Douglas Barrett is a partner and a member of the KNOWlaw Group of the Toronto law firm of McMillan Binch.

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By now, everyone knows that the government has introduced a new refundable tax credit program to replace the Capital Cost Allowance tax shelter for film and television production. What is less well known is why the government established a new funding program in this toughest of deficit-cutting budgets

In fact, the program is a strong, even historic, example of industry/government co-operation leading to a more efficient use of public resources and substantial government cost reductions.

This column will tell the story of the development of the program and explain the transition process from tax shelter to tax credit. Our next column will address some of the technical issues relating to the tax credit and explain how producers will be able to arrange access.

Government distaste

for tax shelter

It has long been widely known that senior government officials, particularly in the Department of Finance, had an extremely strong distaste for the film tax shelter. They believed it was excessively ‘aggressive’ from a tax planning point of view, was an affront to their sense of tax ‘fairness,’ was inefficient in delivering resources for the intended public purpose, and was selective in its application.

Perhaps most importantly, the problem with the shelter was that it was not subject to government cost control: its cost was incurred as a loss of tax revenue to the government and not as an approved spending program.

Since the mid-seventies, the federal government has maintained a consistent policy of supporting the film and television production industry through various policy mechanisms. The reason for this continued support has much to do with the ongoing activist role on behalf of the industry of the Department of Communications (now known as the Department of Canadian Heritage).

While this support continues, there has been a growing recognition in recent years that the particular tax policy devices used to support our industry led to highly inefficient applications.

Industry wanted

simplicity, access

For its part, the independent production community has for some time expressed its strong desire for a simpler, less expensive and more accessible program.

Several years ago, Eleanor Olmstead, now of Nelvana, prepared a major study on a proposed new tax credit program for what was then the Canadian Film and Television Association, and lobbied hard with senior officials at the Departments of Communications and Finance for its implementation.

When the Canadian Film and Television Production Association hired Sandra Macdonald as its president in 1992, it set as one of her highest priorities the obtaining of a refundable tax credit in place of the tax shelter.

The cftpa’s position has been that a tax credit program could simultaneously be much less expensive for government and more remunerative for the industry.

Early on, Macdonald advised that no true progress would be made on the issue until both government departments and the industry reached a consensus on exactly how much the tax shelter was costing Canadian federal and provincial governments. It turned out the question was so complicated that even finding an individual whose opinion would be widely respected was a problem.

Breakthrough

The breakthrough came early last year when Canadian Heritage retained Satya Poddar of the accounting firm of Ernst & Young to undertake a study of the cost of the tax shelter program, and the possible implications of the introduction of a comparable tax credit.

Poddar was a former senior tax policy official in the Department of Finance and is widely respected for his tax policy analysis acumen.

In October 1994, Poddar completed and submitted his final report. In 70-odd pages of dense analysis and assumptions, he concluded that the cost of the shelter in 1993 was approximately $100 million, $60 million of which was ‘lost’ by the federal government and $40 million of which was ‘lost’ by provincial governments.

He further concluded that of the $100 million cost, roughly one-third ($30-$40 million) went to the production industry, with the remainder being equally divided between private investors and the financial services industry which created and maintained the shelters.

Despite some understandable debate over Poddar’s analysis and conclusions, they seem generally to have been accepted by Heritage, Finance and the associations which represent the film and television industry.

Extensive meetings

While Poddar was carrying out his study, both Canadian Heritage Minister Michel Dupuy and Finance Minister Paul Martin were approached by industry representatives to urge that the replacement of the tax shelter with a tax credit program be an urgent priority. Both Dupuy and Martin are said to have responded with openness and encouragement.

With this backdrop in place, meetings between officials of Heritage and Finance on the one hand, and the two principal producers’ associations on the other, began in earnest.

Representing the cftpa was a core group consisting of Macdonald, cftpa vice-chairman (and president of Allegro Films in Montreal) Tom Berry and president of Alliance Equicap, Jeff Rayman. Representing the apftq was its director general adjointe, Suzanne D’Amours, and Lorraine Richard, president of Cite-Amerique.

Most meetings were also attended by one or more additional delegates from the two associations.

Heritage’s representatives during the process were Robert Soucy, Guy Mayson and Jean Francois Bernier. Those representing Finance were Kevin Dancy, Len Farber and Jerry Lalonde.

Individuals from the industry who attended the meetings say they were conducted in a co-operative and pragmatic spirit with a strong sense that progress was being made towards common goals. Those goals included:

– Continued support for the film and television production industry at a similar level to that provided under the tax shelter;

– The creation of tax cost savings for both federal and provincial governments; and

– The replacement of the shelter with a more efficient, fair and accessible program which built on the success of the existing Quebec tax credit system.

To allegations that the companies which relied most on the shelter were likely doing their best to derail any move to a new program, observers have consistently countered with reports that Alliance and Atlantis, in particular, were strongly supportive and actively helpful throughout the entire process.

Financial effect of the new program

The proposed formula for the new refundable credit is the lesser of 25% of eligible wages and salaries, up to a maximum of 48% of the non-government funded portion of the budget of a production, and 12% of that budget. It is also commonly known that the current net ‘take’ for producers from the tax shelter is approximately 10% of production budgets.

It is fair to conclude that the 12% tax credit is intended to roughly equal the old 10% tax shelter rate in that there will likely be additional interim financing or other carrying costs associated with the timing of the actual receipt of tax credit proceeds. As a result, the goal of making the tax credit produce a similar level of support for the industry seems to have been achieved.

If this is so, the expected cost of the tax credit to the federal government should be in the order of $35 million to $40 million (using the 1993 production volume figures).

Many have expressed surprise that the film and television industry managed to persuade government to develop a new program which holds the line on the actual benefit delivered in a time of severe government restraint.

What is not apparently widely appreciated is that the tax credit program should actually save governments roughly $60 million to $65 million annually (again, using 1993 figures). Interestingly, more than half of this saving will benefit the governments of those provinces whose residents are active participants in tax shelter investments. This is because the federal government is replacing approximately $60 million of cost with approximately $35 million of cost, while the provincial governments are replacing roughly $40 million of cost with no new tax expenditure at all.

Transition period

While entitlement to access the new program begins immediately, those who wish to do so may utilize the current tax shelter rules throughout 1995. Given a number of practical transition issues, it is likely that many producers will continue to make active use of the tax shelter throughout this year.

Brad Sherman of Grosvenor Park Securities expects that this year will be a little quieter than last, but not much. When asked why producers would continue to use the shelter, he said succinctly, ‘Quantum, timing and certainty.’

First, he predicts that it will be some time before clear eligibility rules are developed and issued, and calls to government officials confirms this to be the case. Second, he says that the credits will not become available to producers as early in the process as he believes tax shelter proceeds can be made available, and the timing issues might make a tax shelter a little more attractive financially.

Finally, he says that the tax shelter’s degree of certainty is a ‘bird in the hand’ to those producers who don’t want to access the tax credit until the ‘bugs’ are worked out.

There is also the fact that projects which do not qualify for a 12% credit (because their labor costs are lower than 48% of budget) will find the shelter more attractive.

Whatever the actual level of tax shelter activity in 1995, everyone agrees that for 1996, the shelter has been killed dead, and the tax credit will be the only remaining tax policy device for supporting the production industry.

Observing from the vantage point of today, the new tax credit program appears to be a classic win/win example of industry/ government co-operation. Those representatives of the cftpa and the apftq and the officials of the Departments of Canadian Heritage and Finance who participated in the process deserve a great deal of credit. As well, the ongoing and active political support of both Heritage Minister Dupuy and Finance Minister Martin was critical to the success of the process and the implementation of the outcome.

(this article contains general comments only. It is not intended to be exhaustive and should not be considered as advice on any particular situation.)