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An economics lesson to start your year

January 2012
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This year, new corporate tax reductions take effect, reducing the federal corporate rate from 16.5% to 15%. The idea behind this, and a bizarre one, is that by allowing corporations to retain money by reducing taxes, they will increase spending the retained money. This is supposed to be an additional bonus by aiming this at corporations to allow them to spend more in times of financial instability.

While this sounds good, it probably results in the exact opposite of its intention. Remember how corporate taxes are based. Taxes are paid on the corporate revenues minus the allowable expenses. Those allowable expenses are things such as salaries and benefits, monies spent on expanding the company or those spent locally on parts, supplies, services, etc. In short, taxation, in a punitive form, serves as the encouragement for companies to hire employees, maintain a sustainable rate of growth and purchase materials and services relative to their business.

Shareholder dividends also fall under the heading of allowable expenses, so these too are not taxed at the corporate level. Rather, the individual recipients, should they be Canadian, pay personal income taxes on these as personal investment income.  Non-Canadian investors are a little more difficult to tax in this manner, since they should be declaring this income in the country of their own residence, where they will be taxed according to those rules.

Interestingly, I’ve taken two courses in accounting that stressed how to deal with corporate taxation. The first surprised me many years ago when the instructor, a chartered accountant, informed us that the first rule of running a small business is to make little or no profit. Huh? Basically, he stated, that profit is taxed so ensure, before fiscal year end, that you spend monies on supplies or new hires to prevent making a larger profit, and hence, paying more taxes. The second course, run by the Federal Business Development Bank, reinforced this by paying a great deal of emphasis on the same lesson.

So, what do lower corporate tax rates achieve? They certainly appeal to a fiscal conservative base that the government is “pro-business.” This throws a bone to this group since no Conservative federal government has been fiscally conservative since the first go round for Arthur Meighan. However, the result of this will encourage corporations to horde profits, rather than spend, particularly in the face of a probable EU recession and its effects on this side of the Atlantic. As for its planned result, expect higher unemployment and less investment as the year unfolds. Lower tax rates are the actual “job-killing” tax the Prime Minister told us to fear during the election campaign. The law of diminishing returns probably kicks in at some punitive level of taxation, but we had the lowest corporate tax rates in the G8 before this reduction applied.

Sadly, this is basic economics. Given a federal government led by someone with a Master’s degree in economics, the approach, similar to Reagan’s failed “trickle down” economics, is somewhat at odds with reality. Where is the planning and leadership we should see with potential economic instability? We should expect more from our government than paying lip service to one group to the detriment of the majority…

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