Finance Committee on May 28th, 2007

[Pat Martin, NDP, Winnipeg Centre, MB]

Very briefly, regarding the CLC brief, I'm very interested in the analysis of the 2007 federal budget by the Canadian Labour Congress.

The issue of foreign takeovers came up. I understand that today the leader of the Liberal Party is calling for a moratorium on foreign takeovers. For the last year, the NDP has been calling for such a moratorium. There were 11,500 takeovers under the Liberal regime. Not once did they find anything wrong with anything that anybody did in terms of foreign takeovers. Is that healthy for the economy?

[The Chair, Conservative, Brian Pallister]

You'll have to give a very brief answer there, Mr. Weir. I'm sorry, but Mr. Martin, as has become customary this afternoon, has used his time in preamble.

[Erin Weir]

The Canadian Labour Congress sent a letter to the Prime Minister recently making the argument that there should be thorough and rigorous reviews of these foreign takeovers, which certainly hasn't happened under this government or the previous one, as he suggested.

[The Chair, Conservative, Brian Pallister]

Mr. McKay, sir, you have four minutes.

[John McKay, Liberal, Scarborough—Guildwood, ON]

Thank you.

That was an incredible demonstration of Mr. Martin's and the NDP's tax literacy, I appreciate. The only thing I agreed with him on was that it was hard for him to understand.

[Some hon. members]

Oh, oh!

[John McKay, Liberal, Scarborough—Guildwood, ON]

Let me go back to Mr. Kesteven. In the dummied-down version, why is it that the moves by this government will actually end up creating not only tax leakage but tax hemorrhaging for an entire industrial sector?

[George Kesteven]

What's happening, and we're starting to see this emerging already in the capital markets, is that as valuations have been taken down 20% or 25%, the assets start looking pretty cheap. There's a lot of capital out there, particularly from the private equity side of the market—foreign private equity. What they will do is come in and set up a corporation with a debt structure that allows them to create an interest tax shield. In other words, they get to deduct the interest costs attached to the debt financing they use to buy the income trust. In that way, they accomplish the process of acquiring the assets, acquiring control of the entity, without paying any corporate tax.

That's what's starting to occur. We're starting to see it take place. This is what happens when you see a fiscal regime suddenly jolt into the capital markets and cause a valuation shock. That's what we're seeing over the last six months.

[John McKay, Liberal, Scarborough—Guildwood, ON]

In effect, it's the creation of the perfect storm, because by depressing the value, you make the Canadian income trust sector cheap. Meanwhile the Americans look at it and say: oh, it's bingo time; let's go and buy these guys. They load up on the other end of the spectrum, using debt in order to be able to do so, and kill the tax.

[The Chair, Conservative, Brian Pallister]

Just for clarification, then, is there something stopping a Canadian group from getting together and buying an income trust, using the same write-off of interest charges to create a no-profit method? Is there some restriction on Canadians' doing this?

[George Kesteven]

There's nothing to prevent them from doing so, but there aren't Canadian buyers to the same degree. Keep in mind that the U.S. capital market is many multiples the size of the Canadian capital market. We don't have the depth here to be able to buy up all of these companies.

[The Chair, Conservative, Brian Pallister]

Okay, so you're suggesting that a lack of capital in Canada for potential investment reduces the likelihood that a Canadian ownership structure would be created as a result of the change. Is that right?

[George Kesteven]

Right. That's also—

[The Chair, Conservative, Brian Pallister]

I'm sorry, John. Go ahead.

[John McKay, Liberal, Scarborough—Guildwood, ON]

When you see the gutting of your market and the incredible shrinkage of your capital base—surprise, surprise—you can't get involved in any of these new regimes; and when you have legislation by press release, as Mr. Conway indicated, you don't know the road map. You don't know where you're going for the next four years, so how can you possibly be responsible to your unitholders and acquire, let alone expand, your business?

Is that a fair comment?

[George Kesteven]

That's exactly it. It's very difficult to maintain your fiduciary duty to your unitholders when you have a very unstable fiscal regime, which is what we're facing right now.

[John McKay, Liberal, Scarborough—Guildwood, ON]

We put forward—the Liberals in conjunction with the Bloc—a phase-in period. We're politically realistic, but our theory was that it would bring back two-thirds of the capital market, using our idea. In the Bloc proposal, it's a ten-year phase-in period.

What would your reaction be to this disastrous economic policy-making by this government?

[George Kesteven]

Clearly the 31.5% tax is designed to eliminate the sector, whereas the alternatives we've heard would either allow for adaptation over ten years or would allow...and I'd never advocate for higher taxes, but that's the way it goes. Certainly the 10% would allow the sector to survive; we wouldn't be eliminated as a sector. The vehicle would continue.

Going back to what Mr. Martin said, if I may for one moment, in line with what you're saying, Mr. McKay, the capital markets are demanding an income vehicle. That's why you're seeing such a level of interest. That, quite frankly, is why this issue won't go away. You have 2 million to 2.5 million Canadian unit holders who hold these units, many of them retirees, who need the income stream to supplement their income. That's the capital market's objective. It's gone away from capital gains to wanting an income stream.

It's because of that demand that there's this degree of interest.

[John McKay, Liberal, Scarborough—Guildwood, ON]

Oh, but they have pension splitting now. I'm sure they're thrilled about that.

[George Kesteven]

Based on the reaction I've had, certainly in my day job, that's not going to offset the losses that people have incurred in their capital in terms of the income trusts.

[John McKay, Liberal, Scarborough—Guildwood, ON]

If there were a ten-year phase-in period, would you predict a rebound in the capital market?

[George Kesteven]

Yes, I would suspect we would see some rebound in the capital markets, because it would allow for adaptation as opposed to destruction. Clearly, though, within that ten-year timeframe, we'd need clarity.

[John McKay, Liberal, Scarborough—Guildwood, ON]

Thank you.

[The Chair, Conservative, Brian Pallister]

Just on a side issue, Mr. Kesteven, but it is an issue that concerns a lot of us, the nature of a lot of the investors who put their money into income trusts, we at this committee heard testimony from a number of witnesses who did that.

I'm a chartered financial consultant by background, and it's clear from just a cursory questioning of the witnesses that they're low-risk investors, that they had no business being, frankly, in income trusts, or at least to the degree they were, numerous were, 100% in income trusts. I think this has compounded some of the heart-breaking testimony we've heard. Do you want to comment on that?

I come from that industry, so I'm saying I don't think we're entirely lily-white in the investment industry in the sense that many Canadians who lost money, at least in the short term, on the income trust downturn following the announcement did so as a consequence of a disproportionate percentage of their investments being put into something that they took to be low risk. You alluded to them wanting to have a higher return. Everyone wants a higher return, of course. Do you want comment on that?

[George Kesteven]

Absolutely. Obviously there are bad financial advisers out there, and there are good ones. I'm not going to sit here and say that the investment community is lily-white on this either, but it is important to note that the government intervened and broke a promise here.

We have people I know of who invested in the company I work for because they believed Stephen Harper's promise not to tax income trusts. So they believed, going ahead, that would be fine, that there would be no adverse fiscal regime changes, and there have been.

To quote one of my investors, “Gee, I guess I wouldn't have been screwed so badly by the government if only I'd diversified more.” I think that's the summary feeling that's out there.

Sure there are cases where probably people held too high-risk a portfolio, too high a proportion. I'm not going to deny that. But by the same token, there was a sudden sea change in the fiscal regime, contrary to the government's own promise.