This analysis is of a general nature and is based on the Ontario Budget and other documents included with the Ontario Budget package and is presented only for the general information of our clients and staff. The proposals when enacted may vary substantially from the summary described herein. The reader is advised to refer to the amending legislation upon enactment. Specific professional advice should be obtained before taking action based upon the information provided in this commentary.

MAY 9, 2001 ONTARIO BUDGET COMMENTARY

INDEX

1.0 INTRODUCTION............................................................ 1

2.0 PERSONAL INCOME TAX MEASURES

2.1 ‘’Made-for-Ontario Tax System’‘................................... 2

2.2 Tax Rate Reduction................................................ 2

2.3 Non-Refundable Personal Tax Credits............................... 2

2.4 Indexing.......................................................... 3

2.5 Capital Gains Inclusion Rate...................................... 3

2.6 Top Marginal Rates................................................ 3

2.7 Equity in Education Tax Credit.................................... 4

2.8 Medical Expenses Tax Credit....................................... 4

2.9 Ontario Alternative Minimum Tax (AMT)............................. 4

3.0 CORPORATE INCOME TAX MEASURES

3.1 Tax Rate Reductions............................................... 4

3.2 Reduction in Capital Tax Base..................................... 5

3.3 Ontario Research & Development (R&D) Super Allowance.............. 5

3.4 Professional Corporations......................................... 6

3.5 Corporate Income Tax Instalments.................................. 6

3.6 Attachments to Ontario Corporate Income Tax Return................ 6

4.0 ONTARIO RETAIL SALES TAX MEASURES (RST)

4.1 RST Late Filing Penalties......................................... 6

4.2 RST Application on Software....................................... 6

4.3 RST Application on Trucks and Buses Used in Multiple Jurisdictions 6

4.4 RST Rebates for Alternative Fuel Vehicles......................... 7

4.5 RST Exemption on Audio Books for the Blind........................ 7

4.6 RST Rulings....................................................... 7

5.0 OTHER MEASURES

5.1 Employer Health Tax (EHT)......................................... 7

5.2 Property Tax...................................................... 7

5.3 Administrative Matters............................................ 8

5.4 Streamlined Filing and Audit Procedures........................... 8

5.5 Improved Taxpayer Input........................................... 8

5.6 Electronic Service Delivery....................................... 9

1.0 INTRODUCTION

On May 9, 2001, the Honourable Jim Flaherty, Minister of Finance presented his first budget, and the sixth Budget of the Progressive Conservative Party government in the Ontario Legislature.

The Minister appears to be continuing the government’s plan to implement the commitments expressed in the 1995 election platform. Accordingly the Ontario Budget reflects the following:

- Continuation of the reduction in the personal and corporate income tax rates;

- The Budget forecasts a balanced budget for the 2001‑2002 year;

Additional health care spending.

The summary of the budgetary revenues and expenditures are as follows ($ million):

Actual Actual Interim Budget Plan

1998-1999 1999-2000 2000-2001 2001-2002

BUDGETARY REVENUES

Personal income tax $ 17,190 $ 17,617 $ 18,975 $ 18,010

Retail sales tax 11,651 12,879 13,757 14,340

Corporations tax 7,447 8,095 9,130 8,340

Employer health tax 2,882 3,118 3,455 3,620

Gasoline and fuel tax 2,660 2,819 2,893 2,955

Other taxes 1,247 1,353 1,452 1,555

43,077 45,881 49,662 48,820

Income from government enterprises 2,547 3,708 3,968 3,424

Payments from the Federal Government 4,515 5,885 6,232 7,359

Other revenues 5,647 7,457 5,065 4,667

Total Budgetary Revenues 55,786 62,931 64,927 64,270

BUDGETARY EXPENDITURES

Community and social services 7,659 7,512 7,638 7,756

Education and training 11,000 10,989 11,332 11,836

Health and health care restructuring 19,556 20,659 22,763 23,676

Municipal affairs and housing 1,611 1,665 1,819 1,214

Solicitor General and correctional services 1,296 1,379 1,500 1,542

Other Ministries Program spending 5,463 5,376 5,407 6,987

Total Budgetary Expenditures 46,585 47,580 50,459 53,011

OPERATING BALANCE 9,201 15,351 14,468 11,259

PUBLIC DEBT INTEREST (9,016) (9,497) (9,403) (9,315)

ANNUAL BUDGETARY OPERATING SURPLUS 185 5,854 5,065 1,944

Net impact of Electricity Restructuring to be

recovered from Ratepayers - (354) 202 140

ANNUAL CAPITAL EXPENDITURES (2,187) (4,832) (2,075) (1,944)

ANNUAL BUDGETARY SURPLUS (DEFICIT) $ (2,002) $ 668 $ 3,192 $ 140

TOTAL ONTARIO PUBLIC DEBT $114,737 $113,715 $110,725 $110,725

GROSS DOMESTIC PRODUCT (GDP) $372,630 $396,775 $428,164 $446,019

Net Ont. Public Debt as a % of Ont. GDP 30.8% 28.7% 25.9% 24.8%

Total debt per capita (in $) $ 10,077 $ 9,874 $ 9,489 $ 9,371

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2.0 PERSONAL INCOME TAX MEASURES

2.1‘’Made-for-Ontario Tax System’‘

The Budget continues the ‘tax on income’ method for taxpayers to compute Ontario personal income tax, which was originally proposed in the 2000 Ontario Budget. Beginning with the 2000 taxation year, Ontario’s personal tax brackets and rates will be set independently of the federal tax brackets and rates. Under this system, taxpayers will generally continue to calculate income in accordance with federal rules. Ontario would then provide targeted initiatives which it can control directly. Canada Customs and Revenue Agency will continue to administer the Ontario personal tax system.

2.2 Tax Rate Reduction

The Budget proposes to cut personal tax rates, increase tax credits and reinstate indexing. The impact on Ontario tax of changing from a “tax on tax” to a “tax on income” is illustrated by the following (surtaxes excluded):

2000 2001 2002 2003

Taxable income Actual Proposed Proposed Proposed

Under $30,004 ($30,814 in 2001) 6.37% 6.20% 6.05% 5.65%

$30,004-$60,009 ($30,814-$61,629 in 2001) 9.62% 9.24% 9.15% 8.85%

Over $60,009 ($61,629 in 2001) 11.16% 11.16% 11.16% 11.16%

The taxable income thresholds above are now fully indexed to inflation (see 2.4).

Ontario’s two-tiered surtax is calculated as a percentage of basic Ontario tax in excess of specified amounts. Ontario residents earning less than $53,650 in 2001 pay no Ontario Surtax. The 2001 Budget proposes to eliminate, on January 1, 2003, the first-tier surtax by increasing the first-tier threshold to the same level as the second tier. Only individuals with taxable income higher than $61,826 will pay the Ontario surtax.

2000 2001 2002 2003

Ontario tax-threshold Actual Proposed Proposed Proposed

$3,561 ($3,560 in 2001) 20% 20% 20% - %

$4,468 ($4,491 in 2001) 36% 36% 36% 56%

2.3 Non-Refundable Personal Tax Credits

Enhancements to certain Ontario non-refundable tax credits are proposed to be effective on January 1, 2001. The credits will be calculated using the rate for the lowest tax bracket (i.e., 6.37% in 2000 and 6.20% in 2001).

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2.0 PERSONAL INCOME TAX MEASURES (continued)

2.3 Non-Refundable Personal Tax Credits (continued)

The non-refundable tax credits for 2000 and 2001 are as follows:

2000 2001

Tax Credit Actual Proposed

Basic personal amount $ 7,231 $7,426

Spousal/equivalent-to-spouse amount 6,140 6,306

- Net income threshold 614 631

Infirm dependant amount 2,386 3,500

- Net income threshold 4,845 4,976

Caregiver amount 2,386 3,500

- Net income threshold 11,661 11,976

Age amount 3,531 3,626

- Net income threshold 26,284 26,994

Disability amount 4,293 6,000

Disability credit supplement for children with sever disabilities 2,941 3,500

Medical expense tax credit - 3 per cent of net income ceiling 1,637 1,681

Education amount

- Amount per month enrolled full-time 200 400

- Amount per month enrolled part-time 60 120

Pension income - Maximum amount 1,000 1,027

Tuition fees and education amount - Maximum amount

transferable to spouse, parent or grandparent 5,000 5,135

2.4 Indexing

The Budget proposes full indexing of the Ontario tax brackets and non-refundable tax credits starting this year. The indexing factor for 2000 is 1.4% and for 2001 is 2.7% (federal indexing for 2001 is 2.5%).

2.5 Capital Gains Inclusion Rate

The Budget confirms that, as previously announced, the inclusion rate for capital gains on dispositions of property after October 18, 2000 is reduced to 50%, harmonizing Ontario and federal taxation.

2.6 Top Marginal Rates (combined - Federal and Ontario)

Actual Proposed Proposed

2000 2001 2002

Ordinary Income 47.86% 46.41% 46.41%

Canadian Dividends 32.31% 31.33% 31.33%

Capital Gains (2000 based on 50% inclusion) 23.93% 23.20% 23.20%

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2.0 PERSONAL INCOME TAX MEASURES (continued)

2.7 Equity in Education Tax Credit

Effective for 2002 and subsequent years, the Budget introduces a refundable tax credit for tuition fees paid to Ontario independent schools for kindergarten, elementary and secondary education. The credit will be based on up to $7,000 of annual tuition fees per child. Charges for books, uniforms, sports, travel, boarding and the like will not be eligible for the credit. It will be phased in over a five-year period. The credit will be 10% of eligible tuition fees in 2002, and will increase by 10% per annum reaching 50% for 2006 and subsequent years. The framework for establishing eligibility for the credit will be determined through a consultative process.

2.8 Medical Expenses Tax Credit

Claims for medical expenses paid for a dependent other than a spouse must be reduced if the dependent’s net income exceeds the amount of the basic personal exemption. As a result of the changes introduced by this Budget, the claim made by an individual for a dependent’s medical expenses for 2002 would be reduced by 25.71% of the amount by which the dependent’s net income exceeds the basic personal exemption. This is reduced from 26.35% in 2001 as a result of changes to federal and provincial personal income tax rates.

2.9 Ontario Alternative Minimum Tax (AMT)

For 2001, Ontario alternative minimum tax (AMT) will be calculated as 38.75% of the additional tax attributable to the federal AMT calculation, and will be added to Ontario tax calculated under the regular rules. For 2002, the appropriate percentage will be 37.81% (6.05% divided by 16% federal rate).

3.0 CORPORATE INCOME TAX MEASURES

3.1 Tax Rate Reductions

In the previous Budget, the government announced its intention to reduce both the general and manufacturing and processing (M&P) rates to 8% by 2005. At that time, however, only the first two stages were announced (and subsequently enacted into law). These reductions resulted in a lowering of the general rate from 15.5% to 14% and the M&P rate from 13.5% to 12%. There were no further details of the timing of future cuts.

However, in today’s competitive economy, it is important that companies which operate in an inter-jurisdictional environment have certainty of tax rates prior to making a decision on investment options. It was understood that businesses would not factor tax promises into these decisions. In response to such concerns, the Budget outlines the government’s plan to legislate a firm schedule to deliver the corporate tax cuts.

The following table outlines the government’s proposed schedule for implementing the remaining cuts.

2000 2001 2002 2003 2004 2005

Actual Proposed Proposed Proposed Proposed Proposed

General Rate 14.5% 14.0% 12.5% 11.0% 9.5% 8.0%

M & P Rate 12.5% 12.0% 11.0% 10.0% 9.0% 8.0%

Small business Rate 7.0% 6.5% 6.0% 5.5% 5.0% 4.0%

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3.0 CORPORATE INCOME TAX MEASURES (continued)

3.1 Tax Rate Reductions (continued)

Combined Federal and Ontario corporate tax rates:

2000 2001 2002 2003 2004 2005

Actual Proposed Proposed Proposed Proposed Proposed

General Rate 43.95% 42.12% 38.62% 35.12% 31.62% 30.12%

Small business Rate 20.45% 19.62% 19.12% 18.62% 18.12% 17.12%

All rate reductions will be prorated for taxation years straddling the effective dates, which is January 1 for the years 2001 through 2005.

3.2 Reduction in Capital Tax Base

The Budget proposes to replace the current capital tax exemption with a $5 million deduction from taxable capital, effective January 1, 2002. This exemption is an increase from the previous $2 million and also replaces the small business rate reductions applicable to taxable capital between $2 million and $4 million.

It is also proposed that, effective January 1, 2002, the $2 million capital deduction applied in determining paid-up capital for financial institutions would be increased to $5 million.

3.3 Ontario Research & Development (R&D) Super Allowance

As a consequence of the 2000 federal Budget proposals to treat the Ontario R&D Super Allowance as taxable government assistance, the 2000 Ontario Budget proposed to not follow the proposed federal provisions, recognizing the concern of Ontario’s R&D industry.

In order to alleviate the adverse effect of the federal proposals on R&D investment, Ontario is proposing to suspend the R&D Super Allowance for a 24-month period. In its place Ontario will allow corporations to exclude from taxable income the portion of the federal investment tax credit that relates to qualifying Ontario Scientific Research and Experimental Development (SR&ED) expenditures.

The net effect of this change should be to place those companies utilizing the Super Allowance in approximately the same tax position as they were prior to the 2000 federal proposals.

This measure will begin with the first taxation year to which the federal Budget provision applies. To qualify for these proposals, the investment tax credit must be included in federal taxable income during the 24-month period and be in respect of qualifying Ontario SR&ED expenditures incurred during the 24-month period, or in the taxation year immediately preceding the 24-month period.

This does not appear to be the final volley in the battle between Ontario and Ottawa over the R&D Super Allowance. In the Budget, Ontario calls upon the federal government to revisit its 2000 Budget proposal to ensure that federal legislation does not target Ontario’s R&D Super Allowance.

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3.0 CORPORATE INCOME TAX MEASURES (continued)

3.4 Professional Corporations

The 2000 Budget provided for the incorporation, with certain restrictions, of businesses operating in regulated professions. The 2001 Budget proposes amendments to the Business Corporations Act to clarify that a shareholder’s liability for professional negligence is not affected by the existence of the corporation. Amendments will also be made to the statutes governing regulated professions to ensure they equally apply to professional corporations.

3.5 Corporate Income Tax Instalments

The budget proposes to simplify the payment of corporate income tax installments by reducing the frequency of required installments from monthly to quarterly for corporations whose taxes payable in the current or preceding year are at least $2,000, but less than $10,000. This change would be effective for taxation years commencing in 2002.

3.6 Attachments to Ontario Corporate Income Tax Return

Effective for taxation years ending after 2000, companies filing Ontario corporate income tax returns would no longer be required to file a copy of their federal T2 Corporation Income Tax Return and related schedules if these forms have been filed with the Canada Customs and Revenue Agency.

4.0 ONTARIO RETAIL SALES TAX MEASURES (RST)

4.1 RST Late Filing Penalties

Retroactive to July 1, 2000, the late filing penalty for late RST payments will be waived where the taxpayer has had no previous late-filed returns over the last 4 years. As the province removed the $1,000 cap on such penalties last July, this change should be well received by the business community. The removal of the cap meant that penalties were imposed for 10% of the amount of the late-filed tax even if the return was filed one day late.

4.2 RST Application on Software

In recent months the RST application on sales of computer software has been a source of substantial taxpayer confusion. As part of the Ministry of Finance’s simplification initiatives, it will consult with taxpayers and other interested groups regarding measures which would result in a simpler RST.

4.3 RST Application on Trucks and Buses Used in Multiple Jurisdictions

Ontario has become a member of the International Registration Plan (IRP) to improve the competitive position of Ontario’s truck and bus industries. The government is proposing to implement a modified RST system for multi-jurisdictional vehicles effective October 1, 2001.

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4.0 ONTARIO RETAIL SALES TAX MEASURES (RST) (continued)

4.3 RST Application on Trucks and Buses Used in Multiple Jurisdictions (continued)

This new sales tax system will provide for payment of prorated sales taxes, which are to be paid each year when registering trucks and buses used in multiple jurisdictions. As a result of this measure, owners of multi-jurisdictional vehicles will no longer have to pay RST on the full purchase value of the vehicles and cost of repair parts, trailers and labour services. The tax will now be calculated based on these costs, the year the vehicle was acquired, and the proportionate distance traveled in Ontario.

4.4 RST Rebates for Alternative Fuel Vehicles

Electric hybrid cars delivered after May 9, 2001 will qualify for the alternative fuel vehicle RST rebate of up to $1,000. The Ministry of Finance is continuing to solicit input from industry; however, electric hybrid cars are typically defined as combining an electric traction motor with another power unit such as a conventional gas or diesel engine.

4.5 RST Exemption on Audio Books for the Blind

The government is proposing to exempt from RST audio books purchased by people who are legally blind. This measure will be effective on proclamation after the government has consulted with the Canadian National Institute for the Blind on implementation details.

4.6 RST Rulings

RST rulings with general applicability to a wide audience will be made available via the internet. Reference will be further facilitated through the incorporation of search engines.

OTHER MEASURES

5.1 Employer Health Tax (EHT)

In a change announced prior to this year’s budget, the Government has decided that where employees have elected to defer income from the exercise of a stock option (under rules announced in the 2000 Federal budget), this deferral will not be allowed for Ontario EHT purposes. This change is effective for 2000 and subsequent years. For the year 2000, employers must file a revised EHT return and pay the extra tax by June 15, 2001. This rule will not apply if the corporation meets the conditions for last year’s EHT exemption for employment income arising from the exercise of stock options of R&D intensive companies

5.2 Property Tax

The Budget proposes to give municipalities the ability to give property tax relief to the owners of properties designated to be of historical or architectural value under the Ontario Heritage Act. The relief mechanism, which is to be effective January 1, 2002, will be developed through consultations with involved parties.

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OTHER MEASURES (continued)

5.2 Property Tax (continued)

In order to allow municipalities to apply a lower tax rate to newly built rental apartment buildings, the “new multi-residential property class” was introduced in 1998. Essentially, a lower tax rate is allowed for the first eight years following construction of the building. Effective January 1, 2002, properties in this class will now be eligible for a lower rate of tax for the first 35 years following construction.

5.3 Administrative Matters

The Budget includes measures intended to improve the efficiency and effectiveness of the administration of the provincial taxation system. Specific service standards will be developed in consultation with key stakeholders to permit the evaluation of the performance of the government in the discharge of its administrative responsibilities. These standards are intended to be finalized by September 1, 2001. A process for annually reporting the findings of these evaluations to the public will also be developed.

5.4 Streamlined Filing and Audit Procedures

Specific initiatives in this area include:

Effective immediately, it will not be necessary to submit copies of supporting documentation with refund claims for gasoline, fuel and tobacco taxes that are less than $500. This information will instead be required to be provided on request.

The Ministry of Finance will accelerate its ongoing review of all tax forms to eliminate unnecessary forms by introducing multipurpose forms, and to improve the layout and ease of understanding of these forms.

Audit procedures will be streamlined by undertaking more consolidated audits of multiple provincial tax programs at the same time, where this is feasible and the taxpayer is agreeable to the approach. The Ministry of Finance will also continue to work closely with the federal government to arrange more joint, multi-jurisdictional audits under the same conditions.

5.5 Improved Taxpayer Input

Recognizing the role that small businesses play in providing feedback on ways to eliminate red tape, the Budget announced the following measures to obtain and evaluate taxpayer input:

A Small Business Advisory Committee will be formed to identify and discuss new ways of simplifying tax administration, with the goal of implementing changes by 2002.

Tax Information Forums will be held across the province to permit small businesses a “one-stop” opportunity to obtain information and ask questions on a variety of tax programs administered in Ontario.

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OTHER MEASURES (continued)

5.6 Electronic Service Delivery

Initiatives, which are intended to be implemented by 2002, have been introduced to take advantage of the internet and paperless media. These include:

An e-mail subscription service to provide new publications, announcements of key dates, or notification of other events.

Introduction of a new “Tele-Tax” system that will permit taxpayers to obtain recorded messages containing answers to frequently asked questions from a self-serve telephone system.

Making customer service feedback and other survey tools available via the internet.

Allowing taxpayers to submit general information changes, such as business addresses or telephone numbers via the internet.

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