Canadian stocks plunge on trust tax decision

Canadian stocks had their biggest decline in nearly five months Wednesday after the government said it would begin taxing income trusts, companies whose securities make up about 10% of the country’s main equity benchmark.

Shares of Telus Corp. and BCE Inc., the nation’s two biggest phone companies, plunged on speculation that they might not follow through on their plans to convert to the trust structure, which avoids most corporate taxes by distributing much of a company’s cash flow directly to investors.

“We expected the market to be down and dirty on this, and it is,” said John Priestman, a money manager at Guardian Capital in Toronto.

The Standard & Poor’s/TSX composite stock index in Toronto plunged 294.20 points, or 2.4%, to 12,050.39. That cut the year-to-date gain to 6.9%.

The decisions in recent weeks by BCE and Telus to become trusts may have forced the government’s hand because of the potential loss of tax revenue, analysts said. Over the last six years, the number of trusts has tripled to about 250 as companies have converted to the structure to avoid taxes.

In announcing the move, Canadian Finance Minister Jim Flaherty said the advantage that trusts enjoyed over standard corporations was “not fair.”

Trust shares have been favored by many individual Canadian and foreign investors seeking high cash payments to boost retirement income. The government’s plan will raise many investors’ taxes on trust distributions as well.

Existing trusts won’t be subject to taxes until 2011, but new trusts would be taxed as of next year, Flaherty said.