Canadian Manufacturing

Changes needed ahead of B.C. tax reform, according to Fraser Institute

Set of recommendations brought forward by think-tank to maintain province’s investment attraction

Businesses in B.C. are scrambling to balance the books as the provincial government gets set to re-establish a provincial sales tax (PST) system.

But a set of recommendations brought forward by the Fraser Institute could help keep budgets in check and improve the province’s investment climate, according to an associate director of tax policy research at the think-tank.

“There’s going to be a huge increase in the cost of investing in B.C.,” said Charles Lammam, associate director of tax and budget policy research with the Fraser Institute. “Going from the PST to the HST back in 2010—which was a giant leap forward in terms of the competitiveness of B.C.’s tax system—and now going back to the PST is going to be this huge step backwards.”

The recommendations were submitted to the British Columbia Expert Panel on Business Taxation in June 2012—less than two years after the harmonized sales tax (HST) system was introduced in the province.

With the PST set to return to B.C. April 1, 2013, Lammam and a pair of co-authors outlined a number of recommendations to the panel, including a complete sales tax exemption on all business inputs, a phased-out reduction in the general corporate income tax rate from 10 per cent to eight per cent, an equalized property tax rate for all business classes, a reduction in the province’s middle- and top-marginal income tax rates and an increase to the threshold of income eligible for the small business tax rate of 2.5 per cent from $500,000 to $1-million.

According to Lammam, while it’s hard to put the recommendations in a prioritized list, the sales tax exemption on business inputs makes the most sense to be first in line.

“At the top of the list we’ve put exempting business inputs because taxes on capital inputs are among the most damaging types of taxes on an economy,” Lammam said. “They have the highest cost to society.”

Under current HST legislation in the province, businesses and entrepreneurs do not pay sales tax on business inputs—machinery, equipment and new technologies—used during the production process.

Businesses will be subject to sales tax on such investment once the PST is restored, which, Lammam said, may hinder investment in B.C.

“There’s a calculation of the overall tax rate on investment that’s been done in B.C. and with the HST we’re somewhat competitive with our key provincial comparatives,” Lammam said, noting jurisdictions like Alberta, Saskatchewan and Ontario. “Going back to the PST, we become very un-competitive.”

With the province expected to see an increase in the cost of investment, Lammam said manufacturing and services industries will be negatively impacted the most.

“Manufacturing is important, because a lot of the types of capital investments that are undertaken in the industry impact the province’s overall productivity level,” he said. “Under exemption of business inputs it’s a little bit cheaper to engage in those types of investments and those are the kind of investments that give workers the tools to become more productive.

“We know from economics research that there’s a strong connection between how productive a worker is and how much they get paid.”

According to Lammam, the recommendation to exempt business inputs from sales tax isn’t aimed at pitting consumers against goods makers, but simply a smart tax system.

“(The) whole idea of exempting business inputs is not this business-versus-consumers notion,” Lammam said. “If you want to have a … sales tax system that’s a value-added system you only want to tax value-added goods—you want to tax final consumption, in other words.”

A two per cent corporate tax reduction from 10 per cent to eight per cent would have a similar effect in maintaining investment attraction, according to Lammam, as such taxes can dictate how, where and when investments are made.

“We know that corporate income taxes have a significant impact on investment in a jurisdiction,” he said. “There’s literally mountains of evidence from academic research that suggests that’s the case.”

Reducing the corporate tax rate would mitigate some of the impact of going back to a PST system, according to Lammam.

He said a phased-in approach is important because of current budget conditions facing the B.C. government.

With the province currently running a deficit, Lammam said any tax breaks would need to be weighed against the provincial budget.

“If we don’t have revenues available currently I think we can implement something like a corporate income tax reduction from 10- to eight per cent over time as revenues become available,” Lammam said, noting a corporate tax reduction could be implemented more immediately if revenues were freed up elsewhere.

To make revenue available in the least economically damaging manner, the report recommends the elimination or significant reduction of tax credits offered through the personal and business tax systems.

Lammam said it’s important that the provincial government be mindful of change with change—the importance of offering amendments to help ease the transition back to a PST system.

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