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Governments finance the goods and services that they provide in various ways, including through taxing, investing and borrowing activities.

The first of these activities – taxation – can take several forms. In Canada, sources of funds that help to finance federal initiatives include corporate income taxes, personal income taxes, consumption taxes and social security contributions.

This HillNote provides information about the revenue, rates and rationale relating to federal corporate income taxes in Canada. Other HillNotes discuss personal income taxes, consumption taxes and social security contributions.

Revenue

Figure 1 shows that, in 2019–2020, corporate income tax revenue totalled $50.1 billion and represented 12.3% of total federal tax revenue and social security contributions.

Figure 1 – Federal Tax Revenue and Social Security Contributions, 2019–2020 ($ billions)

Notes: “Social security contributions” are Canada Pension Plan and Quebec Pension Plan (CPP and QPP) contributions, and Employment Insurance premiums. The QPP operates exclusively in Quebec, with the CPP operating in the rest of Canada. For the purposes of this figure, QPP contributions are combined with contributions to the CPP, giving rise to the term “federal.”
“Consumption taxes” are the Goods and Services Tax, the Harmonized Sales Tax, energy taxes, customs import duties, other excise taxes and duties, and fuel charges.
“Other taxes and revenue” are non-resident income taxes, revenue from federal enterprise Crown corporations and similar entities, net foreign exchange revenue and revenue from other programs.
Sources: Figure prepared by Nathalie Pothier, Library of Parliament using data obtained from: Statistics Canada, “Table 10-10-0015-01: Statement of government operations and balance sheet, government finance statistics (x1,000,000),” Database, accessed on 16 February 2021 (for CPP and QPP values); and Receiver General for Canada, Public Accounts of Canada 2020, Volume 1, 2020.

Rates

Canadian corporations must comply with designated tax rules. While registered businesses and self-employed persons are taxed at the personal income tax rate, a corporation’s taxable income is equal to revenue less:

• current expenditures, which are deducted in the year in which they are paid and include wages, fees, rent, production inputs and interest on borrowings;
• purchases of capital goods, such as buildings and machinery, which are deducted over time according to prescribed rates for different classes of depreciable assets; and
• business losses, which are deducted for past years or in subsequent years.

Furthermore, a corporation pays tax on its taxable income earned worldwide, while a foreign corporation pays tax on its taxable income earned in Canada.

Corporations pay the basic corporate income tax rate of 38.0%, with rate reductions applicable in some cases. Corporations that pay provincial/territorial corporate income tax receive a 10-percentage-point federal abatement, which lowers the corporate income tax rate to 28.0%.

Table 1 shows the effective rates of taxation that have been applied on various types of corporate income in selected years between 1960 and 2020.

Table 1 – Federal Corporate Income Tax Rates, Selected Years, 1960–2020 (%)

Source: Table prepared by Nathalie Pothier, Library of Parliament using data obtained from Income Tax Act, R.S.C. 1985, c. 1, various years, 21 January 2020.

After 1973, corporate profits from manufacturing and processing activities were eligible for a tax rate reduction. In 2004, the general rate reduction became the same percentage as the rate reduction for manufacturing and processing activities. As a result, the preferential tax treatment for profits from these activities was eliminated. As well, since October 2000, sectors not already entitled to other rate reductions have been eligible for the general rate reduction for qualifying income; this reduction is currently 13.0%.

Depending on the amount of taxable capital employed in Canada, small Canadian-controlled private corporations (CCPCs) are taxed at a corporate income tax rate that is lower than that for other corporations. The small business deduction depends on both the CCPC’s income and its small business limit. The following rates are applied:

• CCPCs with taxable capital below $10 million – a tax rate of 9.0% is applied on the first $500,000 of taxable income, which is the small business limit.
• CCPCs with taxable capital between $10 million and $15 million – the small business limit of $500,000 in taxable income is reduced at the rate of $1 per $10 of capital exceeding $10 million.

CCPCs with taxable income exceeding $15 million do not qualify for the small business deduction.

For taxation years beginning after 2018, the small business limit is reduced for CCPCs with investment income exceeding $50,000. The formula to calculate the reduction is five times the amount of aggregate investment income exceeding $50,000, with a reduction to $0 when this income reaches $150,000. The reduction in a CCPC’s small business limit is the greater of the reduction for capital exceeding $10 million and the reduction for investment income exceeding $50,000.

Beginning in 1968, the federal government imposed a corporate surtax equal to 3.0% of the general corporate income tax. It was eliminated in 1972, then reinstated for most years between 1980 and 2007 at a rate ranging between 2.5% and 5.0%, depending on the year. It was eliminated again effective January 2008.

The federal government started to tax the capital of financial institutions in 1985, and of large corporations in 1989; the latter tax was eliminated in January 2006. Financial institutions continue to be subject to a tax of 1.25% applied on taxable capital exceeding $1 billion used in Canada, but they can reduce their federal capital tax payable by the amount of federal income tax payable.

Canada’s federal corporate income tax rate reductions over time are consistent with a global trend.  According to the Organisation for Economic Co-operation and Development (OECD) database, which contains corporate tax data for 109 countries, 76 countries lowered their statutory corporate income tax rates between 2000 and 2020; over that period, seven countries raised their rates, while 13 countries made no changes.

Figure 2 shows statutory corporate income tax rates for all levels of government in selected OECD countries for various years.

Figure 2 – Statutory Corporate Income Tax Rates, All Levels of Government, Selected Countries, 2000, 2006, 2012 and 2020

Source: Figure prepared by Nathalie Pothier, Library of Parliament using data obtained from Organisation for Economic Co‑operation and Development, “Table II.1. Statutory Corporate income tax rate,” Database, accessed on 16 June 2021.

While statutory corporate income tax rates provide a means for comparing corporate income taxes across jurisdictions, they do not take into account differences among jurisdictions in the definition of “taxable income”; available tax incentives; or other taxes that corporations may have to pay. Therefore, economists sometimes use other measures to assess the extent to which a jurisdiction is “tax competitive.”

One way in which economists assess tax competitiveness is to calculate – and compare – countries’ marginal effective tax rate (METR), which Finance Canada states is a more comprehensive measure of tax competitiveness than the statutory corporate income tax rate. The METR is an indicator of the level of taxation on new business investment. It considers taxation by different levels of government and various features of the tax system, such as deductions, allowances and other taxes.

Because of geographical, economic and other linkages between Canada and the United States, businesses may consider a variety of factors in deciding the country in which to make investments. The United States’ 2017 Tax Cuts and Jobs Act reduced the country’s federal corporate income tax rate and implemented other tax measures. As a result, the United States’ METR fell. On 21 November 2018, Canada’s federal government made tax changes that lowered the country’s METR. The changes included allowing the immediate expensing of machinery and equipment used in the manufacturing and processing of goods.

Rationale

Through the Business Profits War Tax Act, Canada’s federal government introduced a corporate income tax in 1916 to help fund the country’s involvement in the First World War.

Corporate income taxation has both disadvantages and advantages. Regarding the former, although the Canadian tax system’s objective is to tax income only once, income may be taxed twice: when it is earned by a corporation, and then when shareholders receive dividends that are taxed as personal income.

Furthermore, corporate income taxation can have negative consequences for investment, corporate finance, consumers and employees. For example, since corporate income tax is applied on the return on investment, it may affect a corporation’s decision to make new investments.

Concerning corporate finance, the deductibility of interest from taxable income may lead corporations to rely more heavily on debt than on equity to fund their investments, with the potential for higher risk of default or bankruptcy.

Regarding consumers and employees, the corporate income tax burden may be shifted to the former through higher prices and/or to the latter through lower compensation. According to a 2012 Canadian Tax Foundation report, a large portion of this burden is passed on to employees.

That said, there are reasons for maintaining a corporate income tax system. First, rather than distributing all corporate income immediately to shareholders as dividends to be taxed as personal income, the corporation may keep some income as retained earnings, which may increase share prices and generate capital gains for shareholders. Because capital gains are treated as shareholders’ personal income only after the shares are sold and the gains are realized, levying a corporate income tax results in more timely collection of tax revenue.

Second, some – if not all – corporate income may be distributed to foreign shareholders, where the taxation of Canadian-source income occurs consistent with tax treaties. Depending on the provisions of treaties, it is possible that this Canadian-source income would not be taxed. In this case, Canadian taxation of corporate income would ensure that at least some tax revenue is collected.

Recognizing that there are advantages to corporate income taxation, Canada has implemented measures to limit at least one of its disadvantages: double taxation. For example, the value of taxes paid by Canadian corporations is returned to shareholders through the dividend tax credit, which reduces the incidence of double taxation.

Additional Resources

Heather Kerr, Ken McKenzie and Jack Mintz, eds., Tax Policy in Canada, Canadian Tax Foundation, Toronto, 2012, pp. 7–31.

Canada Revenue Agency, Corporate Statistical Tables (2012 to 2016 tax years), 31 December 2018.

Canada Revenue Agency, T2 Corporation – Income Tax Guide – Before you start, 19 March 2021.

Authors: Simon Richards and Brett Stuckey, Library of Parliament

Categories: Economics and finance

Tags: business, Corporate income taxes, Taxation