On May 2, 2006, one day after this year’s income tax filing deadline, federal Minister of Finance Jim Flaherty tabled his Conservative government’s first Budget. As expected, the Budget follows through on several campaign promises such as reducing the GST and introducing a monthly child care allowance. The primary focus of the Budget, however, is on broadly-based tax relief, with proposals including employment and apprenticeship tax credits, changes in basic personal tax credits and lower taxes for small businesses. The Budget also specifically allocates $3 billion per year to pay down the federal debt.
The Finance Minister told the House of Commons that “Ottawa has been over-taxing Canadians for years.” He noted that this Budget puts more than twice as much into tax relief than new spending. He stated that as a result of this Budget, about 655,000 Canadians will be removed from the tax rolls altogether.
The Budget appears to focus on responsible fiscal management while promising benefits to individuals, families and small businesses.
By far the largest single tax-related initiative in the Budget is a reduction in the GST from 7% to 6%, effective July 1, 2006. This is expected to save consumers $5.2 billion over a 12-month period. Other tax-related proposals are outlined later in this release.
The Minister estimated the federal surplus for 2005-06 to be $8 billion, of which $3 billion is planned for debt reduction. He forecast that program spending as a share of GDP will decline from 13.7% in 2004-05 to 13.0% in 2007-08. The debt-to-GDP ratio is projected to fall to 31.7% by 2007-08, with the objective being 25% by 2013-14.
GOODS & SERVICES TAX (GST)
The government will reduce the GST rate by 1 percentage point to 6% effective July 1, 2006. The Budget also indicates that the rate will be reduced to 5% in a future budget.
The general transitional rules to determine the applicable rate will be as follows:
- If GST becomes payable, or is paid without becoming payable, before July 1, 2006, the 7% rate will apply.
- If GST becomes payable on or after July 1, 2006, without having been paid before that day, the 6% rate will apply.
Special transitional provision will be provided for new residential housing, calculations for input tax credits, taxable benefit calculations and in other necessary areas.
The government will increase federal excise levies on alcohol and tobacco effective July 1, 2006 to offset the effect that the rate reduction will have on the taxes applied to these commodities. The excise tax adjustments will also apply to alcohol and tobacco inventories held on June 30, 2006.
GST Application on Debt Collection Services
This Budget confirms that debt collection services provided by collection agencies to financial institutions are not financial services for GST/HST purposes, and are therefore taxable.
Excise Tax on Jewellery
The Excise Tax applied on deliveries or importations of jewellery, clocks and articles made of semi-precious stones is repealed effective May 2, 2006.
Excise Duty Reductions for Vintners & Small and Medium Sized Brewers
Effective July 1, 2006 the first 500,000 litres of wine produced from 100% Canadian grown agricultural products will be exempt from Excise Duty.
Effective July 1, 2006 brewers will have reduced Excise Duties applied on their first 75,000 hectolitres of beer, provided they do not produce more than 300,000 hectolitres in a calendar year.
CORPORATE INCOME TAX MEASURES
Canadian-Controlled Private Corporations (CCPCs)
The “business limit” for the small business deduction will be increased from $300,000 to $400,000 effective January 1, 2007. In addition, the federal tax rate applicable to qualifying active business income of a CCPC will be reduced from the current 12% to 11.5% effective January 1, 2008 and to 11% effective January 1, 2009. These changes will be pro-rated for corporations with non-calendar taxation years.
General Corporate Income Tax Rate
The general corporate income tax rate will be reduced from 21% to 20.5% effective January 1, 2008, to 20% effective January 1, 2009 and to 19% effective January 1, 2010. The rate will be pro-rated for non-calendar taxation years. These rates do not apply to income already subject to special tax treatment such as small business income and the investment income of CCPCs.
Previous legislation eliminated the corporate surtax which equates to a 1.12% rate reduction for small and medium-sized corporations effective January 1, 2008. The Budget proposes to extend this measure to all corporations.
Non-Capital Losses and Investment Tax Credits (ITCs)
The Budget proposes to allow certain losses to be carried forward for 20 years instead of the current 10 years. The carry-forward period for ITCs will also be extended to 20 years from the current 10 years. This proposal will apply to non-capital losses, farm losses, restricted farm losses, losses applied under Part IV of the Income Tax Act (ITA), and ITCs earned for SR&ED. This measure will apply to losses incurred and credits earned in taxation years ending after 2005.
Large Corporations Tax (LCT)
Previous legislation eliminated LCT effective January 1, 2008. The Budget proposes to accelerate this elimination to January 1, 2006 subject to proration for non-calendar taxation years.
Corporations have been able to reduce LCT for the three previous and seven subsequent years by the excess of corporate surtax over LCT in a particular year. This will still be possible in the three preceding years based on a notional computation of LCT.
It is important to note that notwithstanding the elimination of LCT, the computation of taxable capital will still be relevant in connection with certain other provisions of the Income Tax Act.
OTHER BUSINESS INCOME TAX MEASURES
Apprenticeship Job Creation Tax Credit
The Budget introduces a tax credit which is equal to 10% of salaries paid to qualifying apprentices after May 1, 2006 to a maximum of $2,000 per apprentice per year. A qualifying apprentice must be working in a qualifying trade in the first two years of their provincially registered apprenticeship contract. Although unused credits are not refundable, they may be carried back three years and forward twenty years.
Capital Cost Allowance (CCA) Tools
Tools which cost less than $200 are currently eligible for the 100% CCA rate allowed by Class 12 (without regard to the half-year rule). Tools costing $200 or more are generally eligible for the 20% rate allowed by Class 8. The Budget proposes to increase the cost limit from $200 to $500 for tools acquired after May 1, 2006. In addition, the Budget clarified that electronic communication devices and electronic data processing equipment are not tools.
PERSONAL TAX MEASURES
Universal Child Care Benefit
The Budget introduced the Universal Child Care Benefit (UCCB) of $100 per month for each child under the age of six years. The UCCB will commence in July 2006. Although the UCCB will be taxable to the lower income spouse, it will not be included in income for purposes of income-tested benefits under the income tax system or for the claw-back of Old Age Security or Employment Benefits. It will also not reduce the amount of expenses claimable under the child care deduction.
The supplemental benefit under the Canadian Child Tax Benefit for children under the age of seven will generally be eliminated on July 1, 2006.
The November 2005 Economic Statement decreased the lowest tax rate from 16% to 15%, effective January 1, 2005. The Budget proposes to increase the rate to 15.5% effective July 1, 2006. The effective rate will therefore be 15.25% for 2006 and 15.5% for future years.
Changes to Tax Credits
The Budget continues to tinker with the basic personal amount and the spouse/common-law partner (SCLP) amount. These amounts for 2006 and 2007 are as follows:
2006 2007 Basic personal amount $8,839 $8,739 SCLP amount $7,505 $7,420
The Budget proposes a number of new tax credits commencing in 2006.
The Canada Employment Credit will be based on the lesser of $250 and the amount of the individual’s employment income for the year. In 2007, the base for this credit will increase to $1,000.
The Textbook Tax Credit will be $65 for each month a student is eligible to claim the education credit for full-time students and $20 for each month a student is entitled to the education credit for part-time students. Unused amounts will be added to unused tuition and education credits that can be transferred to a supporting person or carried forward to future years.
The Children’s Fitness Tax Credit may be claimed by either parent for up to $500 of eligible fees relating to the enrolment of a child under the age of sixteen in an eligible program of physical activity. Clarification of the definition of an “eligible program of physical activity” will be announced later. The amount claimed under this tax credit will not be eligible for the child care deduction.
Effective July 1, 2006, individuals will be entitled to a non-refundable Tax Credit for Public Transit Passes for the individual, the individual’s spouse or common-law partner and dependent children under the age of 19. The transit pass must be for a duration of at least one month. Public transit includes a bus, streetcar, subway, commuter bus, commuter train and a local ferry.
The pension income credit will be increased from $1,000 to $2,000 effective for 2006.
Flow Through Shares
The 15% Mineral Exploration Tax Credit for investments in flow-through shares has been reintroduced for agreements entered into between May 2, 2006 and March 31, 2007 for exploration that is conducted before December 31, 2008.
OTHER DEDUCTIONS AND EXEMPTIONS
The Budget proposes to fully exempt scholarships, fellowships and bursaries received by students who are entitled to the education credit commencing in 2006. Previously, only the first $3,000 was exempt from taxation.
Tradespeople will be entitled to a deduction, to a maximum of $500, for the cost of previously unused tools in excess of $1,000 acquired after May 2, 2006 if the tradesperson’s employer certifies that the tools are being acquired as a condition of employment. Adjustments will be made to the deduction currently available to apprentice mechanics to integrate this measure with the deduction already available. In addition, the employee will be entitled to a GST/HST rebate on the amount of the deduction.
Eligible tools will not include electronic communications devices or electronic data processing equipment. Rules will be introduced to reduce the cost of tools acquired by the amount of the deduction and to recapture the deduction if tools are sold for more than the reduced cost. The tools will be eligible for a tax-deferred transfer to a corporation in the future.
Currently, capital gains realized on the donation of publicly-traded securities and certain other securities such as mutual funds to charitable organizations and public foundations are included in income at a reduced inclusion rate of 25%. Effective May 2, 2006, the capital gains inclusion rate for donated securities will be reduced to zero. The donation receipt will continue to be issued for the full value of the securities donated. Similar adjustments will be introduced to increase the deduction for donated securities acquired under employee stock option plans, to eliminate the income realized on the exercise of the stock option.
The inclusion rate for the capital gain realized on the donation of ecologically-sensitive land will also be reduced to nil.
DIVIDEND TAX CREDIT
The Budget reiterates the previous government’s intention to introduce the new dividend gross-up and tax credit proposed in November, 2005. Under the proposal, dividends will be grossed up by 45% when included in an individual’s income. The federal dividend tax credit will be increased to approximately 19%. The intention is that an individual will be indifferent to receiving a dividend from a public company or receiving a fully taxable distribution from an income trust. The increased gross-up and credit applies to dividends from Canadian public corporations, other Canadian corporations that are not CCPCs, and CCPCs to the extent that income, other than investment income, is subject to the general corporate tax rate. Although a few additional comments were provided concerning this measure, most of the necessary specifics were not yet released.
Some provinces have agreed to harmonize with these proposals while others, including Ontario have not yet clarified their intentions.
These provisions provide opportunities to enhance after tax profits for business and to reduce the tax bite experienced by individuals. We would be pleased to assist you in assessing their impact and in developing plans to implement any changes that may be warranted to minimize your income tax expense.