The Cheap Way to Compete for Jobs

In 1998, the blue-ribbon Technical Committee on Business Taxation chaired by Jack Mintz completed an extensive review of corporate taxation. Its report noted major disparities in the tax burden between industries, and highlighted the particularly onerous load weighing down the service sector – the source of most new jobs in the knowledge economy.

It also showed how Canada’s tax competitiveness could be improved dramatically even on a revenue-neutral basis. But the federal government promptly put the question of corporate tax reform back on the shelf and has yet to signal any real interest in moving forward.

In a recent follow-up study for the Business Council on National Issues, Mintz found that while Canadian reform proposals languish in limbo, other countries have seized on corporate tax cuts as the key to attracting investment, boosting economic growth and creating jobs.

With the notable exception of the United States, most industrialized countries have been slashing corporate income tax rates. Over the past four years, the average rate among the 29 member countries of the Organization for Economic Co-operation and Development (OECD) has dropped by almost three percentage points – and it will continue to fall. Germany, France, Poland and Ireland all have announced further tax cut plans.

Even after accounting for the differences in corporate tax structure, Canada is dropping rapidly to the back of the pack. In 1996, Canada’s effective tax rate was comparable to or below most G-7 countries for manufacturing and third highest for services. Canada now has the highest effective rate in the G-7 for services, and even its manufacturing rate is set to move from third highest to second highest by next year.

‘One cannot help but be overwhelmed by the rapid changes that are now occurring to improve business tax systems throughout the world,’ said Mintz, who is now President and CEO of the C. D. Howe Institute.

Given the global trend, Canada faces a real risk of losing both business and revenues if it maintains its high rates and complex structure, he concluded. ‘Canada cannot wait several years to review business taxation. Although it is important to reduce the politically unpopular personal taxes, it is the business tax system that creates the greatest leverage in improving productivity and growth of incomes in Canada, as other countries such as Ireland have found out.’

Indeed, the Irish experience demonstrates that cutting corporate tax rates can pay off for governments in more ways than one. Almost a decade ago, it slashed taxation of manufacturing and financial service income to just ten percent. Since then, Ireland has reported the highest growth in per capita income in the OECD. Its unemployment rate has been cut in half. Its perennial brain drain has been reversed. And it is now planning to cut the general corporate tax rate from 28 percent to just 12.5 percent, while eliminating its current preferential rates.

Corporate Tax Rates chart

Does giving corporations a tax break mean that other taxpayers have to make up the difference? Not at all. Even though Ireland’s average corporate income tax rate is less than one third of Canada’s, that country collects more corporate income tax revenue as a percentage of GDP.

There is no guarantee that lower rates in Canada would be fully offset by increases in reported profits. But even without such an impact, Canada could cut its corporate tax rates substantially at very little cost to the treasury. By broadening the tax base and simplifying its structure, Mintz estimates that Canada could drop its general corporate income tax rate from 43 percent to just 30 percent at a net cost of about $2 billion.

By contrast, a $2 billion reduction in personal income taxes would be equivalent to an across-the-board rate cut of a little more than half of one percentage point or a low-income tax rate cut of one percentage point.

Canada cannot hope to match personal income tax rates in the United States in the near future. On the other hand, Mintz suggests that Canada could use corporate tax cuts to make itself significantly more attractive to the businesses that can create the leading-edge opportunities needed to keep more of our best and brightest minds employed at home. ‘Instead of simply matching the United States, Canada should adopt a strategy of creating a competitive advantage through its business tax policies.’

In last month’s Speech from the Throne, the federal government acknowledged the real and present danger that Canada could lose many of its head offices and strategic assets, but pledged merely to ‘modernize legislation to make it easier for global corporations to locate their headquarters in Canada’.

If the government truly wants to attract global head offices and other high-value corporate activities, no policy could have a more immediate and profound impact than a dramatic shift to lower and simpler corporate taxes.

Canada has a unique opportunity to gain a real edge over the United States in attracting investment and creating high-paying jobs. But unless it moves quickly, it will have chosen by inaction to continue falling behind the rest of the world, and all Canadians will pay a stiff price indeed.