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December 21, 2020
Canada Finance releases legislative proposals on time extension to incur flow-through qualifying expenditures
On 16 December 2020, Canada’s Department of Finance released draft legislative proposals to implement the previously announced measures aimed at extending by 12 months the timelines for resource corporations to incur eligible expenses. The legislative proposals follow on from the Department’s 10 July 2020 announcement concerning the flow-through share rules in order to alleviate the challenges faced by exploration companies in the mining industry amid the COVID-19 pandemic. Further details of the 10 July 2020 announcement can be found in EY Global Tax Alert, Finance Canada announces extension to incur flow-through qualifying expenditures, 3 August 2020. The proposals mean that resource companies who have issued flow-through shares would be allowed additional time to incur eligible expenses.
Generally speaking, a resource company issues flow-through shares to obtain financing for exploration and development by offering investors the opportunity to obtain the benefit of tax deductions associated with exploration and development expenditures. The flow-through share rules allow a resource company and an investor to enter into an arrangement whereby the corporation issues shares to the investor and agrees, in writing, to incur and renounce the qualifying expenditures in the amount of share subscription proceeds within a legislated time frame.
There are two sets of rules that use different reference periods for the qualifying expenditures – these are known as the general rule and the look-back rule. Under the general rule, a corporation must incur the qualifying expenditures within 24 months after the end of the month in which the agreement was entered into. Under the look-back rule, the corporation must incur the qualifying expenditures by the end of the calendar year following the year in which the agreement was entered into. Where the look-back rule applies, the issuer is subject to a special tax under Part XII.6 tax on any funds that are unspent on qualifying expenditures (unexpended amount) at the end of each month starting from February to December of the following year. In addition, a 10% penalty tax applies on any unexpended amount if the corporation fails to incur sufficient qualifying expenditures. As well, the tax liability of the investor is adjusted.
The proposed changes are as outlined below:
These proposals are a welcome relief for resource corporations that had issued or are planning to issue flow-through shares in 2019 or 2020. In particular, corporations using the look-back rules may be able to eliminate their Part XII.6 obligation for agreements entered into in 2019 or 2020 if all qualifying expenses under the flow-through agreement are incurred in the immediately following year.
However, it will be important for any resource corporations that will rely on these extended timelines to ensure that a review is undertaken of the terms and conditions of any flow-through agreements to determine whether any amendments are required to accommodate the revised timelines, as the agreements commonly specify the dates by which qualifying expenditures should be incurred.
For additional information with respect to this Alert, please contact the following:
Ernst & Young LLP (Canada), West
Ernst & Young LLP (Canada), Central
Ernst & Young LLP (Canada), East