On January 27, 2009, the Minister of Finance – the Honourable James Flaherty – presented the fourth budget of the current Conservative government. The budget was titled “Canada’s Economic Action Plan”, and stressed a number of themes, including:

  1. Improving access to financing and strengthening Canada’s financial system;
  2. Stimulating spending;
  3. Stimulating housing construction;
  4. Building infrastructure;
  5. Supporting businesses and communities.

The budget pivoted around the economic crisis that Canada is facing. Stimulating the economy was highlighted in virtually every aspect of it. The government’s main message is that it is making a deliberate choice to run a substantial short-term deficit (5 years) in order to protect the economy and invest in future growth. Furthermore, recognizing that the slowdown is global, the Government is acting in concert with other industrialized nations.

The following summary features certain highlights of the 2009 Budget, with an emphasis on those areas that would be of greatest interest to clients of Borden Ladner Gervais LLP. This bulletin also provides some political commentary and predictions for the remainder of the year. All predictions should be taken with a huge grain of salt, as Canada and the world try to steer through unchartered waters.

Economic Forecast

Based on private sector forecasts, the Government announced it is expecting the Canadian economy to shrink by 0.8% in 2009. Economists are expecting a sharp decline in the first half of the year. Growth in the GDP, albeit small, will return in the second half of the year. Hopefully, by the beginning of 2010, people will be able to feel that the worst of this economic downturn is over. Unemployment, based on private sector forecasts, is predicted to rise from an average of 6.1% in 2008 to 7.5% in 2009, and to 7.7% in 2010. These are modest job losses, compared to what occurred in the early 1980’s and 1990’s. However, January’s drop in unemployment, by 130,000 full-time jobs, was far worse than the decline expected of 40,000 jobs. If this “worse than expected” trend continues, the Government’s assumptions could prove wrong from the outset.

The Conservatives can only hope that January’s horrible unemployment numbers are offset by more positive economic news over the next few months. Political salvation will only come for Prime Minister Harper and the Conservatives, by year-end, if the economy starts to turn around.

The Government is projecting a budget deficit of $34 billion for the next fiscal year, and $30 billion the year after that. By 2011, the government projects that the deficit will fall to $13 billion and further to $7.3 billion by 2012. It forecasts a full recovery, returning to a surplus position within five years – the surplus is expected to be $700 million by 2013.

BUDGET MEASURES (WE ARE ALL KEYNSIAN NOW)

The Government noted that the world is passing through an extraordinary time. Canada has officially entered a recession. The Budget announced an Economic Action Plan based on three guiding principles – that stimulus is required and that it should be 1) timely, 2) targeted, and 3) temporary. In order for the Canadian Government to stimulate the economy and, hopefully, work its way out of recession, it has taken extraordinary spending and tax relief measures. Those measures include implementing a $20 billion tax reduction for Canadians and businesses, enhancing benefits and training opportunities for Canadians affected by the economic slowdown, and undertaking the most ambitious infrastructure project in Canada’s history. The size of these measures would have been unthinkable six months ago.

Personal Income Tax Initiatives

The Conservatives continue to focus on their long-standing commitment to tax reduction. Budget 2009 announced $20 billion in new personal income tax relief over the 2008-09 year and the following five fiscal years. The measures included:

  • Increasing the basic personal amount and each of the top of the two lower personal income tax brackets by 7.5 per cent above the 2008 levels;
  • Raising the level at which the National Child Benefit supplement for low-income families and the Canada Child tax Benefit are phased out, providing a benefit of up to $436 per year for families with two children;
  • Doubling the tax relief provided by the Working Income Tax Benefit to encourage low-income Canadians to find and retain a job; and
  • Providing tax savings for up to $150 a year for seniors by increasing the Age Credit amount by $1,000.

Business Initiatives

The budget highlights that global credit markets remain seriously disrupted, with credit conditions remaining very tight. The government is responding to gaps in the credit market by providing $200 billion through the Extraordinary Financing Framework which would improve access to credit for Canadian consumers and allow businesses to obtain the financing they need to invest, grow, and create new jobs as follows:

  • Committing $50 billion to the Insured Mortgage Purchase Program;
  • Delivering $13 billion in additional financing by increasing the flexibility and capacities of the financial Crown corporations, Export Development Canada (EDC), and Business Development Bank of Canada (BDC);
  • Increasing the maximum eligible loan amount a small business can access under the Canada Small Business Financing Program; and
  • Allocating up to $12 billion to a new Canadian Secured Credit Facility to purchase term assetbacked securities backed by loans and leases on vehicles and equipment.

All of these measures are expected to have no cost to the Government, and therefore will not have any impact on the deficit numbers. These measures, however, could be considered the key component of the government’s strategy and are being implemented in coordination with other industrial countries.

Other Initiatives for Business

  • Investment in Infrastructure

Budget 2009 accelerates and expands the previous federal investment in infrastructure with almost $12 billion in new infrastructure stimulus funding over two years. This includes money for municipalities, universities and colleges, plus a range of items including roads, bridges, clean energy, broadband Internet access, and electronic health records.

  • Stimulating Housing Construction

The government is providing $7.8 billion to build quality housing, stimulate construction, encourage home ownership and enhance energy efficiency. Measures include a Home Renovation Tax Credit providing up to $1,350 in tax relief to an estimated 4.6 million Canadian families; up to $750 in tax relief for first-time home buyers; funding energy retrofits; and investments for social housing to support low-income Canadians.

  • Business Credit Availability Program

This program will improve access to financing for Canadian businesses during the period of economic uncertainty through enhanced cooperation between private sector, financial institutions and the financial Crown corporations. Under this program, EDC and BDC will provide at least $5 billion in traditional loans and other forms of credit support and enhancement, at market rates, to businesses with viable business models, whose access to financing would otherwise be restricted.

  • Automotive

The government, through EDC, has offered to contribute almost $3 billion in short-term loans to support the automotive industry in Canada.

  • Canada Small Business Financing Program

The government will increase the maximum eligible loan amount a small business can access under the Canada Small Business Financing Program. The current limit will be raised from $250,000 to $350,000 for equipment loans, and to $500,000 for loans for acquiring real property.

Strengthening Benefits for Canadian Workers

The Conservatives are providing $8.3 billion for the Canadian Skills and Transition Strategy. This includes extra support for people who have lost their jobs, including enhancements to Employment Insurance and more funding for skills and training development to help Canadians get jobs. The budget provides for more support for Canadian workers by:

  • Increasing, for two years, all regular Employment Insurance benefit entitlement by five extra weeks from 45 weeks to 50 weeks;
  • Providing $500 million, over two years, to extend EI income benefits for Canadians participating in longer-term training;
  • Extending work-sharing agreements by 14 weeks;
  • Extending the Wage Earner Protection Program to cover severance and termination pay owed to eligible workers impacted by employers’ bankruptcy.

Investing in Knowledge

  • Providing an additional $87.5 million, over three years, to expand the Canada Graduate Scholarship Program,
  • Allocating an additional $3.5 million, over two years, to offer an additional 600 graduate internships through the Industrial Research and Development Internship program launched in the Budget of 2007.

Aboriginal Canadians

Budget 2009 invests another $1.4 billion to support training, on-reserve housing, and on-reserve infrastructure. This is in addition to the $10 billion per year spent on Aboriginal priorities.

Energy

The ecoENERGY Retrofit Program provides home and property owners with grants of up to $5,000 to offset the costs of making energy-efficiency improvements. Budget 2009 provides an additional $300 million over two years to the ecoENERGY Retrofit Program.

Housing

The Conservatives, in an attempt to appeal to their political base, announced an increase in the Home Buyers’ Plan RRSP’s withdrawal limit from $20,000 to $25,000. Also, in order to assist first-time home buyers with the costs associated with the purchase of a home, budget 2009 introduced a First-Time Home Buyers’ Tax Credit in the amount of $5,000, which is a non-refundable income tax credit. Furthermore, a 15% Renovation Tax Credit was announced for renovations up to $10,000.00.

INTERNATIONAL TAXATION

Budget 2009 states that the federal government is studying the final report delivered on December 10, 2008 by the Advisory Panel on Canada’s System of International Taxation. In that report, the Advisory Panel made a number of important recommendations to improve Canada’s international tax system. The federal government indicated that it will provide a response to the report “in due course”, upon which consultations will be held. Nevertheless, Budget 2009 addresses certain issues which arose in the context of the Advisory Panel’s report which the federal government has noted “merit a more immediate response”.

Interest Deductibility

Budget 2009 proposes the repeal of section 18.2 of the Income Tax Act. This provision was introduced to restrict the deductibility of interest and other specified financing expenses starting in 2012 where Canadian corporations financed direct or indirect investments abroad. The report of Canada’s Competition Policy Review Panel noted that these rules would not enhance Canadian tax revenues but would disadvantage Canadian companies seeking to compete globally.

Non-Resident Trusts (NRTs) and Foreign Investment Entities(FIEs)

Budget 2009 indicates that the federal government will review the outstanding proposals relating to NRTs and FIEs, which were first introduced in the 1999 Budget, in light of submissions received by it, including the Advisory Panel’s recommendations, before proceeding with measures in this area.

2004 Foreign Affiliate Proposals

The federal government has also stated in Budget 2009 that it will consider the Advisory Panel’s recommendations regarding foreign affiliates before proceeding with the remaining outstanding foreign affiliate amendments first proposed in February, 2004.

POLITICAL REACTION

Upon reading the budget, Michael Ignatieff, the new leader of the Official Opposition Liberals, announced he would consult with his caucus and take a day to decide whether to support the budget. As expected, he announced that Liberals would support the budget with the condition that the government had to report back to Parliament, at regular intervals, on the progress being made in the economy. Thus, the country avoided the possibility of an election, or a change in government to a Liberal/NDP coalition.

Canadians appear to be somewhat ambivalent towards the budget. There is a general acceptance that the government had to do something drastic in order to avoid a nasty downturn in the economy. On the other hand, Canadians know that the large deficits will eventually have to be paid for, either in higher taxes, or cuts in services.

Polling data indicates the Conservatives have been hurt politically, particularly in Quebec, since the election last October. The Prime Minister’s original Speech from the Throne, made last fall, was seen as being far too aggressive, in terms of trying to gain a political advantage. The Prime Minister’s vilification of the Bloc, as part of discrediting the possible NDP/Liberal coalition government, has damaged his party in Quebec. Depending on what poll you read, the Conservatives now have a 3 point lead nationally, or trail by a point, compared to an 11 point lead on election day last October. The Prime Minister has squandered his political advantage and the parties are now in a virtual tie.

WHAT THE PRIME MINISTER MAY BE HOPING FOR AND CHANCES FOR AN UPCOMING ELECTION

It is clear the Prime Minister has been damaged by his political behavior since the last election. Furthermore, Michael Ignatieff is much stronger an opponent than Stéphane Dion ever was. It is now more likely that the Liberals could take power in the next election. The Prime Minister will hope that the downturn will be far less severe than what the media and the general public are expecting. The Prime Minister will take credit for strong economic management and ask Canadians for a third term. It is unlikely he will be able to gain support in the House from the Bloc, or NDP once the Liberals are ready to vote down the government. The Liberals will want to force an election before a recovery starts to take hold. We could well have an election before the end of the year.