DEFINITION of 'Halloween Massacre'

The Halloween Massacre refers to Canada's decision to tax all income trusts domiciled in Canada. In October 2006, Canada's minister of finance, Jim Flaherty, announced that all income trusts would be taxed in a similar manner as corporations at a rate over 30% on taxable income, causing unit holders' values to decrease dramatically virtually overnight.

BREAKING DOWN 'Halloween Massacre'

Income trusts, which were permitted to make distributions to unit holders on a pretax basis under previous Canadian income tax laws, were a popular investment vehicle in the early 2000s, especially in Canada. The Canadian energy sector was hardest hit by the change, and suffered an estimated loss of about $35 billion to investors, giving rise to the term "massacre".

Financial Upset

A Canadian Income Trust is an investment fund that holds income producing assets and distributes payments to unitholders, or shareholders, on a regular periodic basis. Distributions are usually made quarterly or monthly. The Canadian Income Trust must distribute a minimum of 90% of its net cash flows. Tax advantages to investing in a Canadian Income Trust include advantages to both the investor and the entity itself.

The investor receives a portion of the periodic payment as a return of capital and a portion as a taxable distribution. The trust entity distributes most of its cash to shareholders or unitholders, leaving little left retained by the entity, so there is little left to tax. The trust pays out most of the earnings to unit holders before paying taxes, and is usually traded publicly on a securities exchange.

This change in the Canadian tax law, which was largely debated after the fact, was made to remedy a perceived loss of tax revenue. At the time, noted Bloomberg News, there were some 250 trusts listed on the Toronto Stock Exchange, with many offering enticing yields of 10%. The surprise move by the government shocked investors and caused an immediate 12% decline in the value of the trusts.

In the decade since, interest rates have been low in Canada and the U.S. as investors have clamored for more yield like the kind that income trusts once provided. Still, as of 2018 income trusts were still available, mostly real estate investment trusts (REITs). These entities hold and maintain income-producing real estate, including office buildings, shopping centers and hotels, and Canada still offers special tax treatment. When income flows through to unit holders, they don’t pay much, if any, corporate tax and most of the distributions are taxed as ordinary income.

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