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Provincial Treasurer

Second Floor South, Shaw Building 95 Rochford Street P.O. Box 2000

Mitch Murphy



C1A 7N8

Dear Minister Murphy:

Re: Canadian Bankers Association


Box 348, Commerce Court West 199 Bay Street, 30th Floor




Canada M5L 1G2

Lindsay Williams

Director, Ontario and Atlantic Region

(416) 362-6093

Fax: (416) 362-8465



Ext. 224

March 3, 2006

for PEl Budaet 2006

On behalf of the members of the Canadian

Bankers Association

(CBA), we are pleased

to present our 2006 pre-budget

following comments


and recommendations

We appreciate the opportunity

to provide the

of the banking industry, which we believe will

promote greater prosperity for Prince Edward Island.


We commend the government for PEl's fiscal progress to date, including the steps taken to eliminate the deficit, control program spending and raise additional revenue through consumption taxes. We also appreciate your government's attempt to balance important PEl priorities such as health care, education and jobs, with the need to achieve fiscal sustainability and a balanced budget. By adopting prudent fiscal measures now, your government is creating a solid foundation for increasing prosperity, to ensure PEl is well-positioned to meet the challenges that lie ahead.

In our view, the best way to ensure that the government has a sustainable source of revenue to finance those programs that are important to the province and all Islanders is to create a competitive tax regime.

About the Canadian Banking Industry

The CBA is a professional industry association, which provides information, research, advocacy, education and operational support services to its members, the chartered banks of Canada, as well as to Canadians through its website and free publications. The CBA's mission is to be a

leading contributor sector.

in the development

of public policy on issues that affect the financial services

The Canadian banking industry is one of the strongest industries in Canada. It creates wealth for Canadians by serving as an important intermediary between savers and investors on one hand, and borrowers and entrepreneurs on the other. By providing access to capital for businesses of all sizes as well as Canadian households, the industry serves as a crucial catalyst for economic growth.

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Paid By Canadian Banks

Canada's banks paid over $7.6 billion in taxes to Canadian governments in 2004 ($9.0 billion


including almost $2.6 million in capital taxes. The treasuries of Canada's governments benefited

from the banking industry since 85% of the taxes paid by Canada's banks went to Canadian governments, while only 73% of the banks' earnings were generated in Canada.

In PEl, the largest six Canadian banks paid almost $7.5 million in taxes in 2004,

The size of the industry's tax bill underscores the important contribution that banks make to Canadian governments' ability to meet their expenditure requirements. In fact, the banking industry pays more in taxes than any other industry in Canada. The CBA's members paid more in annual corporate income taxes than the total annual corporate income tax bill for the oil and gas, construction, real estate and insurance industries combined.1

Other Banking Industry Contributions

The Canadian banking industry employs almost one quarter of a million people in Canada and over 500 in PEL While the banking industry represents 0.81% of all employees in PEl, the banking sector generates 2.3% of the province's GDP.2 To support our employees and to improve continually the quality of the service we provide our customers, Canada's banks invest over $1500 per employee per year in training.




banks provided almost $189 billion in consumer credit last year and Canadian

currently benefit from almost $368 billion in outstanding banks.


mortgages from

Canadian banks provided over $760 million in consumer credit to Islanders in 2004 and PEl households currently benefit from almost $1 billion in outstanding residential mortgages from Canada's banks. The banks also provided nearly $1 billion in authorized credit to over 4,800 PEl businesses in 2004, most of which were small and medium-sized enterprises.

Further, Canadian banks donated more than $125 million to Canadian charities in 2005, of which over $500,000 went to PEL In fact, there has been a three-fold increase in banks' charitable donations since 1995.

And finally, Canadians are more than just bank customers, they are bank owners. Through their pension plans and other investments vehicles, Canadian bank shares are widely held by many Canadians as noted is some examples below.

Canadian Pension Plan (2005)

Nova Scotia Teachers' Pension Plan (2003)

Ontario Municipal Employees Retirement System (OMERS - 2004)

Local Authorities

Pension Plan - Alberta (2001)

British Columbia Investment Management Corporation (2005)

Caisse de depot et placement du Quebec











1 Financial

and Taxation

2 Data





for Enterprises,




















Tax Competitiveness

There is no question that the PEl government will continue to face difficult challenges as it restores the fiscal health of the province. Over the coming years, the CBA believes it is critical for the government to encourage employment and investment growth, in order to ensure a strong economy and broad tax base to support future expenditure obligations (Le., health care and education in particular).

We believe that a strong fiscal position, including balanced budgets and debt repayment, will provide the foundation for improving the province's economic position, if the government reduces the tax load borne by PEl households and businesses.

The CBA's key message to the government

more competitive. Lower taxes stimulate long-term economic growth by increasing investment,

employment opportunities,

is: Take the next step to make PEl's tax regime

which ultimately strengthens

the province's

and new technology,



and an ongoing assurance that there will be sufficient revenue for the province's future needs.

Moreover, given the nature and relative size of Canadian

rates need to be comparable,

if not lower than other jurisdictions

A broader tax base provides the government

with the revenue it requires in the short-term

markets, combined federal and PEl tax

in order to be competitive.

An uncompetitive tax regime undermines the long-term economic health of a jurisdiction. It sends a signal to would-be investors (both those who might expand their operations and those who might make an initial investment in PEl) that PEl is not, as it were, open for business. This leads to a loss of existing and new investment, including employment opportunities, new technology and expertise, and a reduced access to capital.

In addition to having a negative impact on investment and employment growth, uncompetitive taxes weaken the tax base that governments rely on for revenue. Fewer businesses and fewer PEl workers make it more difficult for the government to fund necessary and important investments in health care, education and infrastructure to improve Islanders' standard of living.

We therefore recommend that PEl reduce its business taxes to create a competitive tax regime.

This will lead to increased capital investment,

more employment,

improved productivity and


and ultimately, a stronger economy.


Income Taxes

The current PEl general corporate income tax (CIT) rate of 16% is one of the highest in Canada. This high CIT rate has a particularly negative impact on the PEl economy because the most competitive tax regimes in Canada with significantly larger markets have considerably lower CIT rates. For example, the general CIT rates in British Columbia, Alberta and Quebec are 12%, 11.5% and 9.9% respectively.

The CBA has found that there is a direct correlation between competitive

tax regimes and


growth in the banking sector.

For example, between 1999 and 2005, bank


has increased

in more competitive

tax regimes - + 9.3% in Alberta, +5.2% in British

Columbia and +2.7% in Quebec - while bank employment

has decreased

by 5.3% in PEL

Clearly, the PEl government In particular, we recommend

minimum, a schedule of reductions

needs to act now to create a more competitive

business tax regime.

reductions to the general CIT rate as soon as possible, and at a

to make this tax more competitive with other Canadian








The CBA encourages the PEl government to reduce the general CIT rate as soon as


competitive with other Canadian jurisdictions.

and at a minimum, introduce scheduled


to make this tax more



Annual capital taxes are almost a uniquely Canadian phenomenon that undermine investment, and in turn employment, because these taxes are profit insensitive. In the banking industry, capital taxes are a direct tax on employment to the extent that salaries and wages of our employees are required to attribute capital. Moreover, capital taxes are particularly punitive to our industry since our members are compelled by regulation to hold high levels of capital to support the safety and soundness of the financial system and then are taxed for doing so.

A highly regarded study - the C.D. Howe Institute's 2005 Tax Competitiveness Report3 - noted

that Canada has the second highest effective tax rate on capital among 36 industrial and leading developing countries. A lesser known finding of that study is that Newfoundland, Nova Scotia and New Brunswick have the lowest effective tax rates on capital in Canada at 20.1%, 28.1%

and 22.5% respectively. Prince Edward Island, however, ranks in the middle of the pack with a marginal effective tax at 37.1%. Another study by the federal Department of Finance estimates that a one-per-cent-of GDP reduction in revenue from cutting the cost of new capital would increase steady state GDP by 4.39 per cent, and concludes that capital tax cuts are more

beneficial to the economl

than reductions in wage and consumption taxes.

While we commend the PEl government for recognizing the negative implications of capital taxes

and for eliminating this tax on general corporations, we are concerned that the capital tax on financial services firms has continued and that the government increased this capital tax from 3%

to 5% in its 2004 Budget. This creates a very significant economic distortion by singling out the

financial sector for a higher, more punitive rate of taxation.

Moreover, the CBA strongly believes that every government's fiscal policies should strive to achieve a level playing field within an industry sector and across industries. Economic distortions such as subsidies and targeted taxation measures are detrimental because they cause an inefficient allocation of resources and serve to dampen overall growth even if certain businesses or industries are (artificially) supported. Punitive tax measures that target specific industries or specific sectors within an industry send a very strong and negative signal to potential investors.

For these reasons, one of our main budgetary concerns in PEl today is the elimination of the capital tax levied against the financial services industry. We encourage the PEl government to

recognize the negative implications

capital tax on financial institutions as soon as possible.

of capital taxes for all industry sectors and eliminate the



The CBA recommends the elimination of the financial sector capital tax as soon as this is feasible, in order to create a more competitive tax regime in PEL At a minimum, we recommend a schedule of reductions to achieve the elimination of this tax.

3 J. Mintz et al., The 2005 Tax Competitiveness

September 2005

4 M. Baylor and L. Beausejour, Taxation and Economic Efficiency: Results from a Canadian CGE Model, Department of Finance Working Paper 2004-10, November 2004

Report: Unleashing the Canadian Tiger, C.D. Howe Institute Commentary,


Tax Neutrality - Income Trusts vs. Corporations

The CBA believes that Canadian

investors are sophisticated

and therefore,

Canada needs an

integrated tax system to prevent investors from shifting to tax-favoured


A neutral

tax system puts investors and businesses on a level playing field, and benefits the economy by allowing for an efficient allocation of resources.

The CBA also supports the corporate structure and the income trust structure as effective

financing vehicles for certain companies. While the corporate structure may be best suited to

growing businesses,

mature stage of development.

companies and lowers the cost of capital. The income trust structure also provides an alternative to the common equity IPO for launching small companies into the public marketplace. We are of the view that both business structures should exist and that similar regulatory obligations should be applied to these entities. Like the federal government, we believe that the tax system for these investment structures needs to be neutral and efficient, to ensure decisions concerning corporate structure are based on financial, economic and other business factors, and not on tax arbitrage considerations.

in the more

income trusts are an effective financing

structure for companies

The income trust option widens the pool of investors to these

We appreciate the Liberal and Conservative government proposals at the federal level to move to a level playing field in terms of the tax treatment for income trusts versus corporations. In particular, we commend the federal politicians for their proposals to eliminate the "double taxation" of corporate dividends in the hands of investors. Unfortunately, the federal proposals will only be fully effective once the federal corporate tax rate is reduced. Until then, the reduction in the tax on dividends only partly restores tax neutrality. More importantly, however, the federal proposals will only be fully effective if provinces also undertake reductions in their tax on dividends through an increase in their dividend tax credits. Moreover, given the way in which provincial taxes are calculated, the failure of provinces to increase their dividend tax credits in light of the federal measures could actually increase the tax on dividend income.


are released, the PEl government take the necessary steps to ensure that overall tax neutrality (Le., the federal and provincial taxes combined) in the treatment of corporate and income trust income is enhanced by making the appropriate changes to its dividend tax credit.

the CBA strongly recommends

that, once the technical details of the federal proposal



The CBA recommends that the PEl government increase its dividend tax credit, thereby reducing the tax on corporate dividends, to enhance overall tax neutrality in the treatment of corporate and income trust income.


The PEl government faces a number of important fiscal challenges. Perhaps the single most important challenge is to ensure economic growth while continuing to manage the province's finances in a prudent and responsible manner. A strong economy and broad tax base will ensure the necessary revenue base to fund important programs and services to improve Islanders' quality of life.

More specifically, the CBA encourages the government to make its business tax regime more competitive in three ways. First, we encourage the government to reduce the general CIT rate as soon as possible, and at a minimum, introduce scheduled reductions to make this tax more

of the

financial sector capital tax as soon as this is feasible, and at a minimum, a schedule of

competitive with other Canadian jurisdictions.

Secondly, we recommend

the elimination

reductions to achieve the elimination of this tax. And finally, we recommend that the PEl government increase its dividend tax credit, thereby reducing the tax on corporate dividends, to enhance overall tax neutrality in the treatment of corporate and income trust income.

We believe these measures will create a more competitive

beneficial for all businesses.

employment, and ultimately, strengthen the province's tax base. The current and future fiscal

plan of the government depends upon a strong tax base and a strong economy.

tax regime in PEl that is fair and

lead to increased investment

Such measures will undoubtedly


Please do not hesitate to contact me if you have questions further detail.

or wish to discuss our comments