Forgotten Conservative campaign promise reappears in Finance Minister's State of the Economy briefing.

Canada is in great shape! The Finance Minister says so, which means it must be true. We’re the only country in the G7 that will run a surplus this year and next. Our taxes are heading down, both for corporations and individuals. The national debt will be steadily reduced, with the goal of eliminating government net debt within a generation. Yep, things are just fine, folks. Income trusts? Never heard of them!

That was the gist of what Jim Flaherty told a Commons committee recently. He threw out a lot of figures and targets during his presentation, backing them up with a lengthy 71-page document that was full of graphs and tables. It was all very impressive, and all worthy of an election platform.

You’ll have to forgive me if I am a little sceptical about anything the Finance Minister says these days after the reversal he and his party did on the income trusts file. However, I think we have to take Mr. Flaherty at face value this time around if only because the Conservatives can’t afford another major policy about-face. Of course, whether he will ever deliver all those goodies is another matter. First, his party has to be returned to power in the election that will almost certainly take place next year. Second, the economy must co-operate by delivering the tax revenues contained in his forecasts. Neither is a certainty.

I was particularly interested in the Finance Minister’s reference to a reduction in the tax on capital gains. He didn’t put a lot of emphasis on it; in fact it was almost an aside. One of his goals, he said, is to “reduce taxes on savings, including on capital gains, to make Canada’s system more competitive”.

However, the fact that he mentioned capital gains at all is interesting. You may recall that the Conservative campaign platform included a very specific promise on this issue. In “Stand Up for Canada”, which is still available for review on the Conservative website, the party promised to “Eliminate the capital gains tax for individuals on the sale of assets when the proceeds are reinvested within six months. Canadians who invest, or inherit cottages or family heirlooms, should be able to sell those assets and plough their profits back into the economy without taking a tax hit. It is time government rewarded Canadians who reinvest their money and create jobs”. (Page 9 of the document.)

Once they were elected, however, they back-pedalled on that one very quickly. The word trickled out of Ottawa that the plan was more complex and costly than the Conservatives had anticipated and when Mr. Flaherty brought down his first budget in April there was no mention of it. At that point, it was widely assumed the capital gains promise was dead meat, the first of the Tory pledges to go down the drain.

Now the idea seems to have resurfaced, albeit in a much less specific form. The Finance Minister did not go beyond saying he wants to “reduce” capital gains taxes. That’s a long way from the ambitious plan set out in the platform that would have virtually eliminated capital gains taxes except in a few situations.

But the fact he mentioned it at all will revive debate on the subject and fuel speculation that the issue will be addressed in his 2007 budget. It also raises a dilemma for investors who hold income trusts in non-registered portfolios and who are considering reducing their exposure to the sector. That’s because, even with the correction that followed the Oct. 31 announcement, many trusts purchased before 2005 (and even some bought since) would trigger taxable capital gains if sold now.

For example, Peyto Energy Trust was recommended in my Internet Wealth Builder newsletter in September 2003 at a split-adjusted price of $9.95. The shares were trading on Dec. 5 at $18.26 which means that anyone who bought at the time of the original mention is looking at a capital gain of more than 80% if they sell now. This is not an isolated case by any means.

So investors who want to sell off some still-profitable trusts face a dilemma. Should you act now and trigger the tax bite or hold off in the hope that the Conservatives will come through with their capital gains changes sooner rather than later?

My advice is not to let the right investment decision be sidetracked by a possible future tax change. If it makes sense to sell now, do so. If you have some trusts that are down and have indifferent prospects going forward, you might want to dump some of them too so that you’ll have some capital losses to offset part of your gains.