Canada: Focus On Tax - March 2009

Ontario Announces Sales Tax Harmonization

On March 26, 2009 – The Honourable Dwight Duncan, Minister of Finance, tabled the 2009 Ontario Budget today and announced that the province's existing 8% retail sales tax ("PST") will be harmonized with the 5% federal goods and services tax ("GST") effective July 1, 2010.

The Big Picture

The new value-added tax of 13% will be administered by the Canada Revenue Agency and the Canada Border Services Agency and will apply in the same manner as the GST; albeit with some exceptions. The range of goods and services that are not currently subject to PST but that will be fully subject to the new 13% sales tax include: commercial real property sales and leases, new residential housing (with varying rebates for homes under $500,000), real estate commissions, property maintenance and landscaping services, legal and accounting services, transportation services, gasoline, utilities, custom computer software and internet access. Certain goods and services that are exempt under the current PST regime will continue to be exempted from the 8% provincial component of the new single tax at the point of sale. These include children's clothing and footwear, children's car and booster seats, diapers, books and feminine hygiene products. Other notable differences are that insurance premiums in Ontario (which are exempt from GST), will remain subject to a provincial tax of 8% if they are currently taxed under PST (e.g., group insurance) as will private automobile sales.

To help consumers offset the increase in tax, the Budget proposes to provide families with transitional payments. Families with income of $160,000 or less will receive payments totalling $1,000 and single individuals with incomes of $80,000 or less will receive payments totalling $300.

As is the case with GST, there will be taxable, zero-rated and exempt categories of supplies. Taxable supplies include all domestic goods and services that are not specifically enumerated as exempt or zero-rated. Exempt supplies include things such as domestic financial services, health and child care services, long term residential rents, used housing and educational services. Zero-rated supplies include basic groceries, prescription drugs, medical devices and exports.

Registered suppliers who make taxable and zero-rated supplies will be entitled to recover the tax they pay on their business inputs through the input tax credit ("ITC") mechanism. However, in contrast to GST, there will be temporary restrictions on the ability of large suppliers (those with annual taxable sales of more than $10 million) to claim ITCs for energy, telecommunications (other than internet-access and toll-free numbers), certain road vehicles and fuel for same as well as food, beverages and entertainment. These temporary restrictions will be fully in effect for the first 5 years of the implementation of the new single sales tax and phased out in the subsequent 3 years and will only apply to the provincial portion.

Doing Business In Ontario

It can be expected that the legislation implementing the new tax will contain place-of-supply rules that will operate in the same fashion as in the existing harmonized provinces. Thus, supplies of goods and services that are deemed to be made in Ontario or that are imported into Ontario will be subject to the 13% tax. Registration requirements will be the same as for GST and registrants will file a single sales tax return.

Businesses in Ontario will be required to update their accounting systems in order to collect the single sales tax. In order to assist small businesses with the transition to collection of the single tax, Ontario will provide transitional credits of up to $1,000 for small businesses (other than financial institutions) with annual revenues of less than $2 million.

General Considerations

Very few details surrounding the single tax were announced today. As is often the case, the devil could be in the details. The impetus, however, for the introduction of the single tax was made clear: to enhance the competitiveness of Ontario businesses. This, in large part, will be accomplished by the ITC mechanism. As a value-added tax, the new single tax will be recoverable by businesses engaged in commercial activities whereas under the current PST system, the PST is not recoverable and becomes imbedded in the cost of goods and services. As a result, if major business expenditures are contemplated, timing and form of acquisition are key considerations. For example, does it make sense to lease goods instead of purchasing them prior to July 1, 2010? Conversely, as the implementation date gets closer, businesses may consider bulking up on their inventories (as goods for resale are not subject to PST) so as to avoid the cash flow burden of paying the 13% single tax and waiting to recover it by means of the ITC mechanism. Moreover, special attention should be paid to supply-and-install contracts and transactions that straddle the July 1, 2010 implementation date.

Real Estate Sector

The real estate sector will be particularly affected by the introduction of the new single tax. This is because, currently, no PST is exigible on real property. As of July 1, 2010, taxable real property, which includes newly constructed residential homes, will be subject to the 13% single tax.

While newly constructed homes will remain subject to the GST, a rebate for the provincial portion of the single tax for newly built homes and condominiums will be introduced with respect to the provincial portion of the single tax for homes worth $500,000 or less. The rebate for homes under $400,000 will be 75% of the provincial portion (or 6% of the purchase price) with the rebate reduced for homes priced between $400,000 and $500,000. The greatest impact will be on new homes worth more than $500,000. For example, the purchase price of a newly built home worth $550,000 will be increased by $44,000.

Contracts relating to the construction and renovation of real property could be significantly affected. This is particularly the case with supply-and-install arrangements, given that under the current PST regime, the incidence of tax is placed on the contractor rather than the buyer.

Public Service Bodies Sector

Ontario's public service bodies (PSBs) will collect the new single sales tax on their taxable supplies and pay the tax on their taxable inputs. However, since many PSBs are engaged primarily in exempt activities, they are generally precluded from claiming ITCs in respect of tax paid on their inputs. As is the case with the GST, PSBs will be able to claim rebates for the provincial component of the new sales tax, so that the net effect of the tax on each sector is expected to be fiscally neutral relative to the amount of PST currently paid by these sectors.

The rebates, which will be a percentage of the provincial component of the new single sales tax, will be as follows:

Financial Services

Perhaps the most significantly impacted sectors under the new single sales tax will be the financial services sector. Based on the materials released on the date of the Budget, it would appear that financial institutions will be treated as exempt for both the federal and provincial component of the new tax. This is in contrast to Québec where financial services are zero-rated supplies which allows financial institutions in Québec to recover the QST on their business inputs. The severe restrictions under the GST on the ability of financial institutions to claim ITCs means that under the proposed single tax, financial institutions will bear significant additional costs on inputs not currently subject to PST.

While the implementation of the single sales tax will not take effect until July 1, 2010, there are key considerations, in addition to the systems changes, that businesses should be taking into account, particularly with respect to contractual commitments prior to that date.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.