The Proposed Income Trust Taxation -- Impact to Canada and Investors Around the World

By: Y. Ng
Submitted: 2007-01-17 16:17:40
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On October 31, 2006, the Canadian government gave a rather nasty surprise to the market by imposing a new tax on income trusts. Existing trust will be taxed starting from 2011, for new one the effective date is as early as 2007.

The Toronto stock exchange dropped 2.6% and the S&P/TSX Income Trust Index plunged 12%.

What is Income Trust?

It is an entity that is required by law to distribute almost all its income to shareholders as dividends. Because of this the entity pays almost no income tax to the government. This tax-efficient structure is becoming more and more popular in Canada, at the expense of the government (decreasing tax revenue).

REIT, a product popular to retail investors, is a major form of income trusts.

Immediate impact

  • Energy and Telecom among biggest hit: Many of the biggest income trusts are in the energy mining sector (e.g. Canada Oil Sand Trust. Penn West Energy Trust). For the telecommunications sector, stock price of two big trust-conversion candidates, Telus and BCE, had double digit drop leading to an overall 9% drop in the telecom subindex.
  • Foreign investors may be scared away: As income trusts are very popular among foreign investors, the surprise announcement may trigger an exodus of capital away from Canada. This will affect both the stock market and foreign exchange. (CAD/USD dropped >1% yesterday).
  • Bank/insurance sector benefits: Investors will likely reshuffle the capital towards banks and insurance companies, which give relatively high dividends and do not usually have trust structure.

Long-term impact

  • Only slightly negative to investors: Apparently the Canadian government is closing a loophole as the Australians have done in the 1980s. While losing the tax-free advantage, the income trust companies are not worse off than their non-trust counterparts.

The author is a private banker by profession and manager of her own family & relative fund, which has generated a cumulative 54% return in the last 3 years. Please visit her blog, bankernotes.blogspot.com, for daily investment workshops and ideas. She can also be reached at bankernotes@gmail.com

Article source: Expert Articles

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