Canadian Royalty Trusts in Need of an American Revolution

Several days ago, I wrote an article entitled “Canadian Royalty Trusts Will Never Return to Their Former Glory." The article ginned up pros and cons and overall a great discussion. It covered the punishing changes the Canadian government inflicted on American investors. But with all the back and forth, I and the others missed the important point. Americans believe that Canada is not a third world country where the rules change daily and an investor is taken for a ride and then discarded when no longer serving a useful purpose. But that is what happened to every American who invested in Canadian Royalty Trusts.

Let me make one thing perfectly clear: none of this is the responsibility or fault of the hard working men and women who run Canada’s Oil and Gas Industry.

The best example of that is Canadian Oil Sands Trust (COSWF.PK) CEO, Marcel Coutu. Non-Canadians cannot own a majority percentage of these trusts. Coutu of Syncrude fought to increase that foreign ownership percentage several years back. Coutu was partially successful. Coutu is a true internationalist in that in his eyes all investors are "created equal". Coutu and others felt that Prime Minister Harper had been duplicitous with them in Mr. Harper’s campaign rhetoric. Coutu and others took their fight all the way to the Gates of Ottawa and then pounded on the Gates. Mr. Coutu lost and so did we.

Prime Minister Harper’s Government enacted a law that raised Canadian withholding tax on Americans and then raised taxes on the Canadian Royalty Trusts themselves starting in 2011. There was one notable exception to the withholding: Canadians who hold the Trust Units in an approved pension or retirement account could avoid the withholding increase.

The Canadian Royalty Trusts came to the US in dire need of equity capital. They couldn't get it in Canada for the price and the amount they wanted. That's why they put up with the paperwork and costs of dual international listings. They presented Americans with a very rosy picture of benefits to the investor.

So we Americans bought in.

Canada is a sovereign country that has an inalienable right to change the rules and derive the benefits and the consequences of her actions.

But what they don't have is a right to take our money and then put us on an inferior footing with a Canadian investor.

President-elect Obama has stated that part of his mission is to smooth out unfairness in free trade. He can start here with the little guy and gal who put his and her money on the table and then had the table rigged on them.

Obama can tell Mr. Harper that we in the US have no problem with Canadian Sovereignty but if you come here looking for money we want equal treatment.
Americans should receive the same benefit a Canadian receives holding these units in an approved pension or retirement account and the same benefit a Canadian receives with un-limited ownership capability of an American company with the exception of national defense.

President-elect Obama then should say to Mr. Harper that many middle class Americans placed trust in their Canadian investments and that trust is in trouble.

President-elect Obama should point out that it was American money that funded the great Canadian expansion and made many Canadians rich in the process. He should add that rich Canadians are a benefit to all of us and us Americans, after putting up our money, want equal benefits.

President-elect Obama should further say to Mr. Harper that while the price of commodities will fluctuate and company fortunes can wane, if you ask for our money do not make us second class investors; which Harper has done.

This is one area where President-elect Obama can do something for the little guy and gal and free trade.

We need another American Revolution and darn if it doesn’t have the word Royalty in it a second time around.

Comments

[longoil:]

Steven Ward said
>>>President-... Obama should point out that it was American money that funded the great Canadian expansion and made many Canadians rich in the process. He should add that rich Canadians are a benefit to all of us and us Americans, after putting up our money, want equal benefits.<<<

Well, Steven Harper can turn around say Americans should be very grateful that Canada (a strong and faithful ally of the US for the last 196 years) is providing 60% of its Oil and Gas output and reducing its dependancy on oil from despots in unstable countries like Venezuela, Saudi Arabia and Russia who wish nothing but ill will towards the United States.

Furthermore, if Obama reopens NAFTA, Canada can renegotiate America's preferential access to Canadian resources. There are plenty of other takers (China, India, etc) in the world for Canadian resources (oil, gas, water and electricity), if the USA starts being difficult to deal with.

2008 Nov 26 08:25 AM

[viva:]

LOL. Obama's rhetoric is not worth the hot air used to generate it. He will not defend fossil fuels. He is owned by the greenies. Put propellers on the drilling rigs and you may have a case. Even with that, when your political philosophy is equalized outcomes, you cannot defend anyone wanting to invest and get ahead of the pack. So he will keep his mouth shut.

2008 Nov 26 08:58 AM

[je:]

While I did not agree with your previous paper you make a good point here but maybe we ar ejumping the gun. Maybe they feel as Ido in that the trusts will prosper and they want to take advantage of that early on.

I think the Oct surprise right before the election in 06 was more to helpstabilize the money leaving this country for Canada more than anything else. These were really gaining momentum.

While there may be some that reduce dividends I think that low priced oil is temporary andhas been driven to low extreems by the hedge funds selling. The dollar is headed down. The hedge funds will be back. The Canadian currency will appreciate. And these trusts might have the safest yields on the planet when thedust settles.

2008 Nov 26 09:59 AM

[mc2406:]

The Canadian government was able to change their laws with respect to royalty trust ownership in part because they knew our government leaders would do nothing about it.

Anyone who thinks the Canadian royalty trust issue as it affects American investors will get anywhere near Obama's (or the media's) radar screen is kidding themselves. He will not do anything related to confronting a nonhostile foreign government about niche economic policies toward America as part of his administration.

2008 Nov 26 10:10 AM

[Steven Ward:]

In response to money leaving Canada, what did they expect comming here and asking for American capital.

If Americans write one paragraph to Obana in any sizeable number it may have an action un anticipated by the doubters. Canada will not sell her oil to anyone but us. The Canadians know where the largest market in the world is.

2008 Nov 26 10:49 AM

[enviro111:]

The Canadian government mostly screwed their own investors and themselves. The stocks of these trusts have dropped 50, 75 even 90% since the halloween massacre. The tax take is quite small from the new higher taxes, but the loss of capital gains is gigantic - $50 billion and counting. Add in the royalty increases and environmental mandates, there will be little left over for the investors in oil sands.

2008 Nov 26 11:01 AM

[Glen Breaks:]

I'm not sure the information in the article regarding witholding tax is correct. I am a Canadian and I hold trusts both inside an approved pension plan and outside in a regular non-registered account. There never was a "withholding tax" for Canadian owners of these trusts, either inside a pension plan or outside. Distributions received in the non-registered plans were always subject to regular full taxation in the hands of the investor.

The big change for us is that in 2011 the Government will tax these trusts at the Company level which means the distrbutions will likely be cut by about 25% or so. For the non-registered Canadian account this means little or no change to the bottom line as the new smaller distribution will now(after 2011) come with a tax credit which makes the distribution tax free.
For CDN registered accounts the tax credit cannot be used, so these are the accounts that will suffer. They will simply receive 25% less in distributions.

Of course I agree that the decision to tax these trusts was awful, especially after all of the promises made by Harper while campaigning.
By creating this trust tax Harper has made a lot of money for various foreign owned private firms (many in the US) who have been able to come in and grab these assets for pennies on the dollar. This was made possible for them by the huge drop in value of the trusts after Haper announced his tax. I do not believe that this was an "unintended consequence" as some have suggested, I think that this tax ahs been carefully planned out to do exactly what it has done.

Interestingly, once the assets are taken over by these foreign companies, no tax will ever be paid to Canada, exactly the reverse effect to that which the Government claimed the new tax would have.


On Nov 26 10:49 AM steve Ward wrote:

> In response to money leaving Canada, what did they expect comming
> here and asking for American capital.
>
> If Americans write one paragraph to Obana in any sizeable number
> it may have an action un anticipated by the doubters. Canada will
> not sell her oil to anyone but us. The Canadians know where the largest
> market in the world is.

2008 Nov 26 11:32 AM

[Nugie:]

I have read both of Mr. Wards articles Nov. 24 and Nov. 26. While I found them informative I also got a sense that Mr. Ward has a large axe to grind, possibly because he was burned by the changes that were announced on Holloween of 2006. My suggestion to him is "Get Over It". Governments change tax structures all of the time. I do believe Mr. Wards point about equal taxation for all is important to contintunity of investments in any foreign countrys securities. Most countrys don't want their resources exploited by foreigners; however if they want the money needed for investment they must deal equally with everyone who invests. In regards to Mr. Wards comments on the survival of Canadian Royalty Trusts, he will be right in some cases and wrong in many others. Each Trust should be examined on it's own investment merits, the same way you would look at individual stocks. The ones with strong innovative management teams and good business plans will survive and flourish and the ones with bad management will die on the vine. It is wrong for Mr. Ward to paint all Canadian Investment trusts with the same broad stroke of his tainted paint brush. I have worked in executive positions in the financial services business for over 40 years and have been an investment advisor, money manager and risk manager. I just started selectively adding Canadian Royalty Trusts to my IRA 3 months ago. In a hostel economic environment like the one we are currently in there are very few places that you can find good yield in companies that have good growth potential and wise managements. There are enough well managed Trusts that you can find good investments with reasonable payout ratios that have long lasting reserves or long term contracts for their services. If Mr Ward thinks oil and gas prices are going to stay at low levels for any length of time than he should do a bit more homework on world oil supplies and forward consumption. I for one will take what I can get in yield from my Trusts till 2011 is upon us. These trusts pay an average yield of 17% at current price levels while yields on U.S. stocks are still less than 4% and no less risky than Canadian Royalty Trusts. Of course I could always buy U.S. Treasurys and still get less than 4% in an economy where the U.S. government us pouring 7 trillion in to prop up it's financial system in a deflationary cycle. Mr. Ward next time you are going to paint an investment picture for the many readers of Seeking Alpha please be more objective about painting all investments with the same broad stroke, and keep sour grapes out of it. Because you are not capable of picking the good Trusts from the bad that is not a reason to make them all look bad.

2008 Nov 26 11:50 AM

[Paulo:]

Those who got burned the most by Halloween 2006 were those whose portfolios had a ridiculous proportion of Canadian Royalty Trusts in them (regardless of nationality). And yes, more than a few of the trusts were lemons anyway (and you would have regretted owning a Canadian royalty trust index).
Halloween 2006 actually increased the vulnerability of Canadian royalty trusts to foreign (i.e. American) ownership and taxes payable to Canada are likely to decrease, as Glen Breaks notes above.
Going forward, investors have the task of identifying the best of these trusts, and, given the overhanging political and economic uncertainties, determining what proportion of their accounts should reasonably be put into these things.

2008 Nov 26 01:24 PM

[smsnead2:]

I asked this on the other article and I didn't realize there was already a follow-up. Anyway, I'll ask the question here too:

Some of you are very well-versed in the world of CANROYs. I am just beginning my research. To some of you that have done extensive research, which are the best available on the NYSE? Which are the worst? And based on what criteria? What are the key ratios and statistics one should use when evaluating these trusts? Any advice would be greatly appreciated?

2008 Nov 26 02:58 PM

[longoil:]

smsnead2,

Debt-to-equity ratios and reserve life indexes are some of the parameters used to evaluate Canroys.

If you want simple to read, but well researched recommendations on Canroys and MLPs, I suggest Kurt Wulff's website.

www.mcdep.com/energyin...

2008 Nov 26 03:14 PM

[Steven Ward:]

I have never owned any Canroys but two which I;m happy with. They are Canadian Oil Sands Trust and Crescent Point. I do not paint all Canroys with a tainted brush, just 90 percent of them.

In response to Glen Breaks: Your perspective and benefits are from the Canadian perspective not the American perspective. Our situation will be different in units held in an approved IRA or 401K as it currently stands. Also, the US government allows a tax credit for the 15 percent withholding but after 2011 is the large question. While Obama may not raise taxes his administration certainly will not advance credits for the investor class.
As far as inaccuracies go just read Penn West's 2007 annual report I quoted it in my previous article. If you are a Canadian you are fine, if you are not you are a second class investor.

2008 Nov 26 03:50 PM

[thor_92108:]

I believe Mr. Ward is on the right track here.While I had plenty of good critiques in his previous Nov 24th article in this one I find him to be on the money so to speak however getting governments to reduce or change taxation is a daunting task. Obama's election machine works on grass roots so Mr. Ward's exhortations might work ..here's hoping they do

2008 Nov 26 04:06 PM

[January Thaw:]

Thanks for this article. Not only do we hope for fair treatment, but we also
would appreciate honest treatment. We were assured by their government
that they would NOT raise taxes, that they would continue the trust form
of investment...and then once they garnered all the income from us they
changed the rules...It was a basic shell game. It was not honest.
I would hope that there would be some way for investors to be compensated for the money they lost based on that false promise. I lost
my total inheritance based on that promise. I am sure I am not alone.
I am no stranger from investing in the oil patch, and I am used to the
vicissitudes of the industry...but I have never encountered the amount
of false information as I've encountered with the Canadian Government.

2008 Nov 26 06:00 PM

[Devastated:]

Drop dead Nugie (8th comment on the list).

One week Harper backed the trusts and the next week he changed the rules. Really! Approximately 7 days before, he gave assurances. Then "suddenly" came the rule change with no public discussion and behind the backs of the trusts and investors.

The Globe and Mail published an article on how the dishonorable, Jim Flaherty, ran around behind the scenes in secret to put together Conservative support to carry out this fraud. And it is fraud. Money was taken under false pretenses. Criminal, to say the least. Mr. Flaherty was very proud of himself. This article was no expose. It touted Mr. Flaherty's great achievement.

This leads me to the issue of the NAFTA law suit that is currently under way on behalf of US and Mexican investors. I have signed on and I urge other Americans to do so as well. You can get further details at:
www.naftatrustclaims.c...

There is provision in this treaty to go after this kind of treachery. Participants have been located with the help of several Royalty Trusts. Maybe Steven Ward could look into this law suit and give it some much deserved publicity?

One more note: Let's not forget about the Canadian Association of Income Trust Investors - CAITI - who have lobbied for the trusts: caiti.info

2008 Nov 26 09:44 PM

[DuffBeer:]

This Bud's for you, I checked out some of your responses,They Sound Like ME !!!!
We beer lover's think alot alike . Just what I wanted a civil rights attorney and wife as our President. and he they are from Chicago city of the dead vote forever, a crew of 12 to 18 to fill ONE pot hole !!!!!
Blaming President Bush will go on for ever. When a bunch
of my and wife's donkey thinking relatives get together I play a game .
What policies did former Dems come up with that really screwed things up. I do not mention who the President was and guess who they always blame . You got it !!! President Bush
Cheers,
DuffBeer


On Nov 26 08:58 AM this Bud's for you wrote:

> LOL. Obama's rhetoric is not worth the hot air used to generate it.
> He will not defend fossil fuels. He is owned by the greenies. Put
> propellers on the drilling rigs and you may have a case. Even with
> that, when your political philosophy is equalized outcomes, you cannot
> defend anyone wanting to invest and get ahead of the pack. So he
> will keep his mouth shut.

2008 Nov 27 11:55 AM

[longoil:]

DuffBeer,

I play a similar version of game with my democrat friends

1) Which president ended slavery ?
2) Which president enacted legislation which made the KKK a terrorist organization ?
3) Which president ended segregation ?
4) Which president was the first to appoint blacks to key positions in his cabinet ?

In every case, the answer is a republican president.
1) Abraham Lincoln in 1865
2) Ulysses S. Grant in 1871
3) Dwight D. Eisenhower in 1954
4) George W. Bush appointed both Colin Powell & Condoleeza Rice to cabinet positions in 2001 and 2005

Many democrats failed to remember their own history. The Democrat party was full of segregationists up until the late 1960 when Kennedy realized that this was a valuable voting constituency and paved the way for the 1964 civil rights legislation.

2008 Nov 27 03:33 PM

[Glen Breaks:]

Steve, the following paragraph which seems to be the central point of your article is the one that is incorrect :

Prime Minister Harper’s Government enacted a law that raised Canadian withholding tax on Americans and then raised taxes on the Canadian Royalty Trusts themselves starting in 2011. There was one notable exception to the withholding: Canadians who hold the Trust Units in an approved pension or retirement account could avoid the withholding increase

If you are referring to post 2011, this is not so, in fact my retirement account is the account that will get hit with the full tax, which will be in the 25 to 30% range.
On the other hand my non-registered account will not get hit at all.

The way it works for Canadians is this:

After 2011 the CDN Government will tax the income of these trusts exactly the same way they do all other corporations, in fact most trusts will convert to corporations at that point or before.
This means that ,all other things such as commodity prices being equal, the distributions paid out to the individual investor will be smaller by the amount of this tax, expected to be roughly 25%.

The good news is that those Canadians receiving these distributions or dividends (as they will be termed after 2011) in non-registered accounts will receive a tax credit worth about the same amount as the 25% tax.

This is the same way that all dividends from Canadian Corporations are treated now. This means that we while we will get a smaller distribution than prior to 2011, the new distribution will be tax free, so the post 2011 bottom line for non-registered accounts is almost identical to what it is now.

For the retirement accounts you mentioned, there is no avoidance of the new tax, the tax credit cannot be used. In these accounts we will simply receive 25% smaller distributions after 2011. When these funds are drawn from the account they will be fully taxable, so for these accounts, this is really double taxation of the same income.


It is somewhat of a complicated situation, so I hope my explanation clears things up.

Yes, there are differences in the way US and Canadian investors are treated here, but there also were differences in place before this new tax. I won't go into all of those details because it would take up too much space, but I will say that there are also differences in the tax treatment of my US stock dividends versus the way the same income is treated in the hands of a US investor.




On Nov 26 03:50 PM steve Ward wrote:

> I have never owned any Canroys but two which I;m happy with. They
> are Canadian Oil Sands Trust and Crescent Point. I do not paint all
> Canroys with a tainted brush, just 90 percent of them.
>
> In response to Glen Breaks: Your perspective and benefits are from
> the Canadian perspective not the American perspective. Our situation
> will be different in units held in an approved IRA or 401K as it
> currently stands. Also, the US government allows a tax credit for
> the 15 percent withholding but after 2011 is the large question.
> While Obama may not raise taxes his administration certainly will
> not advance credits for the investor class.
> As far as inaccuracies go just read Penn West's 2007 annual report
> I quoted it in my previous article. If you are a Canadian you are
> fine, if you are not you are a second class investor.
>

2008 Nov 28 10:01 AM

[longoil:]

The Canadian conservative government might be tossed out as early as next week. They were recently reelected back as a minority government on October 14, 2008.

This week they proposed a contentious 30 million dollar cut in the federal budget. This money would normally go to the opposition parties based on the number of votes they got during the last election. Obviously, the aim of the cut was to deprive his political rivals of funding and open the possibility for a majority conservative win.

All opposition parties (Liberals, NDP, Green Party, etc) have vowed to vote against the budget which would lead to a non-confidence vote and toss Steve Harper and his cronies out 6 weeks after reelection. Unfortunately, I don't think it will come to this. Harper will probably back it out at the last moment.

The name conservative is very misleading. The current conservative party is formed from old conservatives and an ultra-right faction called the reform party. Harper is true fascist and his tendencies has been demonstrated several times when fired government officials that have publicly disagreed with him including the head of the RCMP and Canada's nuclear safety watchdog.

I hope the Harper and his sycophants get kicked out next week. I am still aching from the Halloween massacre of Income Trusts his government implemented after they said they would not touch them.

2008 Nov 28 11:07 AM

[Glen Breaks:]

I'm with you longoil, let's hope he is done in by his own Chess move.

He's now made it clear to all that his only interest in Canada is in gaining more power for himself. From a speech he made in the early days we know that he has no love for his own Country, only shame, calling it the "Great Northern European Welfare State and proud of it"


His antics this week show that the deteriorating world financial situation is no concern to him, it's just another excuse to put the boots to his political rivals.

Hopefully he will fall on his own sword and who knows, his sneaky and punitive tax on income trusts may be repealed by the next Government, as was promised by the Liberals had they won the election.


On Nov 28 11:07 AM longoil wrote:

> The Canadian conservative government might be tossed out as early
> as next week. They were recently reelected back as a minority government
> on October 14, 2008.
>
> This week they proposed a contentious 30 million dollar cut in the
> federal budget. This money would normally go to the opposition parties
> based on the number of votes they got during the last election. Obviously,
> the aim of the cut was to deprive his political rivals of funding
> and open the possibility for a majority conservative win.
>
> All opposition parties (Liberals, NDP, Green Party, etc) have vowed
> to vote against the budget which would lead to a non-confidence vote
> and toss Steve Harper and his cronies out 6 weeks after reelection.
> Unfortunately, I don't think it will come to this. Harper will probably
> back it out at the last moment.
>
> The name conservative is very misleading. The current conservative
> party is formed from old conservatives and an ultra-right faction
> called the reform party. Harper is true fascist and his tendencies
> has been demonstrated several times when fired government officials
> that have publicly disagreed with him including the head of the RCMP
> and Canada's nuclear safety watchdog.
>
> I hope the Harper and his sycophants get kicked out next week. I
> am still aching from the Halloween massacre of Income Trusts his
> government implemented after they said they would not touch them.
>

2008 Nov 28 10:54 PM

[Steven Ward:]

To Glen Breaks, thanks for the info. Also, I'm not happy that Canadians maybe mis-treated on their US investments.

A lower distribution with a tax credit. Sounds like the old definition of a tie football game, "like kissing your sister".
At least you get the tax credit and I'm sincerely happy for fellow my fellow Canadian investors.
I've never argued for one world government, just look at the UN. yuk!!!
But Canada is a member of the English speaking family of countries as is the US and with an established legacy of property rights.
Canada and the US as well, should live up to the ideal if not the letter of property rights.
That should be on the NAFTA renegotiation for both countries.

On the investment side: the Canroys should convert sooner as I opined in my first article. I strongly believe that the defenders of any delay are still chasing yield and that is not good for their overall return.

2008 Nov 30 09:13 PM

[longoil:]

Glen,

Have you been watching the news lately ? Harper caved in as I predicted and shelved his plan to cut $28 million in public subsidies that political parties receive for each vote.

The scary part is the Liberals and NDP still want to topple the government and form a new government. I don't like Harper and his gang, but I despise the ultra left NDP and Jack Layton even more. Not only will Layton keep the scheduled 2011 removal of income trust structure in place, but he also insist on raising the corporate tax rate (and/or removing tax breaks for E&P) for these energy companies and reduce our dividend payments even more. It is not surprising that Layton and Obama are good friends.

2008 Dec 01 12:24 PM

[Glen Breaks:]

Well it is getting interesting isn't it?

It's a hoot with the selfproclaimed ToughGuy Harper getting the Queen's rep to lock the doors of Parliament so that he doesn't get turfed form his job over the next couple of months. Then there is the strange agreement between the three oppostion parties. It maybe isn't all that strange though given that Harper was trying for the same setup in 2004 when he wanted to knock the liberals out of power.
In addition, in this case, Harper really put a gun to the heads of the opposition parties and this was their only defence. It might work yet!

Anything could happen, the Tories could get a new leader, looks like the liberals will get Iggy and we could have yet another election or even the dreaded coalition, though I think not likely.
There is still faint hope that the trust tax will get killed, but only if Harper and flaherty go.

Glen


On Dec 01 12:24 PM longoil wrote:

> Glen,
>
> Have you been watching the news lately ? Harper caved in as I predicted
> and shelved his plan to cut $28 million in public subsidies that
> political parties receive for each vote.
>
> The scary part is the Liberals and NDP still want to topple the government
> and form a new government. I don't like Harper and his gang, but
> I despise the ultra left NDP and Jack Layton even more. Not only
> will Layton keep the scheduled 2011 removal of income trust structure
> in place, but he also insist on raising the corporate tax rate (and/or
> removing tax breaks for E&amp;P) for these energy companies and reduce
> our dividend payments even more. It is not surprising that Layton
> and Obama are good friends.

2008 Dec 08 02:46 PM