Published in the Financial Post on December 7, 2012
By Adam Found and Peter Tomlinson
Provincial business property taxes are a major tax cost for businesses — especially in Ontario. If Ontario’s government included its business property tax in its measures of tax competitiveness, it would be powerfully motivated to extend business property tax relief more deeply than it has to date.
Ontario’s business property tax is called the business education tax (BET). It became a provincial tax 15 years ago when the province took over taxing power from school boards. Since then, the provincial government has implemented modest BET relief, partially equalizing a wide range of legacy tax rates left by school boards.
However, the BET rate on new construction remains almost six times the provincial residential education tax rate, so it’s no wonder that new investment tends to go into residential housing rather than new plant and equipment, growth and jobs.
To its credit, Ontario has delivered relief from other business taxes, for example the capital tax (now eliminated entirely) and the corporate income tax (now substantially reduced).
Why have BET cuts not been deeper? It might be the exclusion of the BET from the provincial government’s reported effective tax rate on new business investment, identified in budgets as the marginal effective tax rate (METR) on new investment — a touchstone to gauge the effectiveness of tax reforms.
This variable is the basis for provincial and international comparisons of taxes on investment, and estimates of it figure prominently in recent Ontario budgets — an example other provinces should follow.
High federal and provincial taxes on capital investment reduce the number of investments that businesses undertake, so there is a good case for tax-policy choices that reduce these taxes. However, effective tax-rate estimates should not exclude the BET — or any tax that investors pay — without a compelling rationale for the exclusion.
There is such a rationale in the case of municipal property taxes. Because municipalities have only the property tax, there is a direct link between the tax and the benefits of local services to businesses. In contrast, while provincial services do benefit businesses, investors cannot associate these benefits with any particular tax.
With the provincial takeover of education property taxes, the BET’s link to school spending was severed and it became a pure tax on investment, like the former capital tax, rather than a tax directly associated with any services delivered to anyone.
When we include the BET in a model of Ontario’s effective tax rate on new investment, we estimate that the actual rate, as perceived by businesses and their investors, is about 40% higher than official government estimates.
The BET’s substantial impact on Ontario’s tax environment lends strong support to the case for parity between business and residential education tax rates. If parity were achieved, the BET’s negative impact on investment would be much smaller. Even an announcement that rate parity was to be achieved in 15 years would immediately reduce the negative impact of the BET, owing to the announcement’s effect on investor expectations.
Action is also required at the federal level, where the Finance Ministry estimates METRs for each province, and so far excludes provincial business property taxes. The ministry should as soon as possible extend its estimates so that each province’s METR can be considered with and without these property taxes.
Compared with Ontario, our own estimates suggest that the BET in British Columbia has a somewhat smaller impact on that province’s effective tax rate on investment, while Alberta’s BET has a substantially smaller impact.
Currently, the Ontario government has put all tax cuts on hold pending elimination of its deficit. The government plans to resume cutting both the corporate income tax and the BET once the budget is balanced — something it says will happen in 2018. After 2018, if the BET is included in effective tax rate estimates, BET reductions will likely be much deeper than they have been to date.
Adam Found is a Ph.D. candidate and Peter Tomlinson is a sessional lecturer in the Department of Economics, University of Toronto. Their recent C.D. Howe Institute study is available at www.cdhowe.org
