U.S. tax reform could imperil Canadian advantage

U.S. tax reform could imperil Canadian advantage
Both Gary Doer, former Canadian ambassador to the U.S. (left), and Gordon Giffin, former U.S. ambassador to Canada, say Trump may accuse Canada of manipulating its currency to unfairly favour exports | Nelson Bennett

To date, most of the hand-wringing in Canada’s business community over the prospect of a Donald Trump White House has been over trade with the U.S.

But an expert in cross-border taxation and accounting says Canadian businesses and governments should also pay attention to Trump’s tax reform policies, which could make Canada less attractive to companies like Microsoft (NASDAQ:MSFT), which has built up a substantial presence in Vancouver.

It could also trigger an outflow of talent from Canada to the U.S., which would have a much more competitive personal and corporate tax environment.

Although the Trans Pacific Partnership (TPP) appears to be dead on arrival, a former American ambassador to Canada said he thinks there is a chance Canada could get a softwood lumber agreement signed.

And even if Trump decides to withdraw from the North American Free Trade Agreement (NAFTA), former Canadian ambassador to the U.S. Gary Doer points out that the Canada-U.S. Free Trade Agreement is still there as a default trade agreement.

However, no matter how those trade negotiations go, Canada should be prepared to take some heat over the Bank of Canada’s monetary policies. Canada could be vulnerable to allegations that, like China, the country manipulates its currency to favour its own exports.

“The biggest problem with the lumber dispute is the value of the Canadian dollar,” Gordon Giffin, former American ambassador to Canada, told a sold-out crowd at a talk on dealing with Trump.

“When the value of the Canadian dollar is up over 80 or 85 cents, you don’t hear a lot of noise about [Canadian] softwood lumber. When you get the value of the Canadian dollar down around 75 cents or less, you [then] hear a lot of noise about softwood lumber,” said Giffin at the November 18 event sponsored by the Greater Vancouver Board of Trade.

Trump has singled out China as a currency manipulator, but both Doer and Giffin said Canada could face similar charges when discussing trade.

Last week, Trump listed his priorities for his first 100 days in office. Among them was withdrawing from the TPP. He did not mention NAFTA.

Softwood lumber is not part of NAFTA – it was specifically excluded at the request of the Canadian government. That means it’s possible Canada and the U.S. could get a new softwood lumber agreement signed before Trump gets around to NAFTA – possibly even by the time he is sworn in as U.S. president on January 20.

“I don’t totally object to the idea that there could be some deal struck between now and January 20,” Giffin said. “It’s not an issue that the Trump administration, I think, would desperately want to have postponed till they take government so they can grapple with it.”

He pointed out the U.S. lumber lobby is strongest in the American Southeast, whereas it was the Midwest that elected Trump.

Trump wants a “hardhat” economy that is strong on job creation and construction, and access to low-cost Canadian lumber is part of that equation.

“I would focus on the fact that there are a lot of people who are trying to buy homes in the Midwest, and a lot of people that build homes in the Midwest that don’t really care what somebody who grows trees in Alabama and Mississippi and Georgia think,” Giffin said.

Another dynamic at play is that a number of the sawmills now producing lumber in the American Southeast aren’t American – they’re Canadian.

In recent years, B.C.’s three biggest forest companies have been on a buying spree acquiring American mills, to the point where they now own more American than Canadian mills.

Trump’s plans for tax reforms could result in some interesting accounting challenges for those companies, and for American companies like Microsoft with operations in Canada.

Both Trump and some Republicans want to see corporate taxes lowered, and that could have an impact on Canadian businesses, said Steven Flynn, a partner at W.L. Dueck and Co. LLP, a cross-border taxation and accounting consulting firm.

The plan includes lowering the corporate tax rate from 35% to between 15% and 30%.

“That alone, that’s much more competitive around the world and certainly on par if not lower than what Canada’s corporate tax rates are,” Flynn said.

Canada’s personal taxes are higher than in the U.S., but its corporate taxes are lower. Canada’s combined corporate tax rates top out at 26%, Flynn said. The upper rate in the U.S. is 35% for federal taxes. That’s not including state taxes. On average, it comes out to around 40%, Flynn said, depending on the jurisdiction.

“If the Republicans are successful in doing something here, you could have a situation where both the corporate tax rate and the U.S. personal tax rate are lower than Canada’s,” Flynn said. “If there’s tax reform in the U.S., I think it changes how Canadians are going to invest in the United States.”

A number of B.C. companies have U.S. operations, including its three largest forestry companies. MacDonald Dettwiler and Associates Ltd. (TSX:MDA) also has American operations.

Flynn said international companies typically try to maximize their earnings in the countries where tax rates are lower. To date, that would mean Canadian companies with American operations would try to retain as much earnings as possible in Canada, where corporate tax rates are lower.

“If U.S. tax rates are lower, that may flip things the other way,” Flynn said. “It may mean that some company that was trying to put all of its profits in Canada before, now it’s all in the U.S. That has a very different impact for our government.”

Trump plans to fund some of his tax cuts by encouraging American companies to repatriate capital. He has floated the idea of offering them a one-time tax rate of 10% on repatriated capital.

Silicon Valley companies have set up in places like Ireland, which has very low corporate income taxes. A number of high-tech companies like Microsoft have also set up branches in Vancouver, mostly to gain access to tech talent.

Asked if he thought Trump’s repatriation offer could lure some of those companies back to the U.S., Flynn said, “I think it’s very possible.”

Jock Finlayson, chief policy officer at Business Council of BC, agrees American tax reform could be bad for Canada. He fears new business investment will flow to the U.S. instead of Canada in a range of sectors, including energy, manufacturing and software. And lower personal taxes could result in a drain of professionals.

“It is not hard to imagine that tax-rate differences of this magnitude would trigger an outflow of well-paid managerial and professional talent from Canada, and also encourage more ambitious entrepreneurs to immigrate to the U.S.,” Finlayson said. 

nbennett@biv.com

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