Ten Tax Myths
P R É C. S O M M A I R E S U I V.

Myth 6
Canada is a very expensive country in which to do business. One way of getting around this barrier to investment is to provide tax breaks and special tax deductions as incentives

 T here are actually two myths included in this neo-liberal claim.

They are easily refuted by two facts: First, Canada is one of the least expensive countries in the developed world in which to set up and run a business. And second, tax breaks, of which there are still dozens in the Canadian system, are extremely ineffective in promoting new investment.

The study by KPMG referred to earlier, “The Competitive Alternative”, compared the costs of doing business in Canada, the U.S., the U.K., France, Germany, Italy and Sweden. In nearly every category of costs, Canada came out lowest. It ranked No. 1 in lowest initial investment costs, 15% cheaper than the U.S., and No. 1 as well in lowest annual costs following initial set-up. The U.S. ranked fourth, the U.K. third, Sweden second, Italy fifth, Germany seventh, and France sixth[19].

Comparing Canada with the U.S., our main competitor for investment dollars, Canada had lower costs in the areas of labour, electricity, marine transport, telecommunications, interest, depreciation, income and other taxes. The only area where Canada was more expensive was land transport. Overall, Canada came in almost 6% cheaper than the U.S., a significant cost difference when you consider that most industries do well to make a return on investment of 12%.

Part of the advantage enjoyed by Canadian companies is Canada’s publicly-funded Medicare system. A study by Bryne Purchase of Queen’s University shows that employer-paid health benefits account for between 5% and 20% of total payroll costs for U.S. companies. “For the Big Three U.S.-owned automakers, the employee health care cost differential between Canada and the United States is reportedly over $8 per hour.” In the agri-business sector, health care costs are as much as $13,000 a year higher south of the border.19

The KPMG study reinforced a yearly survey done by KPMG comparing the costs of doing business in the U.S. and Canada. The study looks at between six and 13 locations in each country. In each year that the study has been done, starting in 1995, all of the Canadian cities studied were cheaper than any of the American locations. In other words, even the most expensive Canadian city was a cheaper location in which to do business than the cheapest American location surveyed.

Even if it were true that Canada was an expensive place to do business, the use of tax breaks and incentives to spur investment is notoriously ineffective. The history of using the tax system to encourage investment is one of wasted billions in government revenue and citizens’ tax dollars.

The most comprehensive effort at tax incentives was undertaken in the early 1970s by then Finance Minister John Turner. Reduced corporate taxation and a series of tax breaks, including the rapid depreciation of new machinery for tax purposes, were intended to give a significant boost to manufacturing capital investment and a big increase in employment.

In 1977, some eight years after the first measures were introduced, employment in manufacturing had actually dropped by 1.5% — a far cry from the 250,000 new jobs the minister claimed would be the result. Most manufacturing sectors were plagued by overcapacity and no company in that situation was going to put extra cash flow (through tax breaks) into new productive capacity. Most of the money found its way into corporate coffers and ended up going to shareholders’ dividends.

According to numerous studies of the effectiveness of investment tax incentives, surveyed by Memorial University’s Douglas May, for every dollar forgone in tax revenues to spur investment, only 20 cents worth of actual new investment was created. Some studies suggested that the figure was even lower.

Even worse was their record at “reducing unit costs” — an objective aimed at making Canadian manufacturers more competitive internationally. In this area, May demonstrated that the tax incentives reduced unit costs by a minuscule 0.5%.

One of the unforeseen results of these tax incentives was their negative impact on employment. By giving tax breaks to companies buying new equipment and machinery, the government made such machinery relatively less expensive than labour. Where a company might otherwise have hired more workers, or kept them on, this particular tax break made it more economical to upgrade the equipment and lay off workers.

Yet, despite these extremely poor results, the tax incentives have continued to this day — and every year the Canadian government loses many millions in revenue it would otherwise collect. In the first half of the 1980s, the big five banks alone were given $2.8 billion in tax breaks that brought their effective tax rate down to about 2% (compared to the statutory rate of about 40%)[20].

A study by Kirk Falconer showed that, over an eight-year period, from 1980 to 1987, the amount of untaxed corporate profits totalled nearly $127 billion. These untaxed profits arose because corporations are able to take advantage of perfectly legal provisions of the corporate income tax system. But, had the statutory rate of taxation been applied, the additional revenue for that period would have amounted to nearly $60 billion.

In the final year of that study, 93,405 profitable corporations paid no tax at all. Most of the tax breaks–84% of the total amount–went to corporations earning over $1 million in profits[21].

While some tax reform was implemented in the mid-1980s, in 1995, the last year for which figures are available, there were still 90,415 profitable corporations with total profits of $18.6 billion[22] that paid no income tax. And these numbers reflect just those corporations that paid no tax at all (or even received a tax credit). Thousands more had their tax bill reduced.

How do these untaxed profits arise? The most detailed analysis of this phenomenon was conducted by the Ontario Fair Tax Commission in 1992. The Commission found that, of $18.5 billion earned by profitable corporations that paid no tax, $2 billion was non-taxable because of prior years’ losses, $9 billion was non-taxable because inter-corporate dividends are not taxed, $850 million represented equity income that is taxed at a corporation’s subsidiary, and another $700 million was untaxed for various other reasons. That left $6 billion in untaxed profits.

It is worth noting that the lost revenue from these tax breaks were a major contributor to Canada’s national debt. Several studies have shown that declining government revenues in the 1970s and 1980s, and not increased spending, laid the foundation for the large accumulated deficits of the 1980s and 1990s. The burden of paying off that debt has fallen, not on the corporations, but on ordinary working people, through their taxes and through eroded social programs.

[18] op. cit., The Competitive Alternative.
[19] Bryne Purchase, “Health Care and Competitiveness”, Kingston, Ont.: Queen’s University School of Policy Studies.]
[20] Gordon Ternowetsky, University of Northern B.C.
[21] Kirk Falconer, “Corporate taxation in Canada: A Background Paper”, in Canadian Review of Social Policy, Nov, 1990.
[22] “Unfair Shares”, Ontario Federation of Labour, 1998.

Ten Tax Myths
P R É C. S O M M A I R E S U I V.