Generating a Green Tax Policy For Renewable Electricity in Canada
| Author | Ron Dueck |
| Position | University of Victoria, Faculty of Law |
| Pages | 90-111 |
90 n APPEAL VOLUME 12
GENERATING A GREEN TAX POLICY FOR RENEWABLE
ELECTRICITY IN CANADA
Ron Dueck, University of Victoria - Faculty of Law
Ron Dueck is currently articling in Vancouver with Farris, Vaughan, Wills & Murphy LLP. Prior to completing
an LLB from the University of Victoria, Ron received a Joint Honours degree in Philosophy and Religious
Studies from the University of Waterloo.
CITED: (2007) 12 Appeal 90-111
INTRODUCTION
Recent federal governments have been committed to policies reducing Canada’s green
house gas emissions through the promotion of green energy development.1 Tax measures have
been a vital instrument in working towards these policies. However, while recent tax measures
have achieved a more level playing field between fossil fuel and green energy project develop-
ment, they have proven insufficient to mitigate the primary obstacles to green energy market
growth—significantly higher up front capital investment requirements and consequent higher
financing risks and costs. This paper asserts that if tax instruments are to result in meaning-
ful market growth for green energy, they must be developed out of a market transformation
perspective which addresses these barriers. In doing so, this paper examines: (1) the recent tax
policies of the Department of Finance (“Finance”) within the context of the federal govern-
ments’ broader sustainable development policies; (2) environmental market perspectives and
economic frameworks in which tax measures can function as economic instruments to encour-
age the development of green energy; and (3), in light of these environmental policies and
market perspectives, the tax instruments that have been introduced by Finance and the extent
to which they have reached their objectives.
PART I - Sustainable Development and Green Energy Policies
In 1995, the federal government began implementing a broad governance policy of sus-
tainable development. Providing a legislative foundation for these policies, the government
1 It is helpful to distinguish between renewable and green energy. The term “renewable energy” is generally used to refer
to electricity produced from sources “that can be reasonably replenished within a human lifetime by either natural means
[including include wind, solar, hydro, geothermal, biomass and ocean energy (tidal and wave)] or human assistance [e.g.,
replanting of crops used for biofuels]”. “Green energy” is generally used to refer to environmentally optimal electricity
produced from natural sources of wind, solar, hydro (small-scale run-of-the-river), geothermal, and ocean (tidal and wave)
energy. While there is disagreement as to whether large-scale hydro should be viewed as green energy (as it has been in-
creasingly associated with negative ecological and socioeconomic impacts), for the purposes of this paper it will be excluded.
The same is true of biomass, which is a carbon fuel emitting GHGs. Organization for Economic Co-operation and Devel-
opment/International Energy Agency, Energy Market Reform: Power Generation Investment in Electricity Markets (Paris:
OECD/IEA, 2003), online: Organization for Economic Co-operation and Development/International Energy Agency
www.iea.org/dbtw-wpd/Textbase/publications/free_new_Desc.asp?PUBS_ID=1202> [OECD, “Energy Market Reform”].
APPEAL VOLUME 12 n 91
amended the Auditor General Act to define “sustainable development” as “development that
meets the needs of the present without compromising the ability of future generations to meet
their own needs”.2 The following year, the government outlined its sustainable development
policy as a three-fold integration of economic growth, social well-being and environmental
protection.3 Renewable energy and energy conservation were stated to be “key components of
the federal government’s climate change and sustainable development priorities”.4
Implementing its sustainable development policy on the international stage, the federal
government became a signatory to the Kyoto Protocol (“Kyoto”) in 1997. Under Kyoto, Cana-
da committed itself to reducing its greenhouse gas (“GHG”) emissions to 6 per cent below 1990
levels by 2008–2012. In practice, this commitment is much larger than it first appears. At the
time of signing, Canada’s GHG emissions were already 13 per cent above 1990 levels, and had
risen to almost 24 per cent above 1990 levels by the time the federal government ratified Kyoto
in 2002.5 Without increased government measures, Natural Resources Canada estimates that
Canada’s GHG emissions will increase to 26 per cent above 1990 levels by 2008–2012.6 The
OECD International Energy Agency (“IEA”) estimates this figure to be almost 34 per cent.7
It is generally agreed that reducing GHG emissions from fossil fuels8 will require a dual sup-
ply and demand approach: a reduction of energy demand (by reducing consumption through
the development of more efficient energy technologies) and an increase of non-GHG-emitting
energy production. In November 2002, one month before its ratification of Kyoto, the federal
government released its “Climate Change Plan for Canada” containing over ninety federal and
provincial programs aimed at reducing GHG emissions in Canada through the dual supply and
demand approach.9 A fundamental objective of this plan was the development and commis-
sioning of green energy through the Wind Power Production Incentive (“WPPI”). The WPPI
allocated $260 million over fifteen years through feed-in tariffs10 with the goal of installing
1000 MW of wind farms.11
The Climate Change Plan of Canada was superseded in 2005 by a new plan entitled “Mov-
2 Auditor General Act RSC 1985, c. A-17, s. 2. This definition of sustainable development, as well as the long title of the Act,
“An Act respecting the office of the Auditor General of Canada and sustainable development monitoring and reporting”,
were added by amendment in 1995 (SC 1995 c.43).
3 Canada, House of Commons, Keeping a Promise: Towards a Sustainable Budget , The Federal Government Response to
The Eighth Report of the Standing Committee on Environment and Sustainable Development, (Ottawa: Department of
Finance, July 1996), at 5.
4 Canada, House of Commons, Sustainable Development Strategies: Using the Tax System and Managing Office Solid
Waste, Chapter 3, Report of the Commissioner of the Environment and Sustainable Development to the House of Com-
mons (Ottawa: Public Works and Government Services, 2004), at 3–6 [Public Works, “Using the Tax System”].
5 Canada, House of Commons, Government Support for Energy Investments, Chapter 3, 2000 Report of the Commissioner
of the Environment and Sustainable Development (Ottawa: Office of the Auditor General of Canada) online: Office of the
Auditor General of Canada
6fd57c4419eb02f9852568e9004d6ee9?OpenDocument> at 5 [Auditor General].
6 Ibid.
7 Organization for Economic Co-operation and Development, Energy Policies of IEA Countries: 2004 Review (Paris: OECD,
2004) online: International Energy Agency – Energy Publications
Desc.asp?PUBS_ID=1465> at 122 [OECD, “Energy Policies”].
8 The main source of GHG emissions in Canada (and elsewhere) is the production and consumption of energy derived from
fossil fuels, as demonstrated by the top three GHG contributing sectors: transportation (25 per cent), fossil fuel production
and distribution (19 per cent), and electric power generation (17 per cent). See David R. Boyd, Unnatural Law: Rethinking
Canadian Environmental Law and Policy (Vancouver: UBC Press, 2003) at 84.
9 Canada, Department of Finance, Sustainable Development Strategy 2004-2006 (Ottawa: Department of Finance, March
2004) at 19 [SDS 2004-2006].
10 While there are several types of feed-in tariff mechanisms, those introduced by the federal government have taken the
form of a premium paid by the government on the market purchase price of electricity purchased by electricity utilities
from green power producers, generally on a kilowatt per hour basis, thereby enabling green energy producers to bid more
competitively against non-renewable energy producers.
11 Canada, Natural Resources, Wind Power Production Incentive (Ottawa: Natural Resources Canada, 2002), online: Canadian
Renewable Energy Network ww.canren.gc.ca/app/filerepository/B13F241FE43A4584A993B21ECEFB9ADD.pdf>.
92 n APPEAL VOLUME 12
ing Forward on Climate Change: A Plan for Honouring our Kyoto Commitment”. The plan qua-
drupled the WWPI, allocating $920 million over fifteen years to increase the generating capac-
ity of wind farms by 4,000 MW, and established the Renewable Power Production Incentive,
providing $97 million over five years to increase the generating capacity of run-of-the-river
hydroelectric, biomass, and tidal installations to 1000 MW.12 The current government cancelled
both of these plans in 2006, launching a new ecoENERGY Renewable Initiative program in
2007. The ecoENERGY Initiative allocates $1.5 billion over the next ten years to increase the
generating capacity of renewable energy installations by 4,000 MW through feed-in tariffs for
renewable energy projects.13
Despite the positive steps taken by these programs, the IEA projects that by the year 2020
green energy sources will account for only 0.08 per cent of Canada’s total energy production.14
While this represents a market growth of 60 per cent over green energy’s current share of
Canada’s total energy production (0.05 per cent), it remains well below the amount needed
to significantly offset GHG emissions. As illustrated in Figure 1, whereas combustible energy is
projected to continue to account for over 90 per cent of Canada’s energy production in 2020,
green energy production remains invisible.15
FIGURE 1
TOTAL CANADIAN ENERGY PRODUCTION FROM 1988-2003 WITH PROJECTIONS TO 2020 a
a
Derived from data supplied by the Organization for Economic Co-operation and Development/In-
ternational Energy Agency, Energy Policies of IEA Countries (Paris: OECD/IEA, 1988–2005), online:
International Energy Agency – Energy Publications g/dbtw-wpd/Textbase/pub-
lications/index.asp>.
12 Canada, Natural Resources, Backgrounder: Wind Power Production Incentive (Ottawa: Natural Resources Canada, Decem-
ber 2005), online: Natural Resources Canada News Room - Backgrounder - 2005/12a
newsreleases/2005/200512a_e.htm>.
13 Canada, Natural Resources, Backgrounder: ecoENERGY Renewable Initiative: Increasing Canada’s Renewable ecoENERGY
Supplies (Ottawa: Natural Resources Canada, February 2007), online: Natural Resources Canada News Room - Back-
grounder 2007-01-19 .
14 Calculated from data provided by Organization for Economic Co-operation and Development/International Energy Agency,
Energy Policies of IEA Countries: 2005 Review (Paris: OECD/IEA, 2005), online: International Energy Agency – Energy Pub-
lications extbase/publications/free_new_Desc.asp?PUBS_ID=1803> at 431 [OECD, “Energy Policy
Data”].
15 Ibid.
1988
1990
1992
1994
1996
1998
2000
2002
2010
2020
700
600
500
400
300
200
100
0
MTOE (MILLION TONS OF OIL EQUIVALENT)
Biomass and Waste
Large Hydro (>= 10 MW)
Coal
Oil and Gas
Nuclear
APPEAL VOLUME 12 n 93
The continuing dominance of fossil fuel production is explained at least in part by Canada’s
energy policy. As a member of the IEA, Canada’s energy policy seeks to balance environmental
protection with energy security and economic development—collectively referred to as the
“3Es”.16 The rapid growth in energy demand experienced by IEA countries, including Canada,
has made this balance increasingly difficult, often resulting in priority given to energy security
and economic development.17 The IEA estimates that global energy demand will increase by
1.7 per cent per year over the next three decades requiring US$10 trillion of investment in the
electricity sector alone.18
As public purses do not have such resources, IEA countries have agreed that mobilizing
private investment “will require the lowering of regulatory and market barriers and the creation
of an attractive investment climate”.19 While this policy appears to be succeeding in addressing
energy security concerns, the increased competition for project investment capital has created
difficulty for green energy projects to acquire financing. In the deregulated European electricity
markets, renewable energy projects have had tremendous difficulty securing project financing,
as lenders have been unwilling to bear the higher risks inherent in renewable projects.20 Lend-
ers that have agreed to take on certain risks have generally insisted on relatively high debt to
equity ratios and significantly shorter loan maturities as compared with large fossil fuel power
project financings.21
Noting that energy security objectives may also conflict with sustainability goals of reduc-
ing GHG emissions, the IEA has stated:
These goals can be both complementary and contradictory. More secure en-
ergy would normally promote long-term economic development, but can in-
volve higher costs. And higher energy consumption associated with econom-
ic growth can increase pollution. Devising policies that strike the right balance
between the “3Es” and that embrace cost-effective approaches to achieving
them are, and will remain, at the heart of the IEA’s mission. … How to meet
climate change and sustainable development objectives while enhancing the
security of energy supplies and economic and social development.22
Renewable energy is increasingly being considered by policy-makers as “striking the right
balance” between energy and environmental objectives.23 Canada’s National Round Table on
the Environment and the Economy has identified numerous economic, social, and environmen-
tal benefits that Canadians will gain from the development of green technology (in addition
to the resulting reduction in GHG emissions), including development of new energy resources,
reduced health care costs, increased competitiveness of the domestic renewable industry, and
16 OECD, “Energy Policies”, supra note 7 at 39.
17 Organization for Economic Co-operation and Development, Mobilising Energy Technology: Activities of the IEA Working
Parties and Expert Groups (Paris: OECD, 2005) online: International Energy Agency – Energy Publications
iea.org/Textbase/publications/free_new_Desc.asp?PUBS_ID=1514> at 9 [OECD, “Mobilising Energy”].
18 OECD, “Energy Policies”, supra note 7 at 34–5.
19 Ibid. at 35.
20 Peter Gish, “Project Financing of Renewable Energy Projects in Europe: An Improving Market,” (1999) 22 Suffolk Transna-
tional Law Review 405–440.
21 Ibid. at 426.
22 OECD, “Energy Policies”, supra note 7 at 39.
23 Organization for Economic Co-operation and Development, Renewable Energy: Market and Policy Trends in IEA Countries
(Paris: OECD, 2004) online: International Energy Agency – Energy Publications extbase/publica-
tions/free_new_Desc.asp?PUBS_ID=1263> at 37 [OECD, “Renewable Energy”].
94 n APPEAL VOLUME 12
the creation of new jobs.24
PART II - Green Market Policies and Tax Instrument Rationales
While IEA members agree that green energy must be made economically competitive in
order for the IEA to achieve both environmental and energy security objectives,25 there is no
consensus as to how to do so. “Just as all markets are exceedingly varied and complex, appar-
ently so are the instruments that might be used to frame or modify those markets”.26 However,
nearly every IEA member country has developed tax measures of one sort or another as an
economic instrument to improve green energy markets.27
An inherent advantage of tax measures when compared to other economic instruments
is their capacity to be broad performance-based measures which leave market choices to par-
ticipants and avoid the risks associated with instruments that pick winners.28 Moreover, tax
measures have a greater capacity to provide a comprehensive approach to achieving multiple
objectives, resulting in lower administrative costs and less piecemeal results.
Environmental tax measures are broadly categorized as either environmental taxes or tax
expenditures. Environmental taxes have been defined as a tax whose base “is a physical unit
(or a proxy for it) of something that has a proven specific negative impact on the environment,
when used or released”.29 Environmental tax expenditures, on the other hand, are generally
thought of as “deliberate departures from otherwise applicable taxes in order to encourage the
[environmentally positive] activity at which the incentive is directed”.30 The development of tax
measures in either category has generally occurred according to three market perspectives: (1)
reducing market inefficiency barriers, (2) encouraging research, development and deployment,
and (3) creating market transformation.31
2.1) MARKET EFFICIENCY PERSPECTIVE
The market efficiency perspective views the adoption of green energy, as with any mar-
ket decision, as an economic process involving decisions between investors and consumers.32
Where the prices of goods and services accurately reflect their real costs and benefits, these
24 National Roundtable on the Environment and the Economy, State of the Debate: Economic Instruments for Long-term
Reductions in Energy-based Carbon Emissions (Ottawa: National Roundtable on the Environment and the Economy,
2005) online: National Roundtable on the Environment and the Economy
current_programs/EFR-Energy/EFR-SOD-Report/Full-Report/200507-EFR-SOD-FullReport_Introduction_E.htm> at 16–9
[National Roundtable].
25 OECD, “Mobilising Energy”, supra note 17 at 35.
26 Ryan H. Wiser, The Role of Public Policy in Emerging Green Power Markets: An Analysis of Marketer Preferences (Berkeley:
Environmental Energy Technologies Division, Ernest Orlando Lawrence Berkeley National Laboratory, 1999) online: Envi-
ronmental Energy Technologies Division, University of California at 33.
27 It is beyond the scope of this paper to evaluate the suitability of these various instruments to Canada’s economy, and so
they are not listed here. An excellent overview of the various tax measures employed by each OECD member country is
provided by the OECD in Renewable Energy: Market and Policy Trends in IEA Countries (OECD, “Mobilising Energy”,
supra note 17). The IEA also maintains an updated online database at: International Energy Agency
org/textbase/pamsdb/grlist.aspx?by=policy>. An excellent database on state, local, utility, and selected federal incentives
in the United States is published online by The Database of State Incentives for Renewable Energy (DSIRE) online: Database
of State Incentives for Renewable Energy
28 National Roundtable, supra note 24 at 26.
29 David G. Duff, “Tax Policy and Global Warming” (2003), vol. 51, no. 6 Canadian Tax Journal, 2063-2118, 2068.
30 Ibid. at 2078.
31 Organization for Economic Co-operation and Development/International Energy Agency, Creating Markets for Energy
Technologies (Paris: OECD/IEA, 2003) online: International Energy Agency – Energy Publications
Textbase/publications/free_new_Desc.asp?PUBS_ID=1100> [OECD, “Creating Markets”].
32 Ibid. at 12.
APPEAL VOLUME 12 n 95
transactions will result in an optimal allocation of capital.33 Accordingly, this perspective seeks
to identify and correct economic barriers which prevent markets from efficiently allocating the
costs and benefits involved in any given transaction.34 The two main market barriers identified
under this perspective are (1) energy externalities and (2) non–level playing fields as a result of
uneven government subsidies.
2.1.1) Energy Externalities
[Externalities] occur in a market transaction if any of the costs or benefits
involved in it are not accounted for in the price paid for the product that is
exchanged. If there are costs that are external to the market (i.e., the buyer
does not pay some of the costs incurred in producing the product), a nega-
tive externality occurs. If there are external benefits, a positive externality
occurs.35
Where product externalities are not properly accounted for in unit prices, markets fail to
allocate distributed costs and benefits, thereby creating inefficiencies and resulting in market
failure.36 Economic instruments may correct this failure by internalizing externalities in unit
prices, thereby enabling consumer preference to reflect actual costs and benefits, and resulting
in greater market efficiency.
As concerns green energy, the market efficiency perspective aims to provide market partici-
pants with “a policy framework that provides a basis to select the best energy choice at the op-
timal price while internalizing externalities related to energy security, environmental protection
and economic development”.37 Economists generally agree that the most effective instrument
by which to accomplish this internalization is a carbon or CO2 tax imposed on the unit price of
carbon goods, whereby the external costs incurred as a result of GHG emissions and other pol-
lution are internalized in the unit price of the carbon.38 In addition to market efficiency, a carbon
tax has also been rationalized as “compensating owners of the ‘environmental commons’ for
the environmental injury they cause and to minimize future harm”.39
While externalities and injury caused by carbon combustion are difficult to calculate with
certainty, it seems to be a general principle that “some level of environmental taxation may be
more likely to promote economic efficiency than no tax at all”.40 Moreover, a nominal amount
may be necessary in light of the inability of economic analysis to “determine whether environ-
mental costs should be measured by an affected population’s willingness to pay to be free from
environmental harm (which assumes a polluter’s right to pollute) or its willingness to accept a
payment in order to suffer the harm (which assumes a basic right to be free from pollution)”.41
33 Ibid.
34 Ibid. at 83.
35 Ibid. at 67.
36 Julia Reinaud, The European Refinery Industry Under the EU Emissions Trading Scheme: Competitiveness, Trade Flows and
Investment Implications (Paris: IEA Publications, November 2005) online: International Energy Agency – Energy Publica-
tions extbase/publications/free_new_Desc.asp?PUBS_ID=1577> at 3.
37 OECD, “Renewable Energy”, supra note 23 at 38.
38 “Taxes on energy or energy-related CO2 emissions were first adopted in a number of northern European countries in the
early 1990s. Such taxes are now found in Austria, the Czech Republic, Denmark, Estonia, Finland, Germany, Italy, the
Netherlands, Norway, Sweden, Switzerland, and the U.K.”. Lynn Price,Christina Galitsky & Jonathan Sinton, Tax and Fis-
cal Policies for Promotion of Industrial Energy Efficiency: A Survey of International Experience (Berkeley: Environmental
Energy Technologies Division, Ernest Orlando Lawrence Berkeley National Laboratory, September 2005) online: Environ-
mental Energy Technologies Division, University of California
Galitsky, & Sinton].
39 Duff, supra note 29 at 2069.
40 Ibid. at 2077.
41 Ibid. at 2071.
96 n APPEAL VOLUME 12
Whichever measure is utilized, studies have indicated that carbon taxes “generally achieve their
objective of reducing emissions” by reducing demand for the product taxed.42
But what of its effect on green energy development? Theoretically, if energy prices more
accurately reflected actual costs of consumption, fossil fuel would cost more and the price
of green energy would be more competitive, thus resulting in green energy gaining market
share.43 However, this will only be the case where consumers have the choice to choose green
energy as an alternative. As most green energy is electrical, and as electrical generation is con-
trolled by tendering processes under provincially regulated utilities in Canada, a carbon tax on
end-use consumers will have little impact on green energy demand.
Thus, a carbon tax will only result in green energy market growth through tax shifting,
whereby revenue generated from the tax is earmarked for green energy development, or other
environmentally beneficial projects. For example, a carbon levy imposed on gasoline sales might
be dedicated to funding green energy projects—or tax expenditures to promote such projects.
Such shifting has been criticized as illegitimate under a market efficiency perspective, under the
assumption that it will result in a distortion of green energy price signals and thereby contrib-
ute to market inefficiencies.44 However, this criticism fails to take into account that whereas
a carbon tax internalizes the negative externalities resulting from fossil fuel consumption, a
dedicated use of the revenues to facilitate market deployment of green energy internalizes the
positive externalities resulting from green energy consumption—namely the displaced costs of
GHGs. This internalization of both positive and negative externalities through carbon tax shift-
ing has been described as realizing “double dividends”—reduced consumption of fossil fuels
and an increased production of green energy.45
2.1.2) Un-level Playing Fields
Playing field inefficiencies do not involve externalities, but rather focus “on direct project
revenues and costs from the perspective of the investor”.46 A market playing field is uneven
where the costs of goods and services are subsidized through government expenditures in an
uneven manner such that profit margins fail to reflect the costs of production thereby resulting
in inefficient allocations of capital investment. However, rectifying an uneven playing field is
not as simple as removing uneven subsidies. The inefficient allocation of project capital results
in an entrenched market advantage for the previously subsidized producers which remains
well after the original subsidies have ceased. This entrenched advantage is a result of existing
projects with lower financing costs, more developed technology, and entrenched consumer
preferences.
Within the Canadian tax system,
[t]he relative tax treatment of competing energy investments is a long-stand-
ing policy issue. At its core is the perception that the tax system, through a
variety of incentive provisions, favours non-renewable energy investments,
chiefly in oil and natural gas, to the detriment of renewable energy and
energy efficiency investments.47
42 Price, Galitsky & Sinton, supra note 38 at 6.
43 OECD, “Creating Markets”, supra note 31 at 65, 84; and Duff, supra note 29 at 2079.
44 Ibid.
45 The concept of “double dividends” has more commonly referred to tax shifting whereby the revenues from a carbon tax
are used to reduce other taxes such as income taxes. However, as the subject of this paper is tax measures which will en-
courage the growth of green energy, this paper focuses on the concept of earmarking revenues for green energy.
46 Canada, Natural Resources Canada, The Level Playing Field: The Tax Treatment of Competing Energy Investments (Ot-
tawa: Natural Resources Canada, 1996) online: Natural Resources Canada
html> at 5 [NRCan, “The Level Playing Field”].
47 Ibid. at 3.
APPEAL VOLUME 12 n 97
In contrast to the double dividend afforded by carbon tax shifting, tax instruments which
are preferential to oil and gas result in double costs to consumers: first in the provision of tax
expenditures, and second in bearing the negative externalities produced both at the time of the
subsidies and as a result of the entrenched market advantage.48 Further, to the extent that the
government introduces additional tax expenditures in order to level the playing field, taxpayers
may in effect bear the cost of subsidizing two industries with no net effect.49
2.2) RESEARCH, DEVELOPMENT AND MARKET DEPLOYMENT PERSPECTIVE
Whereas the market efficiency perspective adopts a narrow approach to identifying mar-
ket barriers as impediments to market efficiency, the research, development, and deployment
(“RD&D”) perspective adopts a broader approach, identifying barriers as anything that inhibits
market expansion of green technology.50 These may include institutional, financial, and social
barriers. Further, whereas environmental tax measures under the market efficiency perspective
are limited to efficiency objectives, measures under the RD&D perspective aim to transform
market decisions by encouraging “economic actors to adopt more environmentally sensitive
alternatives” through the promotion of “environmental awareness and shared responsibility
for creating a better environmental future”.51 This rationale allows tax instruments to take into
account “factors other than marginal costs and benefits” in their development and serve to
promote awareness “through conveying information about environmentally harmful activities,
fostering different attitudes regarding their costs and benefits, and encouraging alternative
activities with less deleterious environmental consequences”.52
While acknowledging that market efficiency objectives alone may be insufficient to achieve
sustainable market patterns, influencing market behaviour must nonetheless be balanced with
efficiency concerns. Illustrating this balance, the RD&D approach aims to create a “virtuous
cycle” between the laboratory and the market, whereby the “learning” that occurs in one
arena reinforces the “learning” that occurs in the other.53 It has been consistently demonstrated
that the benefits incurred from subsidized research and development, namely increased tech-
nological capacity and decreased technological costs, are amplified through incentives which
encourage their market deployment.54 Subsidized deployment serves to further reduce techno-
logical costs through increased economies of scale in equipment production and installation,
and increased RD&D performance gains through “learning by doing”.55
Within both the laboratory and the market, the RD&D approach identifies institutional
barriers such as
48 Petition from Mr. Charles Caccia, c/o Institute of the Environment, Friends of the Earth Canada, Pembina Institute for Ap-
propriate Development and Sierra Legal Defence Fund to the Auditor General of Canada, “respecting federal tax and other
subsidies to the oil and gas industry that undermine government spending and regulations aimed at complying with the
Kyoto Protocol and fighting climate change”, October 3, online: Sierra Legal
AGPetition-oct0305.pdf> at 35 [Petition].
49 For example, the Pembina Institute has claimed, “[i]t makes absolutely no sense for the Government to use our taxes—and
almost nothing but our taxes—to reduce CO2 emissions and, at the same time, use even more of our taxes to provide
massive subsidies which increases them”. Ibid., citing Jim McNeill, The Art of the Possible: Environmental Sustainability
through a Political Glass, Darkly, speech at the University of Ottawa, May 5, 2005.
50 OECD, “Creating Markets”, supra note 31 at 19.
51 Duff, supra note 29 at 2070.
52 Duff, supra note 29 at 2077, 2075.
53 OECD, “Creating Markets”, supra note 31 at 42.
54 Market evidence demonstrates that the rate at which “the cost of using a new technology falls and its technical perfor-
mance improves as sales and operational experience accumulate”. The implantation of this cycle through economic instru-
ments in a 77 per cent reduction in photovoltaic modules in Japan and a 50 per cent cost reduction for wind turbines in
Germany. Duff, supra note 29 at 53–4.
55 National Roundtable, supra note 24 at 98; See also OECD, “Creating Markets”, supra note 31 at 46.
98 n APPEAL VOLUME 12
market acceptance and demand, permitting and community acceptance,
intermittency of the resource, proximity of resources to transmission grids,
insufficient transmission capacity, dearth of resource mapping, lack of engi-
neering standards and national technical rule making, shortages in trained
technical labour, and a wide variety of policies and regulations that, inadver-
tently perhaps, give preference to other technologies.56
Theoretically, Canada’s energy market deregulation should provide increased opportunity
to overcome these barriers through “[a]ccelerated technological progress due to an infusion
of entrepreneurial dynamism and increased competition”.57 However, this green dynamism is
limited by increased competition for investment capital from investors who seek to maximize
returns on investment. Canadian investment surveys have confirmed what would reasonably
be expected: energy investors prefer incumbent technologies with established track records and
quicker payback periods.58
The inability of green energy to satisfy the investment criteria of energy investors is largely
the result of six financial barriers:
1. higher capital costs;
2. market structures which divorce consumer preference and technological development
choices;
3. uncertainties in respect of market subsidies
4. difficulties attracting capital given the inherently higher investment risks involved in
green technology;
5. disproportionately higher financing costs as a result of these increased risks; and
6. market preference for incumbent technologies.
2.2.1) Higher Capital Costs
In respect of the first barrier, while renewable energy projects are able to tap into virtually
free fuel sources, their high up-front capital costs make it difficult to access these inexpensive
resources. This high capital cost translates into higher prices for green electricity. Green gen-
eration costs are generally on par with the wholesale prices charged by incumbent electricity
providers (see Figure 2). Thus, in order for renewable energy projects to generate competitive
retail electricity, they must be able to directly sell their electricity to customers.59 However, the
structure of electrical utilities in Canadian provinces generally prohibits this possibility. Further,
insofar as market restructuring achieves its objective of lowering energy prices, the challenge
for green sources to generate competitively priced electricity will only increase.60
56 National Roundtable, supra note 24 at 55.
57 Organization for Economic Co-operation and Development/International Energy Agency, Toward a Sustainable Energy
Future (Paris: OECD/IEA, 2001) 102, online: International Energy Agency – Energy Publications
base/publications/free_new_Desc.asp?PUBS_ID=1119> [OECD, “Energy Future”].
58 Auditor General, supra note 5 at 5.
59 “Except for large hydropower and combustible renewables and waste plants, the average costs of renewable electricity are
not widely competitive with wholesale electricity prices. However, depending on the technology, application and site, costs
are competitive with grid electricity or commercial heat production”. OECD, “Energy Policies”, supra note 7 at 61.
60 Dallas Burtraw, Karen Palmer & Martin Heintzelman, Electricity Restructuring: Consequences and Opportunities for the
Environment (Washington: Resources for the Future, 2000) at 20, online: Resources for the Future
Documents/RFF-DP-00-39.pdf)>.
APPEAL VOLUME 12 n 99
FIGURE 2
COST COMPETITIVENESS OF RENEWABLE POWER TECHNOLOGIES – 2004 AVERAGE b
Note: Cost calculation is based on system investment needed (capital cost is based on discount rate of 6% and amortization period of
15-25 years and power output. Lowest cost range to optimum conditions (i.e., proven technology, optimal plant size and design, and
high availability of system and resources. Source: NET Ltd. Switzerland
b Figure provided by Organization for Economic Co-operation and Development, Renewable Energy:
Market and Policy Trends in IEA Countries (Paris: OECD, 2004) online: International Energy Agency
2.2.2) Market Structures as Barrier to Consumer Preference
The customer disincentive of higher retail prices for green energy might be offset in part by
customer preferences to secure the positive externalities of green energy. However, only in Al-
berta and Ontario do retail customers currently have the capacity to enter into power-purchase
agreements with different providers and thereby express market preference for green energy.
Moreover, even in these markets, consumer choice is limited to electrical companies that have
already gained access to the electrical grid. As discussed above, access remains controlled by
provincially owned or regulated utilities, and thus end-use customer demand has limited ability
to exert economic market influence on technology decisions in respect of grid level generation
capacity. Within Canadian energy markets, the real customers of green energy are in effect the
provincial regulators and utilities. As end-use consumers are unable to exert market demand for
green energy, these utilities have limited economic incentive to tender green generation when
less expensive electricity can be generated from non-green technologies.61
2.2.3) Uncertainty with Respect to Market Subsidies
Some governments have attempted to address this issue by introducing various feed-in
subsidizations to utilities, whereby governments subsidize the difference between the market
price of non-green and green energy thereby enabling publicly owned or regulated utilities to
efficiently tender green energy (these mechanisms are discussed below). Such was the case
with the WPPI of the previous federal government and the proposed ecoEnergy Renewable
Initiative of the current government. However, where the duration and application of such
mechanisms cannot be guaranteed, these subsidizations may introduce additional uncertainty
and increased investment risk for green investment.
61 Auditor General, supra note 5 at 3–21.
WHOLESALE
POWER PRICE
Small Hydro
Passive Solar
Biomass
Geothermal
Wind
RETAIL
POWER PRICE
Solar
Photovoltaic
Power Generation Costs in US$ cents/kWh
10 20 30 40 50
100 n APPEAL VOLUME 12
2.2.4) Higher Investment Risk
Even where such subsidization mechanisms are secure and result in utility demand for
green energy, investors in green generation projects will remain concerned with “the profitabil-
ity of the investment against the risk to the capital employed”.62 These risks differ with various
electrical generation technologies (see Table 1).63 In respect of newer commercially unproven
technologies, investors will face increased risks concerning “product quality, process reliability,
maintenance needs and general uncertainty about the performance of a new technology”.64
Commercially proven green technology such as solar and wind generation has “some very at-
tractive low-risk characteristics, including very short lead times, no fuel costs or emissions, and
low operating costs (hence little effect should these costs escalate)”.65 However, these risks
must be balanced against the uncertainty of open market electricity prices, which will have an
increased adverse effect on capital-intensive green projects.66
Technologies which have a higher specific investment for capacity even
though they may have relatively low fuel costs (wind, nuclear) are more
greatly affected by this risk because there is less they can do to respond
[compared to fossil fuel generation projects]. Thus, although high capital
cost and low fuel cost technologies will likely be competitive in the short-run
and therefore produce electricity, they will be more exposed to cover capital
employed. A firm reliant on such technologies may find itself in financial
difficulties if prices slump for a prolonged period.67
TABLE 1
COMPARISON OF RISK CHARACTERISTICS BY GENERATING TECHNOLOGY c
TECHNOLOGY UNIT
SIZE LEAD
TIME CAPITAL
COST/KW OPERATING
COST FUEL
COST CO2
EMISSIONS REGULATORY
RISK
Clean Coal &
Gas Turbines Medium Short Low Low High Medium Low
Coal Large Long High Medium Medium High High
Nuclear V. Large Long High Medium Low Nil High
Hydro V. Large Long V. High V. Low Nil Nil High
Wind Small Short High V. Low Nil Nil Medium
Solar V. Small V. Short V. High V. Low Nil Nil Low
Fuel Cells Small V. Short V. High Medium High Medium Low
c Table provided by Organization for Economic Co-operation and Development/International Energy
Agency, Energy Market Reform: Power Generation Investment in Electricity Markets (Paris: OECD/
IEA, 2003) online: International Energy Agency – Energy Publications
wpd/Textbase/publications/free_new_Desc.asp?PUBS_ID=1202> at 32.
2.2.5) Higher Financing Costs
These increased risks and cost-disincentives result in green project financing disadvantages “by
the contracting and financing structures expected in a world of vigorous retail competition”.68
62 OECD, “Energy Market Reform”, supra note 1 at 35.
63 Ibid. at 12.
64 National Roundtable, supra note 24 at 36.
65 OECD, “Energy Market Reform”, supra note 1 at 33.
66 National Roundtable, supra note 24 at 55.
67 OECD, “Energy Market Reform”, supra note 1 at 28–9.
68 Leanne Sereda, “Renewable Energy — Tax Developments and Opportunities” (2000) 13 Petroleum Tax Journal 1 para. 38
[Sereda].
APPEAL VOLUME 12 n 101
[I]ncreased investment risks and a scarcity of long-term contracts will prob-
ably result in shortened investment horizons, reductions in debt maturity,
increased equity requirements, and larger debt and equity risk premiums.
Although these changes will affect all electric generating sources, they will
have a differentially large impact on technologies, such as RETs [renewable
energy technologies], that have high capital costs (and therefore larger fi-
nancing requirements).69
2.2.6) Market Preference for Incumbent Technologies
Finally, with respect to the sixth barrier, existing energy developers may prefer incumbent
technologies over new technology, as investment in developing the latter carries “learning”
risks. Investors will be uncertain as to the return on learning investments and that “some or all
of the benefits of its learning investments can end up being captured by its competitors”.70
In summary, even where an energy market provides an even playing field between compet-
ing technologies and efficiently allocates externalities, the above six financial barriers will likely
create market inertia with respect to green investment growth. Effective market deployment
tax instruments will thereby need to do more than create a level playing field, but ensure that
the above six financial barriers are mitigated so as to provide sufficient incentive for developers
to invest in green growth.
2.3) MARKET TRANSFORMATION PERSPECTIVE
In contrast to the market deployment perspective, the market transformation perspective
“focuses on the outcome to be achieved and then runs the logic back through all the factors
that would be necessary to attain that outcome”.71 Accordingly, the market transformation
perspective shares the same tax rationale as the RD&D perspective—to encourage market par-
ticipants to adopt more environmentally sensitive alternatives. However, under a transforma-
tion perspective, policy instruments are designed through a private-sector business perspective
which
focuses on what needs to be done in practical terms to build markets for
new energy technologies. It is concerned with the behaviour and roles of
market actors, how their attitudes guide decisions and how these attitudes
can be influenced … [and] considers the distribution chain from producer
to user, focuses on the role of the actors in this chain in developing markets
for new energy technologies, and applies the tools of the management sci-
ences.72
This objective-oriented approach will likely result in different economic instruments than
those employed by a market deployment economist seeking to balance market transformation
with economic efficiency. “The straight forward principle is first to develop an understanding of
the buyer-relevant characteristics … of the technologies being promoted and the workings of
the markets that will potentially be transformed; and then to identify strategies that would help
to boost the positive attributes … and overcome the negative ones”.73
69 Ibid. at 38.
70 OECD, “Creating Markets”, supra note 31 at 58.
71 Ibid. at 12–3, 19.
72 Ibid. at 12.
73 Ibid. 85–6.
102 n APPEAL VOLUME 12
PART III - Response of Canadian Tax Policy
It is beyond the scope of this paper to conduct a thorough analysis of government sub-
sidization of Canada’s energy market. However, some basic figures can help to illustrate the
subsidization disparity between fossil fuel and renewable energy development. Between 1996
to 2002, the federal government provided nearly $8 billion in tax expenditures to the oil and
gas industry while allocating less than $6 billion in total expenditures, tax and otherwise, for
all climate change action programs.74 The 2005 Budget projected only $295 million in tax ex-
penditures between 2005 to 2009 towards both energy efficiency initiatives and renewable
energy generation equipment.75 It is difficult to estimate what percentage of this $6 billion
was allocated through tax expenditures, however, in light of the 2005 Budget projections, the
percentage is likely quite low. The imbalance of these figures has led the Pembina Institute to
conclude that “the government’s tax subsidies to the oil and gas industry indirectly promote
GHG emissions and thereby undermine—even outweigh—its own spending to reduce those
very emissions in the fight against climate change”.76
The federal government’s direct spending on energy research and development since the
1970s exhibits the same imbalance. Of the nearly US$ 8.79 billion (2002 prices and exchange
rates) directed towards energy RD&D, only 7.4 per cent was directed towards renewable en-
ergy.77 While this uneven subsidization began to level off by 2002, fossil fuels continue to re-
ceive more federal research and development investment than renewables (see Figure 3). While
Figure 3 does not represent tax expenditures, tax policies must nonetheless take these expendi-
tures into account in formulating measures that will ensure sustainable energy development.
FIGURE 3
CANADIAN GOVERNMENT RD&D EXPENDITURES, 1977–2005 d
d
Derived from data supplied by the Organization for Economic Co-operation and Development/Interna-
tional Energy Agency, RD&D Budgets, online: International Energy Agency .iea.org/>.
74 Petition, supra note 48 at 31.
75 Canada, Department of Finance, 2005 Budget, Annex 8: Tax Measures: Supplementary Information at 1.
76 Petition, supra note 48 at 2.
77 OECD, “Renewable Energy”, supra note 23 at 182.
1977
1979
1981
1983
1985
1987
1989
1991
1997
2005
700
600
500
400
300
200
100
0
MTOE (MILLION TONS OF OIL EQUIVALENT)
Green Energy
Coal
Oil and Gas
Nuclear
1993
1995
1999
2001
2003
APPEAL VOLUME 12 n 103
These issues have not been lost on Finance, which, under the Auditor General Act, is re-
quired to develop a “Sustainable Development Strategy” (“SDS”) every three years.78 In 1997,
Finance released its first SDS, stating that “the concept of sustainable development implies the
desirability of moving in two basic directions: closer integration of economic, social and envi-
ronmental objectives; and intergenerational equity”.79 Finance’s first step in this direction was
the 1996 report Renewable Energy Strategy, jointly released with Natural Resources Canada.
The report outlined a strategy of “enhancing investment conditions, supporting technology
research and development, and developing markets for renewable energy technologies”.80 In
the same year, Finance introduced a number of tax measures under the Income Tax Act (“the
Act”)81 designed to enhance investment in the renewable energy market. The two main mea-
sures introduced were (1) a new Canadian Renewable and Conservation Expenses (“CRCE”)
available for intangible expenses incurred during the pre-development phase of renewable en-
ergy projects, and (2) a relaxation of the specified energy rules which had limited the deduction
of accelerated capital cost allowances (“ACCA”) arising from renewable energy assets to the
income earned from those assets.
Finance’s current SDS (2007–2009) outlines a target to “[e]xamine potential changes to
the tax system to assist the Government in meeting its environmental objectives, including pro-
posals received from responsible policy departments and external stakeholders”.82
3.1) FINANCE’S RD&D PERSPECTIVE
In developing green energy tax measures, Finance has adopted an RD&D approach, at-
tempting to balance efficiency concerns with the need to provide incentives for green invest-
ment and consumption decisions. Finance’s 2004–2006 SDS states that:
economic instruments have the potential to change the way producers and
consumers make choices in relation to investment and consumption deci-
sions, for example. In addition, market-based mechanisms can help achieve
environmental objectives at a lower cost than policies that rely strictly on
regulatory approaches because decentralized decision making by affected
firms, organizations and individuals will generally lead to the allocation of
scarce resources in a more efficient manner.83
Illustrating this policy, the CRCE provisions promote market efficiency by providing a more
level playing field between competing energy investments, while the ACCA provisions attempt
to provide an incentive to energy developers to develop green energy projects.
Both the CRCE and ACCA target technologies are provided for under the meaning of “pre-
scribed energy conservation property” as set out under Class 43.1 and 43.2 in Schedule II of
the Act.84 Class 43.1 paragraph (d) includes equipment that is part of an electrical generation
project whose energy source is solar, wind, geothermal, small-scale hydro (defined as less than
15 MW), and biomass (all of which are green energy sources, with the exception of biomass).
78 Auditor General Act, supra note 2 at section 24(1).
79 Canada, Department of Finance, Sustainable Development Strategy (Ottawa: Department of Finance, December 1997) at 35.
80 Natural Resources Canada, “Federal Actions on Climate Change – Next Steps: Renewable Energy” Release, December 12,
1996 online: Natural Resources Canada .gc.ca/media/archives/ newsreleases/1996/1996117e_e.htm>.
81 Unless otherwise stated, statutory references in this paper are to the Income Tax Act, RSC 1985, c. 1 (5th Supp.) as amended
[the Act].
82 Canada, Department of Finance, Sustainable Development Strategy 2004-2006 (Ottawa: Department of Finance, March
2004) online: Department of Finance Canada at 3a.1.
83 SDS 2004-2006 supra note 9 at 44.
84 Regulation 8200.1 provides that “For the purposes of subsection 13(18.1) and subparagraph 241(4)(d)(vi.1) of the Act,
prescribed energy conservation property means property described in Class 43.1 or 43.2 in Schedule II”.
104 n APPEAL VOLUME 12
The remaining paragraphs of Class 43.1 include equipment that is part of an electrical genera-
tion or co-generation system that uses fossil-fuel, biomass, or waste-fuel with a heat-rate loss
of not more than 6,000 BTU per kWh of generated electricity, or 6,750 BTU in the case of com-
bined-cycle projects. Class 43.2 includes new equipment that is acquired between February 22,
2005 and December 31, 2011 and which is part of an electrical generation project which uses
either: (1) fossil fuel, biomass, or waste-fuel as provided under paragraph (b) of Class 43.1 with
a high-efficiency heat-rate loss of not more than 4,750 BTU per kWh of generated electricity;
or (2) green energy sources as provided for under paragraph (d) of Class 43.1.
Class 43.1 was introduced in 1994, and is continually updated by Finance in consultation
with the Department of Natural Resources (“NRCAN”), who in turn conducts regular consulta-
tions with the renewable energy sector to ensure the inclusion of new and rapid advancements
in technological efficiencies.85 The prescribed energy conservation property excludes used
property in order to endure that the tax instrument targets the most efficient technology avail-
able. Subsection 13(18.1) of the Act provides that the NRCAN’s publication Technical Guide
to Class 43.1 shall apply conclusively with respect to engineering and scientific matters for the
purpose of determining whether property meets the criteria set out in Class 43.1.
3.2) MARKET EFFICIENCY MEASURES
3.2.1) Failure to Internalize Energy Externalities
In respect of creating a more efficient market through the internalization of energy exter-
nalities, the federal government stated in 2002 that it would “promote the internalization of
environmental costs and the use of economic instruments, taking into account the approach
that the polluter should, in principle, bear the costs of pollution, with due regard to the public
interest and without distorting international trade and investment”.86 However, Canada has not
and is unlikely to adopt a broad-based energy or carbon tax in light of the fact that (1) certain
energy-intensive regional economies would be disproportionately affected, and (2) higher en-
ergy costs would likely have an adverse effect on the competitiveness of Canadian manufactur-
ers and producers on international markets.87
In place of such a tax, under its Climate Change Plan for Canada, the previous federal
government proposed a tradable emissions permit system for Large Final Emitters (“LFE”) set
to commence in 2008, targeting mining and manufacturing, oil and gas, and thermal electricity
sectors.88 Under the program, LFEs would have been required to meet their individual target
obligations through emission reductions, and would be liable to the government for emission
units equal to any shortfall in the form of credits that will be tradable in a carbon market.89
The value of credits was proposed to be determined by individual industries, up to a maximum
of $15 per tonne of CO2.90 While the LFE system would likely have resulted in reduced GHG
emissions, it is unlikely that it would have been as effective as a broad carbon tax imposed on
energy consumers.
The current federal government has abandoned the LFE proposal, introducing instead
85 Canada, Department of Finance, “Tax Topics: Report #1569” Release, April 4, 2002 at 3.
86 Public Works, “Using the Tax System”, supra note 4 at 3–6.
87 National Roundtable, supra note 24 at 21.
88 Notice of intent to regulate greenhouse gas emissions by Large Final Emitters, Can. Gaz. 2005. I. online: CEPA Environmen-
tal Registry - Summary of Comments Received on the Notice of Intent to Regulate
documents/part/GHG_noi_resp/GHG_noi_resp.cfm>.
89 Ibid.
90 Organization for Economic Co-operation and Development/International Energy Agency, Energy Policies of IEA Countries:
Canada, 2004 Review (Paris: OECD/IEA, 2004) online: International Energy Agency – Energy Publications
iea.org/Textbase/publications/free_new_Desc.asp?PUBS_ID=1468> at 62 [OECD, “Energy Policies Canada”].
APPEAL VOLUME 12 n 105
“Canada’s Clean Air Act”, which consists of proposed amendments to the Canadian Environ-
mental Protection Act, among others.91 No carbon tax is included, nor are any firm targets or
objectives provided, other than a notice of intent to discuss reducing GHGs between 45–55 per
cent by 2050.92 It is not clear how such a reduction would be accomplished.
3.2.2) Creating a Level Playing Field – Canadian Renewable and Conservation Expenses
Developers of non-renewable energy projects have long been able to claim intangible
expenses incurred in determining the existence, location and extent of mineral, oil and natural
gas resources under the three categories of Canadian exploration expense (“CEE”), Canadian
development expense (“CDE”) and Canadian oil and gas property expense (“COGPE”). These
expenses are included in the taxpayer’s cumulative CEE93 and are fully deductible in the year
they are incurred, subject to certain limitations.94 Further, a company which is a “principle-
business corporation” (“PBC”) may renounce its CEE pool, or a portion thereof, in favour of
shareholders with whom it has entered into a flow-through share (“FTS”) agreement.95 An
FTS agreement will generally obligate the corporation to incur and renounce specified CEE ex-
penses, which the shareholder may deduct against their own income once renounced.
A PBC is defined as including a corporation whose principal business is, (1) the generation
of energy using property described in Class 43.1 of Schedule II to the Income Tax Regulations,96
or (2) the development of projects for which it is reasonable to expect that at least 50 per cent
of the capital cost of the depreciable property to be used in each project would be the capital
cost of property described in Class 43.1.97 “Principal” is generally viewed to be “the most
significant business activity of a corporation when considering such factors as capital invested,
time spent, revenue generated, etc”.98
The FTS mechanism was designed to benefit junior resource companies who are otherwise
unable to utilize income tax deductions for exploration and development as a result of having
no taxable income during development stages by making the deduction available to potential
investors. This benefit is intended to ameliorate a development company’s limited access to
non-equity financing as a result of the high risk of resource development.99
91 An Act to Amend the Canadian Environmental Protection Act, R.S.C. 1999, c. 33, the Energy Efficiency Act and the Motor
Vehicle Fuel Consumption Standards Act [Canada’s Clean Air Act].
92 Notice of intent to develop and implement regulations and other measures to reduce air emissions, Can. Gaz. 2006. I. 3359.
Proposed elements of the regulatory approach online: Canada Gazette
pdf/g1-14042.pdf>.
93 Income Tax Regulations, C.R.C., c. 945 s. 66.1(6).
94 Ibid. s. 66.1(2) or (3).
95 Renunciation may be made under either subsection 66(12.6) or 66(12.601). The qualifications of a flow-through share,
including a flow-through share agreement are provided under subsection 66(15).
96 Paragraph 66(15)(h).
97 Paragraph 66(15)(i)
98 Serada, supra note 68 at 18.
99 Canada, Department of Finance - 1996 Budget, Environment: Incentives to Invest in Renewable Energy at 2.
106 n APPEAL VOLUME 12
TABLE 2
NON-RENEWABLE CEE, CDE AND COGPE TAX EXPENDITURES e
EXPENDITURE 1996 1997 1998 1999 2000 2001 2002
CDE, CEE & COGPE (in millions) 721 568 375 703 1,052 1,144 1,035
e
Amy Taylor, Matthew Bramley and Mark Winfield, Government Spending on Canada’s Oil and Gas
Industry: Undermining Canada’s Kyoto Commitment (The Pembina Institute for Appropriate De-
velopment, January 31, 2005) online: Pembina Institute .pembina.org/publications_
search_newsitem.asp ?id=181§ion=>.
Under the 1996 Budget, the federal government introduced the CRCE as a fourth catego-
ry, under which developers can claim intangible costs incurred from determining the existence,
location and extent of renewable resources—which according to Finance are “similar to those
incurred by junior resource companies”.100 CRCE are deemed to be a CEE, and thus enjoy a
similar tax treatment.101 Moreover, whereas junior resource companies developing conventional
energy projects may not deduct CEEs to create a loss,102 renewable energy PBCs may deduct
their total CRCEs irrespective of whether or not a loss is created (unless such expenses have
been renounced in favour of flow through shareholders).103
In order for an expense to qualify as a CRCE, at least 50 per cent of the capital cost of the
cost of the depreciable property to be used in the project must fall under Class 43.1 or 43.2.104
Subject to specified exclusions, these expenditures can include the following:105
• pre-feasibility and feasibility studies for suitable sites and potential markets;
• costs necessary to determine the extent and location of the energy resource, in-
cluding development and maintenance costs for site access and temporary roads;
• negotiation and site approval costs, including regulatory and environmental com-
pliance expenses;
• site preparation costs not directly related to equipment installation;
• service connection costs incurred in order to transmit power to the power pur-
chaser; and
• the cost of acquiring and installing test wind turbines (similar to the deduction al-
lowed for an exploratory well of a new oil field106)
By developing the CRCE, the federal government stated that it was ensuring “that costs in
the renewable energy and energy conservation sector receive tax treatment similar to costs in
100 Ibid. note 99 at 2. Finance stated in its Tax Expenditures Notes (2000), “The renewable energy and energy conservation
sector faces difficulties in financing intangible costs. The Canadian Renewable and Conservation Expenses (CRCEs) address
this concern by providing them with improved access to financing in the early stages of their operations when they may
have little or no income to utilize the [class 43.1 and 43.2] income tax deductions related to these expenses”. Canada,
Department of Finance, Tax Expenditures: Notes to the Estimates/Projections, 2000 (Ottawa: Department of Finance,
2000) online: Department of Finance Canada at 78 [Notes to the
Estimates].
101 Paragraph (g.1) of the definition of ”Canadian exploration expense” in subsection 66.1(6).
102 Ibid. s. 66.1(2).
103 Ibid. s. 66.1(3); Corporations who are PBCs under paragraph (h) or (i) of the definition of “principle business corporation”
in subsection 66(15) are excluded from subsection 66.1(2), and are included in subsection 66.1(3).
104 Regulation 1219. The CRA’s interpretation of this definition can be found in Income Tax Ruling 2005-0143071E5, Novem-
ber 10, 2004 at 4.
105 This summary list is provided in Sereda, supra note 68 at 17.
106 OECD, “Renewable Energy”, supra note 23 at 193.
APPEAL VOLUME 12 n 107
the non-renewable energy sector”.107
This initiative will help level the playing field between energy investments. It
will provide Canada’s renewable energy sector with better access to capital
which will in turn help the industry attain its potential for jobs and growth.
In addition, new investment in renewable energy will expand domestic and
international markets for wind, solar, small hydro and other renewable en-
ergy products and expertise.108
The conclusion that the CRCE helped create a level playing field was in large part based
on the findings of the Department of Natural Resources 1996 report The Level Playing Field:
The Tax Treatment of Competing Energy Investments.109 Prior to the introduction of CRCE, the
report concluded that,
while the playing field is not level, the variations, with the exception of the
ethanol and energy efficiency projects, are not large. The level of tax sup-
port provided to energy supply investments (i.e., oil and gas and renewable
energy projects) varies relatively narrowly, between 5 and 20 per cent of
capital costs. The initiatives announced in the 1996 Budget will assist in a
further leveling of the field.110
This conclusion was reached based on a strict analysis of the financial uplift provided by
tax incentives to various types of energy projects. The uplift was calculated by analyzing energy
projects according to energy source, and measuring each project’s relative tax burden “under
the current system when compared with a neutral tax system (absent any incentives)”.111
Using a different methodology, a subsequent report from the Commissioner of the Environ-
ment and Sustainable Development (“CESD”) supported the conclusions of the Department of
Natural Resources. Its 2000 Report on Energy Investment examined how the tax system treats
marginal investments, which are “investments that just meet the investor’s acceptable rate of
return” likewise concluding that the difference in tax treatment was relatively narrow.112
However, neither of these reports addressed the fact that investment limitations imposed
by the alternative minimum tax (“AMT”) fundamentally prevents the CRCE from leveling the
playing field. In calculating a taxpayer’s AMT, a flow-through shareholder may only deduct
CRCE expenses which have been renounced in their favour against income “that can reason-
ably be considered as attributable to the production of petroleum, natural gas and minerals”.113
In other words, since flow-through CRCEs may only be deducted by investors against income
derived from fossil fuel production, the CRCE FTS mechanism prevents investors from making
fully green investment choices. Insofar as investment in green energy mandates investors to in-
vest in non-renewable energy, it is difficult to view the CRCE as having leveled the playing field.
One can imagine that a far more effective green tax mechanism would be to limit the deduction
of CEE expenses from income derived from the production of green energy.
Further, it should be noted that the introduction of the CRCE did not aim to immediately
107 Canada, Department of Finance, “Enhancements to Renewable Energy Tax Incentives,” Release, no. 2002-063 and back-
grounder, July 26, 2002 at 2.
108 Canada, Department of Finance, “New Tax Measures for Renewables and Energy Conservation” Release, June 27, 1996
at 1.
109 NRCan, “The Level Playing Field”, supra note 46.
110 Ibid. at 4.
111 Auditor General, supra note 5 at 3–18.
112 Ibid. at 3–18,19.
113 Subsection 127.52.(1)(e), (e.1). This interpretation has been affirmed by the CRA in Income Tax Ruling 2002-0166845,
January 28, 2003.
108 n APPEAL VOLUME 12
level the playing fields, as the FTS “look-back” rule only became applicable to the CRCE in
2002, long after it had been introduced for other CEEs and six years after CRCE was introduced.
The “look-back” rule treats certain CEEs renounced in the first sixty days of a calendar year as
having been renounced on the last day of the preceding year.114 This rule provides for flexible
financing, as a PBC may renounce the look-back expense before actually incurring it (although
any amount renounced and not incurred before year end will be subject to a Part XII.6 tax).115
Finance has not given a reason as to why the look-back rule was not extended to CRCE, de-
spite the fact that the CRCE was introduced as a means to level the playing field by improving
renewable projects’ access to capital.
3.3) MARKET DEPLOYMENT INCENTIVES
3.3.1) Canadian Renewable and Conservation Expenses
While the CRCE was introduced to ostensibly level the playing fields between conven-
tional and renewable energy sources, it is more properly understood as a market deployment
incentive for green electricity generation. However, the effectiveness of the CRCE as a market
deployment instrument is also limited. First, the CRCE only addresses the financing costs and
barriers associated with the relatively minor initial project development stage, and not the more
burdensome financing costs and barriers associated with project development (as discussed
above). Any resulting investment advantage for renewable developers is heavily outweighed
by the much larger financing costs and risks that the renewable project will incur during proj-
ect development. Insofar as project development financing costs remain a market barrier to
renewable projects, they will continue to increase investment risks in renewable development
companies and make renewable projects less profitable, more than offsetting the benefit that
the flow-through CRCE achieves. The extent to which the ACCA deals with these remaining
barriers will be discussed below.
Second, by limiting the issuance of FTS to PBCs, the measure will not apply to corporations
who wish to develop onsite renewable energy projects to supply their energy needs. The unique
capacity of renewable technology to provide end-use onsite electricity generation provides
recognized environmental benefits that should be included within the CRCE. This is particularly
the case in light of the fact that on-site green installation is often the only way that end-use
consumers can exercise a green energy market choice in Canadian markets.
3.3.2) Accelerated Capital Cost Allowance
The capital cost allowances (CCA) for most capital classes are determined according to an
accounting concept of depreciation, whereby the base rate of depreciation is determined in
respect of the asset’s usable life.116 The default classes for most electrical generation equipment
are generally classes 1, 2, or 17, which provide for a maximum CCA rate of 8 per cent.117 Cer-
tain end-use consumer generation equipment enjoys a 20 per cent CCA under Class 8.
114 Subsection 66(12.66); An excellent summary of the mechanical application of FTS is provided by Angelo F. Toselli, “Flow-
Through Shares: An Update” (1997) 10 Petroleum Tax Journal 1.
115 This tax will be deductible by the PBC corporation under paragraph 20(1)(nn) in the taxation year it becomes payable. Thus,
the Part XII.6 tax effectively functions as a “quasi-interest charge”. Serada, supra note 68.
116 “In computing income from a business or property, no deduction is permitted on account of capital and no allowance is
permitted in respect of depreciation except as expressly permitted by part I of the Act. …Paragraph 20(1)(a) permits a
discretionary deduction of a portion of the capital cost of property, as is allowed by regulation. The type of property and
the portion of its cost that can be deducted is prescribed under part XI of the regulations. The maximum rate of CCA for
each class of property is prescribed by regulation 1100(1)”. Stephen J. Fyfe, Craig J. Webster & Laura M. White “The
New Electricity Market: Financing Options,” in Report of Proceedings of Fiftieth Tax Conference, 1998 Conference Report
(Toronto: Canadian Tax Foundation, 1999), 10:1–39 [Fyfe, Webster & White].
117 Notes to the Estimates, supra note 100 at 77.
APPEAL VOLUME 12 n 109
From 1972 to 1993, certain renewable energy technologies enjoyed an ACCA of 50 per
cent under Class 34. In 1988 Class 34 deductions became subject to “specified property en-
ergy” rules118 which limited deductions to the amount of income generated from Class 34
property119 except where such property was used by taxpayers to produce energy for the pur-
pose of gaining income from their business.120 This mechanism provided an incentive for the
development of renewable energy projects, both as an electricity generation business and as an
onsite energy supply for existing businesses.121
In 1994, Finance replaced Class 34 with Class 43.1, which reduced the ACCA to 30 per cent
but expanded the range of qualifying specified energy property.122 In 1996, concurrent with the
introduction of the CRCE, the specified property energy rules were amended to exclude mining,
manufacturing, and processing businesses from its application.123 This amendment created “a
significant planning opportunity in the deregulated electricity market where industrial users of
electricity may take an equity position in new projects”.124
In December of 2005, Finance introduced CCA Class 43.2, under which certain high-ef-
ficiency technologies otherwise included under Class 43.1 will again enjoy an ACCA of 50 per
cent.125 Class 43.2 is currently scheduled to apply only to assets acquired on or before Decem-
ber 31, 2011, after which time all specified renewable energy will again fall under Class 43.1.
Many observers have noted that the ACCA provides “a clear tax incentive to building,
owning, and operating a project that qualifies under class 43.1”.126 However, the extent to
which this is the case is unclear.127 Class 43.2 does not provide for a greater ACCA than was
provided under Class 34 between 1972 to 1993. Moreover, the current specified energy prop-
erty restrictions, though relaxed, remain more restrictive than the restrictions applicable be-
tween 1972 to 1988. Accordingly, there is little evidence to suggest that the current ACCA
mechanism would be any more effective as a market deployment incentive than the previous
mechanism under Class 34.
It might be argued that the recent decentralization of certain provincial electricity markets,
which now allow for greater private investment in green generation equipment, will result
118 Subsection 1100(24); Subsection 1100(26) of the Regulations provided that corporations whose principal business was
the sale, distribution or production of electricity and various other energy products were exempt form the application of
subsection 1100(24).
119 “The specified energy property rules were introduced in 1988 in response to certain capital market transactions that used
leverage financing for power projects and passed through the 50 per cent class 34 CCA deduction to passive investors who
would recover the cost of their investment in a very short time”. Income Tax Ruling, supra note 113 at 11. See also OECD,
“Creating Markets”, supra note 31 at 19; Public Works, “Using the Tax System,” supra note 4 at 1.
120 Subsection 1100(25).
121 Regulation 1219, supra 104 at 3. This interpretation has been affirmed by the CRA.
122 Class 34 was amended effective February 21, 1994 to apply only to assets purchased or subject to an agreement to pur-
chase before that date. The specified energy rules were concurrently amended to include Class 43.1 in their application.
Sereda, supra 68 at 8.
123 Subsection 1100(24).
124 Fyfe, Webster & White, supra note 116.
125 Depreciation under Class 43.1 and 43.2 is calculated on a decline-balance basis, subject to the 50 per cent rule in subsection
1100(2), whereby only half of the asset cost is available in the year the asset is acquired. Accordingly, the effective CCA
rates for Class 43.1 and 43.2 assets in the year they are acquired is 15 per cent and 25 per cent.
126 Fyfe, Webster & White, supra note 116.
127 Finance does not provide ACCA tax expenditure estimates in respect of accelerated write-offs for non-renewable or renew-
able energy assets for reasons of data limitations. See response of James M. Flaherty, Minister of Finance, dated May 31,
2006, to Petition No. 158 “Subsidies to the oil and gas industry and federal efforts to address climate change” brought by
Mr. Albert Koehl under the Auditor General Act, online: Office of the Auditor General of Canada
gc.ca/domino/petitions.nsf/viewe1.0/EF2D9AAC9909E75F852571D9005E0D68>.
110 n APPEAL VOLUME 12
in the ACCA to be more effective under Class 43.2 than under Class 34.128 Such investment
is made even more likely given the substantial decrease in renewable technology costs since
1994. However, as illustrated in Figure 4, relatively few investors have chosen to defer their tax-
able income through Class 43.2 ACCA deductions. Despite the fact that the current electrical
capacity of Canadian wind farm installations has increased over 1,000 per cent since the year
2000, and is set to continue strong growth,129 its overall market share is projected to decrease
as a result of even greater growth in oil and gas installations. Green energy accounted for only
0.3 per cent of electricity generation in 2005130 and is projected to account for only 0.2 per cent
in 2020.131 As with green energy’s share of total energy production, this figure is too small to be
displayed in Figure 4, and well below any amount needed to seriously offset GHG emissions.
FIGURE 4
CANADIAN ELECTRICITY PRODUCTION FROM 1988–2003, WITH PROJECTIONS TO 2020 f
f
Derived from data supplied by the Organization for Economic Co-operation and Development/In-
ternational Energy Agency, Energy Policies of IEA Countries (Paris: OECD/IEA, 1988 - 2005) online:
International Energy Agency – Energy Publications
cations/index.asp> at 431.
This suggests that the costs and risks of green investment with an ACCA tax deferral still
outweigh the advantages of investing in fossil fuel energy projects without an ACCA. While
the ACCA is not available to non-renewable projects, such projects have much less need for
them. Accordingly, investors will generally prefer a project with lower capital expenses and thus
a quicker profit turn-around.
128 Note that while electricity companies were exempt from the specified energy property rules, and could thus deduct the
ACCA amounts against income from other electricity sources, few such electricity companies existed, as most energy was
generated by Crown corporations, which were exempt from tax.
129 Canadian Wind Energy Association, “Canada’s Current Installed Capacity” (January 2007) online: Canada Wind Energy
Association .
130 Organization for Economic Co-operation and Development/International Energy Agency, Monthly Electricity Statistics, October
2006 (Paris: OECD/IEA, 2005) online: International Energy Agency w.iea.org/Textbase/stats/surveys/mes.pdf>.
131 OECD, “Energy Policy Data”, supra note 14 at 433.
1988
1990
1992
1994
1996
1998
2000
2002
2010
2020
700
600
500
400
300
200
100
0
TWH (TOTAL WATT HOURS)
800
900 Biomass and Waste
Large Hydro (>= 10 MW)
Coal
Oil and Gas
Nuclear
APPEAL VOLUME 12 n 111
PART IV - Conclusion: The Need for a Transformation Perspective
The displacement of GHG emissions through the displacement of non-renewable energy
production with green energy generation is not an option if global warming is to be deceler-
ated. This displacement will require private capital investment, which will require market incen-
tives. Canada’s tax instruments aimed at market efficiency, level playing fields, and market
deployment through the removal of investment barriers have failed to significantly alter energy
consumption or investment choices, and have thus fallen short of their capacity to reduce GHG
emissions.
In respect of investment choices, while the introduction of the CRCE has helped level the
playing field in terms of tax expenditures relative to market share, the historical subsidies pro-
vided to the oil and gas sector have resulted in a secure market incumbency which investors are
reluctant to pass over—and which, in fact, they cannot pass over if they wish to utilize flow-
through CRCE deductions. Moreover, the CRCE provides an incentive only in respect of the
capital expenditures of pre-development project phases, which, while high, are relatively minor
to the capital requirements of green energy projects. While the ACCA provisions provide for
full deductibility of development costs, this deduction serves only as a tax deferral which fails to
mitigate the security risks of lenders in a capital-intensive energy project.
In respect of consumption choices, the absence of a carbon tax to internalize the negative
externalities of fossil fuel consumption has resulted in the growth of actual consumer spending
on fossil fuels rather than beginning to reflect stated consumer preferences for clean energy.
However, given the disparate regional effects that such a tax would have, together with the
limited capacity of most provincial utility markets to accommodate the exercise of green con-
sumer choices, it is difficult to envision the implementation of a carbon tax in Canada for some
time.
It is a general principle that “[q]uantifying the contribution of each policy and measure is a
prerequisite for any cost-effective approach in climate change mitigation policy”.132 Contribu-
tion cannot be measured without targets to measure against. However, Canada’s sustainable
development policies have not set clear targets regarding renewable or green electrical genera-
tion, nor has Finance “clearly stated what it is trying to achieve with [its tax] commitments, in
terms of the performance that is targeted or is expected to occur”.133 The only way in which
the Canadian tax system is going to provide sufficient incentive to overcome existing financial
and market barriers and achieve market share growth is to design tax measures out of a market
transformation perspective that sets objective market targets for green energy.
132 Dean Anderson, “Progress Towards Energy Sustainability in OECD Countries,” (HELIO International, 1997) online: Helio
International .
133 Public Works, “Using the Tax System,” supra note 4 at 3–1.
To continue reading
Request your trial