Quebec Ministry of Natural Resources: Stretching your exploration dollars
At the end of 2001, the Vancouver-based Fraser Institute proclaimed that “Qubec and Ontario are Number One in the world on the overall investment attractiveness index for mining companies.” This conclusion was based on two factors: mineral potential (Qubec ranked top) and policy attractiveness (Qubec came in sixth).
The province has Mother Nature to thank for its natural mineral endowment, but the policies are entirely the work of the politicians and bureaucrats. At 12%, Qubec has one of the lowest taxation rates for mining operations in Canada. This article explains the province’s other tax incentives designed to stimulate exploration, mineral deposit evaluation and mine development in Qubec.
Flow-through shares
The flow-through share system, allowing junior companies to flow their losses through to their investors, is available throughout the country, but Qubec has found a way to make it better than in any other province or territory.
Since the early 1980s, the flow-through share system has proven to be both an attractive tax shelter for investors, and also a determining funding mechanism for junior exploration companies in Qubec. In fact, flow-through share financings have allowed exploration companies to raise on average nearly $17.5 million annually over the last ten years.
Qubec’s Taxation Act allows investors from Qubec to benefit from a tax deduction reaching up to 175% of an investment in flow-through shares, issued to finance surface mineral exploration in Qubec. You start with a basic deduction of 100% of the cost of flow-through shares issued to fund eligible Canadian exploration expenditures (CEE). There is an additional deduction of 25% when the exploration expenses are incurred in Qubec by a junior exploration company (which is not mining a mineral resource). Another 50% is added when exploration work is conducted from the surface, thereby bringing the total deduction to 175% of the investment cost. These tax incentives apply not just to minerals, but also to oil and gas exploration expenses.
When the shares are sold, the Qubec tax regime also provides for an exemption of the deemed capital gain, i.e., the part of the sale price between the acquisition cost of the share and its adjusted cost base (deemed to be nil). Furthermore, the corporation may decide to forego its deductions related to flow-through share issuance expenses, in which case the individual may claim up to 15% of the investment cost in the same year, the remaining amount being deductible over the next five years.
Note that the federal government’s “Investment tax credit for exploration” is non-taxable under the Qubec tax regime. In other words, the investor does not have to reduce the amount of CEE claimed under the Qubec tax regime.
For 2002, given the current federal and provincial tax incentives, the net cost of a $1,000 investment in flow-through shares amounts to $224, if the taxpayer is in the highest tax bracket.
This funding mechanism remains very attractive for juniors, which have continued to express their desire that it be maintained. Flow-through share tax incentives in Qubec have been extended to December 31, 2003, at which date the flow-through system will be entirely replaced by the Refundable Tax Credit for Resources (see below). Until then, a corporation may either take advantage of the flow-through share financing mechanism or claim a refundable tax credit.
Refundable tax credit for resources
The Qubec government announced last year a new tax assistance measure for exploration, namely the Refundable Tax Credit for Resources. This measure was created under Qubec’s Taxation Act, and it consists of direct tax assistance to companies.
The refund or credit rate is 20% of eligible expenses for producers (companies with an active mine) and 40% of eligible expenses for non-producers. These rates are raised to 25% and 45% when the work is done in the Near North and Far North regions of Qubec. The tax credit is refundable, in that it may exceed the amount of taxes payable.
Eligible companies own an establishment in Qubec and operate a business there. The concept of “establishment” is fairly far-reaching, and includes claim ownership, since the latter is considered as an immoveable real right under the Mining Act.
Eligible expenses are those that would enable taxpayers to claim at least 125% deduction under the current flow-through share system. This includes prospecting, geological, geophysical or geochemical surveys, drilling, excavating trenches or preliminary sampling. It excludes Canadian Development Expenses related to a mine that has reached the commercial production phase, or related to the extension of such a mine.
According to the Taxation Act, the definition of a mineral resource is very restricted. Therefore, the Qubec government announced last year that targeted mineral resources would also include granite, sandstone, limestone, marble and slate, provided these resources are used as dimension stone.
The tax credit is non-taxable under the Qubec tax regime. In other words, it does not have to be added to the corporation’s income, and does not reduce the amount of deductible exploration expenses under the Taxation Act nor under the Mining Duties Act.
Companies may claim the tax credit when they file their tax return, or the tax credit may be set aside to reduce the monthly instalments of income tax and capital tax.
There is a transition period until December 31, 2003, for the shift from the flow-through share system to the new refundable tax credit. A temporary funding program will be implemented shortly by the Ministry of Natural Resources, to help finance exploration expenses in the period between the time the expenses are incurred and the time the credit is paid. The terms and conditions of this program remain to be detailed, but it may take the form of an advance payment on the tax credit.
Other tax incentives
Under the Mining Duties Act, an operator can recover part of its expenses by claiming a credit on duties refundable for losses (CDRFL). This tax incentive is unique in Canada.
The CDRFL provides for a refund of 12% of the lesser of the following amounts: the operator’s annual loss; or the exploration, mineral deposit evaluation and mine development expenses incurred by him in the year. Since eligible expenses incurred in the Near North and Far North regions of Qubec are subject to a 25% bonus, the effective credit rate climbs to 15% for expenses incurred in these regions.
The credit on duties refundable for losses is non-taxable, and does not reduce the amount of exploration expenses that may be deducted by mining companies under the Mining Duties Act and the Taxation Act. It must be claimed in the six months following the end of the corporation’s fiscal year.
However, exploration expenses financed through the flow-through share system cannot be used to claim the CDRFL. As such, exploration expenses financed under the flow-through share system are not deductible in calculating the operator’s profit. This is also true of exploration expenses financed by government assistance.
The Mining Duties Act also provides for generous deductions (or allowances) in the profit calculation. An explorer may claim an allowance of 100% of eligible expenses incurred during the year. An additional allowance of 50% is granted for exploration expenses outside a mining lease, but it is restricted to half the profit calculated prior to the additional allowance.
Luc Chouinard is a financial analyst with the Direction de la politique et de l’conomie minrales, Ministry of Natural Resources, Charlesbourg, Que., Tel. 418-627-6296, ext. 5523; e-mail luc.chouinard@mrn.gouv.qc.ca
Exploration expense -$100
Refundable tax credits in Qubec
Refundable credit for resources (40% x $100) +$40
Refundable credit for a northern area (5% x $100) +$5
Refundable credit on duties (12% x $100) +$12
Total tax savings for the company +$57
Net cost of exploration expense -$43
Ne
t cost of $100 spent on mineral exploration in Qubec by an exploration company, after tax credits (northern project)
Comments
Bert Kelm
Great explanation.