As Canadians vote, Mounties, income trusts play a role

Jan 23, 2006 @ 12:01 am

By David Clarke

OTTAWA - Conservative leader Stephen Harper will be anointed as the next Canadian prime minister when polls close today, according to SES Research, a Toronto polling company, and he might have the Royal Canadian Mounted Police and an insider-trading scandal to thank.

Last Sunday, Conservative support stood at 37%, while the Liberals were at 29%, the social-democratic New Democratic Party at 18%, the separatist Bloc Quebecois at 11% and the Green Party at 5% nationally.

The Tories have the momentum, and a minority or majority Conservative win likely will end 14 years of Liberal rule.

That momentum started when the Mounties said Dec. 28 that they were conducting a criminal investigation into whether a tax ruling on income trusts was leaked to market participants before it was announced following the close of trading Nov. 23. Income trusts are investments that are structured in a manner similar to that of U.S. real estate investment trusts.

Political football

The announcement has turned the issue into a political football.

Mr. Harper proclaimed the as-of-yet-unproven allegations of insider trading part of "an ongoing pattern of scandal and corruption."

Susan Delacourt, author of a biography of Liberal Prime Minister Paul Martin, wrote that the RCMP statement "altered the dynamics of the campaign" and that Canada's national police have emerged as a fourth Liberal "political opponent."

"You don't have to be a shill for the Liberals to ask what the heck the Mounties thought they were doing in announcing a criminal investigation during an election campaign. What the RCMP did was inexplicable and quite wrong," Jeffrey Simpson, national affairs columnist for the Toronto Globe and Mail, wrote Jan. 6.

"Informed friends who know about RCMP practices are baffled," he said. "They've never seen anything like it before."

The Securities and Exchange Commission also has responded to an opposition Canadian politician about the issue.

"We are taking your complaint very seriously and have referred it to the appropriate people within the SEC," Ann Sulzberg, a special counsel for the commission, wrote in a Jan. 7 e-mail to Judy Wasylycia-Leis, finance critic for the New Democratic Party (InvestmentNews, Jan. 16).

Does the SEC have the jurisdiction to intervene?

"Obviously in the case of interlisted shares, it does," said Gerald Shepherd, a securities lawyer with the New York office of Toronto-based Davies Ward Phillips & Vineberg LLP. "In any event, since Sept. 11 the SEC has taken the view that they have a mandate to operate on a global basis."

The issue of income trusts appears to have begun snowballing in late summer.

On Sept. 19, the Canadian government announced a freeze on advance tax rulings for such investments. On the same day, Toronto-based CI Fund Management Inc., Canada's second-biggest independent seller of mutual funds, announced plans to convert to an income trust.

Then, in a surprise announcement after 6 p.m. on Nov. 23, Finance Minister Ralph Goodale said that he planned to reduce taxes on dividend-paying stocks to try to make them competitive with income trust units. A flurry of trading in dividend-paying stocks preceded the announcement (InvestmentNews, Dec. 12).

Investors were making "an educated judgment, which is their function in the marketplace," Mr. Goodale said in an interview with the Toronto Star on Jan. 10.

There was a "good possibility of an announcement coming before the House [of Parliament] dissolves, an election inevitable in a matter of days - it's going to be bad news? Duh, no! It's not going to be bad news. That does not take a rocket scientist to figure out," he said in the interview.

The RCMP will be tested by the task of finding out who may have benefited from any advance information about Ottawa's plans for income trusts. "It certainly will be difficult," said Nathalie Desch%EA;nes, an RCMP spokeswoman.

Forensic accountant Al Rosen said he is convinced there was a leak of information.

"I'm 90%-plus sure, but once again, in our business we have to be 100% sure," Mr. Rosen, president of Rosen & Associates Ltd. of Toronto, said in an interview with CBC News.

In any event, income trusts are here to stay.

"We are supporters of income trusts, and we oppose tax measures that would raise taxes on income trusts," Conservative Party finance critic Monte Solberg said Jan. 11. He is widely expected to become finance minister if the Tories win.

Mr. Solberg has represented Red Deer, Alberta, in Parliament for 13 years.

In the meantime, politics still is hampering CI Financial Inc.'s pledge to distribute more of its earnings to shareholders.

"We've got to get through this election. Managing our taxes is an important part of managing CI from here on in," Bill Holland, chief executive of CI, Canada's third-largest mutual fund company, said in a Jan. 11 conference call to equity analysts.

"Our intention is to distribute almost all of the earnings of CI. Whether we should distribute it as dividends or through a trust structure and have our owners receive it as income really depends on what the dividend tax rate is," he said.

There is some doubt, notwithstanding the controversy, over the feasibility of the Finance Department's policy.

"While taxable accounts under the new tax credit will be roughly indifferent between income trusts and corporations, that won't be true for a broad part of the market," said Jack Mintz, president and chief executive of the think tank C.D. Howe Institute of Toronto and professor of taxation at the Joseph L. Rotman School of Management at the University of Toronto.

Mr. Mintz told the audience at Insight Information's fourth annual Income Trust Conference in Toronto on Jan. 12 that "60% to 65% of the market is still going to be very interested in holding income trusts."

'A very delicate game'

"The federal government is playing a very delicate game," said Bill Lawson, an associate professor at the Eric Sprott School of Business at Carleton University in Ottawa. "The Goodale policy is just the first period."

Will the alleged-leak investigation prompt Canada to create a national securities regulator?

The Tories have paid lip service to the idea. But other regulatory matters come first.

In a Jan. 2 speech, Mr. Harper proclaimed that the first priority of a Conservative government would be passage of a federal accountability act intended to ensure ethical, corruption-free government.

"A lot depends on if the Conservatives win a majority," Mr. Lawson said. "If they don't, the same old provincial rivalries will stand in the way."

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