about policy that is driven within Canada by our governments, federal and provincial, versus the uncertainty that is affecting Canada but coming from outside of the country, namely the U.S.
The uncertainty about NAFTA, that’s nothing governments in our country have done, but it’s an uncertainty that’s going to have an impact on economic activity — it already has — in Canada, the same with uncertainty driven by our competitive standing on taxes. Those are things partially affected by our own governments, but certainly external factors play a role.
I one hundred per cent agree that one of the unfortunate things we’ve seen in Canada over the last three to four years is a heightened level of uncertainty that I think has really hit a tipping point this month.
The Chair: Senator Tkachuk, anything further?
Senator Tkachuk: No.
The Chair: Senators, thank you. Tremendous questions; tremendous session.
Mr. O’Riordan and Mr. Lammam, you have been extremely helpful to our deliberations. I’m hoping you can provide that information when Ernst & Young has completed its survey.
You have referred us as well, Mr. Lammam, to some work you and the Fraser Institute have done. We would benefit from seeing that as well.
Thank you to both of you. I again apologize for the delay, but the wait was worth it, from our point of view.
(The committee adjourned.)