Harmonized Sales Tax & Mutual Fund Investors
The Harmonized Sales Tax (HST) is simply the combination of the federal GST and provincial retail sales tax (RST) into one single sales tax, administered by the federal government on the majority of goods and services purchased by consumers. The stated purpose of the HST is to make businesses more competitive and to achieve cost savings by simplifying the sales tax collection process.
For the past several years, only Nova Scotia, Newfoundland & Labrador and New Brunswick have operated under the HST. Quebec introduced the Quebec Sales Tax (QST) in 1992, which quite closely resembles the HST. In 2009, both Ontario and British Columbia introduced plans to harmonize their respective provincial sales taxes with the federal GST to create an HST, effective July 1, 2010. In Ontario, the new HST would have a combined tax rate of 13 percent and would include the current general Ontario RST rate of 8 percent and the federal GST rate, currently set at 5 percent.* As a result, a greater proportion of Canadians will be subject to HST. This paper will discuss what harmonization means to consumers and more specifically, how HST will affect your mutual fund investments.
* In British Columbia, the new HST would have a combined tax rate of 12 percent and would include the current B.C. Social Service Tax (SST) of 7 percent and the 5 percent federal GST rate.
How does Harmonization affect Canadian mutual fund investors?
Mutual fund investors pay a management fee on their mutual funds in order to obtain the benefit of professional money management advice and other services. Since professional money management is considered a service, mutual fund investors currently pay 5 percent federal GST on the management fee and certain operating expenses of the investment funds. These costs are included in the Management Expense Ratio (MER) of each particular mutual fund. As a result of the HST, investors will now be required to pay an additional provincial tax on management fees (and certain other expenses of the MER) where it did not apply previously. Therefore, this will result in a proportional increase in the MERs of mutual funds and an additional cost to investors. Higher taxes on mutual funds will result in lower returns to investors.
Using Ontario as an example, assume a mutual fund has a pre-tax MER equal to 2.28 percent1 and earns an 8 percent rate of return. Under the current rules, the MER is equal to 2.39 percent when GST is applied2. In this case, the investor would receive a net return of 5.61 percent. If the HST legislation is approved, the MER will increase by a further 0.18 percent to 2.57 percent. As a result of the additional taxes imposed by the government on mutual funds, the investor’s return would be reduced to 5.43 percent.
In other words, this tax increase imposed by the government will directly result in a lower net return to the investor. The following chart summarizes the implications to investors on investments returns because of HST.
1 MER is comprised of a 2.00% management fee, 0.25% fixed administration fee plus 0.03% other fund costs
2 It is assumed that GST/HST is only applied on the management fee and fixed administration fee
Without HST
Rate of Return 8.00%
Less Total MER:
Pre-tax MER 2.28%
GST (5%): 0.11%
8.00% Rate of Return minus total MER (2.39%) = Net Return 5.61%
With HST
Rate of Return 8.00%
Pre-tax MER 2.28%
GST (5%): 0.11%
Ontario RST 0.18%
8.00% Rate of Return minus total MER (2.57%) = Net Return 5.43%
What is the rationale for the HST?
The HST provides a single tax base and consistent administration across federal and provincial governments. Without it, there are multiple tax bases, each with their own set of rules and processes. One of the fundamental differences between GST and a separately operated provincial sales tax is the ability for businesses to recover sales taxes paid on inputs required in the course of providing goods and services to consumers. Under the GST, businesses are reimbursed for any GST paid on inputs while they are not reimbursed for any provincial sales tax. Therefore, the added costs of provincial sales tax becomes embedded in the prices paid by consumers on goods.
The adoption of the HST will help remedy this situation and allow businesses to recover not only the GST paid on inputs, but also the provincial sales taxes. This will help reduce costs and allow businesses to be much more competitive in Canada and internationally. In addition, harmonization will simplify the sales tax collection process and significantly reduce administration and compliance costs associated with the collection and remittance of sales taxes to the government.
Summary
The HST can have a positive impact for the Canadian economy and for many industries, especially in manufacturing. Unfortunately, the same benefits will not apply universally to all industries, particularly to investment managers where cost recovery on inputs is minimal. More importantly, the HST represents an additional cost to investors and can impair investor savings. Mackenzie Financial Corporation, among other fund companies, strongly opposes the proposals as they currently stand. Government should be encouraging investors to save for their retirement and should not impose additional tax on savings. Accordingly, Mackenzie is actively engaged with industry groups and government officials working diligently to promote alternative strategies that would protect your savings and those of investors like you.
This article was prepared by Mackenzie Financial Corporation for Andray Domise, Independent Financial Advisor, who is an Investment Professional with International Capital Management.
Tags: HST, Investments, Mutual Funds
This entry was posted on Monday, November 23rd, 2009 at 6:55 pm and is filed under Investments, Mutual Funds. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.
