By now you’ve probably heard that Finance Minister Jim Flaherty announced today a new tax on income trusts. The decision has drawn lots of criticism, especially since it comes just three weeks after BCE proposed the biggest trust conversion in our nation’s history. Telus was another major corporation looking to transform itself to an income trust.

So what the heck is an income trust? That’s been my question throughout all of this. According to Wikipedia:

An income trust is an investment trust that holds income-producing assets. The term also designates a legal entity, capital structure and ownership vehicle for certain assets or businesses. Its shares or “trust units” are traded on securities exchanges just like stocks. The income is passed on to the investors, called “unitholders”, through monthly or quarterly distributions.

Interestingly, the article also points out that they are most common here in Canada.

Anyway, that definition helps a little, but not a lot. When I heard that “BCE wants to turn itself into an income trust”, I thought, “but they are a company?” So if I understand things correctly, they just wanted to save some money on taxes, and becoming an income trust would allow them to do so. And indeed, as the CBC article points out, BCE would have saved itself $800 million in taxes by 2008. That’s some serious dough.

Actually, it turns out the CBC article is more helpful in understanding things:

Trust conversions are increasing in popularity because trusts do not pay corporate tax. Instead, they pay out most of their income in distributions to unitholders, who then pay tax on those distributions at a preferential rate.

Clearly, the government was not happy that it would be losing so much tax money. Existing trusts have a four year grace period until the new tax takes effect, while new trusts face the new rules immediately.

I don’t know if this is a good thing or not. I simply don’t understand things enough to say one way or the other. Certainly the markets don’t like the new rules. My feeling is that companies like BCE and Telus simply discovered a weakness in the laws and sought to exploit it. The government realized it had a problem, and took immediate action. Which one of them is correct? I don’t know. Tax avoidance probably isn’t a good thing for the country, but on the other hand, the companies were not breaking any rules. I can only hope that Mr. Flaherty’s rhetoric about income trusts hurting the economy is true, and not just a statement made up for his own purposes.

Read: CBC News