Canada to block tax-free income trusts

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TORONTO -- The Canadian entertainment sector was blindsided Wednesday with news that the federal government will stop Canadian corporations, including phone giants and broadcasters, from continuing to avoid corporate taxes by turning themselves into income trusts.

Federal finance minister Jim Flaherty late Tuesday proposed eventually taxing income trust payouts. That surprise announcement had an immediate impact on Canada's two largest phone giants, BCE Inc. and Telus Corp., both of which recently announced plans to convert themselves into income trusts.

Both companies said Wednesday that they will reconsider their conversion plans after Ottawa said it will close the popular tax loophole.

"We will assess the proposed changes over the coming days and evaluate our options," BCE president and CEO Michael Sabia told analysts during a conference call Wednesday as the phone giant released its latest financial results.

BCE had said on Oct. 11 that it planned to turn itself into an income trust. That announcement followed rival phone giant Telus proposing a similar move in September.

"As a result of the announcement by the federal minister of finance, there can be no assurance at this time that Telus will proceed with its proposed income trust conversion," Telus warned in a statement Wednesday.

Both firms saw their share price drop sharply on the news.

BCE saw its shares on the Toronto Stock Exchange fall CAN$3.20 ($2.85), or about 10%, to CAN$28.50 ($25.45) during morning trading, while Telus Corp. saw its stock fall CAN$8.05 ($7.20), or 14%, to CAN$49.30 ($44.00).

Income trusts avoid corporate taxes by distributing cash flows to shareholders, who are taxed personally. That departs from traditional practice where corporations pay dividends to shareholders and corporate taxes to Ottawa.

Income tax conversions have proved especially popular with Canadian broadcasters. CanWest Global Communications Corp. turned its newspaper operations into a tax-advantaged income trust, while Alliance Atlantis Communications Inc. did the same by spinning off a minority stake in its film distribution operation.

The CanWest MediaWorks Fund on Wednesday was off 7.5% to CAN$7.26 ($6.50), down CAN$0.59 ($0.52) during morning trading. Motion Picture Distribution LP, which holds a 49% stake in Alliance Atlantis' movie distribution arm, was down 7.3%, or CAN$0.60 ($0.53), to CAN$7.60 ($6.80).

Other Canadian entertainment companies caught up in Ottawa's income trust changes include Cineplex Galaxy Income Fund, Canada's largest cinema operator, which dropped CAN$2.16 ($1.90), or nearly 16%, to CAN$11.50 ($9.60), and CD and DVD manufacturer Cinram International Income Fund, which slipped CAN$0.45 ($0.40), or 2%, to CAN$21.70 ($19.40).

Montreal-based Astral Media Inc. said in June that it was considering its own conversion, while Standard Radio Inc. recently pulled plans to spin off part of its 51-strong radio station network into an income trust, citing "adverse market conditions."

As part of Ottawa's changes, current income trusts will have a four-year period before they lose their tax arbitrage, giving them time to reconfigure their corporate structures.
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