An examination of the provincial income tax systems shows that they are far from uniform. And they are changing as fast as — or even faster than — the federal system.

At the heart of the changes is the provinces’ desire to remain very competitive as they work to lure new investments and new jobs. Quebec and Ontario often lead the way in innovative and attractive tax incentives for both investors and businesses, forcing the other jurisdictions to follow suit.

As a result, the opportunities for the investment community will continue to grow, providing it pays close attention to the details of each provincial program.

Because tax incentives are usually related to investments in the province by residents of that province, such investments lose their rationale when they cross borders and the tax breaks evaporate.

Some of the provincial tax incentives include tax credits for flow-through provisions for mining exploration and development expenses in the West, and for labour-sponsored investment funds. Investments in LSIFs attract tax credits in all provinces except Prince Edward Island and Alberta.

LSIFs, particularly, were introduced some years ago with specific expiry dates. Their success encouraged the provinces to extend these cut-off dates. As a result, each province now has a different ending planned, but extensions continue to be provided in the fine-print sections of budgets.

Newfoundland, P.E.I. and British Columbia also provide tax credits for residents who purchase shares of companies’ incorporated within their provincial boundaries. The oil-producing provinces use income tax credits or rebates to offset the effect of royalties on oil and gas production. Obviously, the benefits are not available to taxpayers outside those provinces.

The government of Quebec, which imposes and collects its own personal and corporate income taxes, provides the most extensive system of tax incentives.

Although all provinces provide some tax incentives to their taxpayers, the aim is always to limit the benefit to taxpayers and activities within each province’s borders. A careful review of provincial Web sites provides the basic information and contacts needed to explore the credits available to investors and to businesses.

Advisors may not be directly interested in the credits that are available to businesses for research and development, film production, labour training and manufacturing expansion. However, if the incentives are effective, the businesses become more attractive as investments.

In all cases, the provisions of provincial tax incentive programs are carefully defined and backed by legislation, regulations and interpretive publications. There is no substitute for obtaining professional legal and accounting advice if clients want to take advantage of the provincial variants, especially because the terms of the incentives and their expiry dates are constantly changing.

Details on the income tax rates in each province are available on the Canada Revenue Agency’s Web site. But advisors should look beyond those rates when undertaking planning. For example, not all your clients will have enough income to pay taxes at the top marginal rates, generally more than $118,000 in 2006. Also, taxpayers with lower incomes may be receiving the federal child tax credit and complementary provincial programs. Any additional income is not only taxable, albeit at lower rates under the income tax system, but also reduces the net benefit of the child tax credits. Therefore, the net return is lower than a simple calculation would indicate.

The proposed new dividend tax credit system may help relieve the overall tax burden on corporate income, but the mechanics can cause problems for individuals. The cash dividend is grossed up and will raise taxable income, which can actually reduce the child tax benefit.

In fact, there are a number of assistance programs that use the income calculated on the income tax form. For instance, the federal government supplements the national old-age security pension for seniors and widows with low income.

Additional income from investments can reduce the benefit even if there are no income taxes payable. Provincial and local support programs for seniors are also geared toward income, so even small amounts of additional income will reduce benefits. (For more about how the proposed dividend tax changes will affect seniors, see page B6.)

It is also important to remember that, for most taxpayers, their residence on the last day of December determines the province to which they must file their income taxes and, thus, the rates applicable to them. (See the accompanying table for the top marginal personal rates in the provinces and territories in 2006.)

@page_break@In the case of individuals who are carrying on a business or partnership in more than one province, there are special rules to allocate business income among the provinces and territories. But, in most cases, investment income is taxed by the province of residence as of Dec. 31. IE



David Perry is senior research associate at the Canadian Tax Foundation in Toronto.