How Canada got into bed with tax havens

On a cold December afternoon in 1980, with MPs' voices echoing in the mostly empty chamber, the House of Commons debated a piece of legislation that has altered Canada's economy profoundly.

Bill S-2 aimed to ratify a series of taxation treaties between Canada and countries like Spain, Korea, Austria and Italy. Also on the list: the tiny Caribbean island country of Barbados, population 250,000.  

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Before the final vote was called, a fresh-faced Bob Rae, at the time the NDP's finance critic, rose to speak against it. Necktie askew, he warned that there had been precious little study of the consequences of signing a treaty that, like the one with Barbados, would drastically cut the tax rate for Canadian companies operating abroad.

"The government is entering into these tax treaties without being fully aware of the impact they will have on domestic taxation in Canada," Rae said. "Money that is income and is not being taxed at the corporate level, on which the government receives no revenue, has the unfortunate effect of increasing the load of taxation on the average citizen."

His protestations didn't stop the bill. After another hour of tepid debate, with a quick murmur of assent from the Liberal and Conservative MPs, the House passed it and it was signed into law the next week.

Canada's favourite tax haven

Fast-forward to today: Barbados, a tax haven, is the No. 3 destination for Canadian money going abroad. Corporations and wealthy Canadians have moved nearly $80 billion there — behind only the U.S. and U.K. as an investment destination. There's more Canadian money parked in Barbados than in France, Germany, Italy, Japan and Russia combined. 

The Caribbean island is arguably where Canada first seriously waded into the waters of offshore, legal tax avoidance. Canadian companies you might never expect — Petro Canada, Loblaws, Eldorado Gold — have had affiliates there for years, while Canadian banks have branches on many street corners.

"Barbados was like the entrance to the offshore network," said Alain Deneault, a Quebec sociologist and university lecturer who has written several books about tax havens.

"You create a subsidiary in Barbados. You send to that subsidiary some assets, and from there on you may transfer the assets, once more, to another tax haven, to another subsidiary where Canada has no link."

Part of the draw is Barbados's corporate tax rate of between one and 2.5 per cent. And once that modest amount is paid, thanks to the 1980 tax treaty any leftover profits earned at a subsidiary based or linked to there can be brought back to Canada tax-free.

So while Apple routes its non-U.S. profits through Ireland and into the British Virgin Islands to avoid tax, and Google stashes its foreign earnings in Bermuda, the legal tax haven of choice for Canadian businesses' foreign operations for many years was Barbados.

Alarms raised, but nothing done

It's meant potentially huge revenue losses for the Canadian government — which federal auditors general have taken pains to point out multiple times.

In 1992, Auditor General Denis Desautels dedicated an entire section of his annual report to the "schemes" companies use to shrink their tax bills.

He pointed to a company, not named, that shifted $318 million in investments to a subsidiary in Barbados. The investments earned $37 million over just six months, on which a sliver of income tax was paid to Barbados. The rest could be sent back to Canada tax-free, and then paid out as dividends to the company's shareholders — who themselves would enjoy generous dividend tax credits. Meanwhile, the parent company, having borrowed money to fund its subsidiary, deducted the interest it was paying as an expense and ended up with a loss on its books in Canada — so it paid no tax here.

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"These tax rules are being used to ... move Canadian corporations' income offshore, and convert income of Canadian corporations into tax-free income," Desautels wrote. "It is reasonable to conclude that hundreds of millions of dollars in tax revenue have already been lost."

Parliament held hearings in the wake of those concerns, and small tweaks were made, but nothing to shut down the free flow of money from Canada into the Caribbean.

A decade later, the next auditor general, Sheila Fraser, again flagged the issue, writing that Canadian companies took in "$1.5 billion of virtually tax-free dividend income from their affiliates in Barbados" in 2000. "Tax arrangements for foreign affiliates have eroded Canadian tax revenues of hundreds of millions of dollars over the last 10 years," she said.

More havens, not fewer

Groups of MPs have tried several times over the years to staunch the tax bleeding. In 2005, Bloc Québécois MP Guy Côté introduced a motion, in vain, to shut down the Barbados schemes. His party has another, similar measure in front of Parliament now.

But instead of curtailing legal, offshore tax avoidance, Canada has effectively broadened it.

Since 2009, Ottawa has signed a rash of deals with two dozen other tax havens. Called tax information exchange agreements, they are designed to compel offshore locales such as the Cayman Islands, Liechtenstein and the Isle of Man to cough up details on Canadians who have money and accounts there.

In exchange, Canada grants each of those countries the same treatment as Barbados — Canadian companies are able to set up subsidiaries there and bring home business profits tax-free.

The outflow of money from Canada into tax havens has only proliferated.

Sociologist Deneault says it's fundamentally unfair.

"These corporations benefit from public infrastructures. They use roads, they have access to water, to electricity. Their employees are trained by the state. They benefit from the social system. But they don't pay for it," he said. "They don't pay their fair share and they know how to manage it so they don't."

Rae: 1980 view 'still stands'

Looking back, Bob Rae feels vindicated. Watching the footage of his younger self during an interview last week, he said the argument he was making 36 years ago in the Commons "still stands."

"You have a means for people who are rich enough and people who are shrewd or clever enough, they can move their money around from one jurisdiction to another depending on the tax rates and the tax treatments of that money, whether it is individuals or companies," he said.

"And eventually in order to pay the bills, [governments] have to increase personal taxation."

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Send tips on this or any other tax haven story to zach.dubinsky@cbc.ca