Structured flow-through share transactions:
the underlying mechanics.
Prepared so a client or their accountant can evaluate the structure without a call. If a call is faster, my number is at the bottom.
1. The structure
An individual or CCPC subscribes for flow-through shares issued by a Canadian mining company. At the same time, a liquidity provider—typically an institutional purchaser—has agreed to buy the shares at a fixed price known before the subscriber commits. The subscription and resale are documented separately and settle moments apart.
The issuer renounces qualifying Canadian exploration expenses to the original subscriber, commonly effective December 31 of the subscription year. Subject to the offering terms and applicable tax rules, the subscriber can deduct the renounced amount against income as though the expenses had been incurred directly.
The subscriber’s net cost is the difference between the subscription price and the pre-agreed resale proceeds, plus the transaction fee. The subsequent purchaser assumes the ongoing share-price and liquidity exposure after settlement.
Because flow-through shares generally have a nil adjusted cost base, the resale generally produces a capital gain equal to the proceeds received. Every cash-flow illustration should show that gain.
Purchaser subscribes for flow-through shares. Buy and sell prices are fixed in advance.
Shares are sold to an institutional purchaser at the pre-agreed price. Settlement moments apart.
Issuer renounces Canadian exploration expense to the subscriber.
2. Statutory basis
Renunciation of Canadian exploration expense to subscriber
Definition of Canadian exploration expense
Definition of flow-through share
Look-back rule; spending deadline in the following year
Prescribed share rules
3. On the public record
2012-0466731R3 - Donation of flow-through shares to a registered charity
General Anti-Avoidance Rule (GAAR) explanatory notes, Example 4 - sale of flow-through shares, treated as consistent with the object and purpose of the flow-through rules
Exempt Market Dealer, Ontario Securities Commission
4. Issuer due diligence
Before any deal is made available, WCPD, the registered firm I work with, assesses whether the issuer has both the operational capacity to complete its exploration program and the financial strength to stand behind its indemnity.
That includes reviewing its treasury, budget, planned use of proceeds, management track record, and whether the financing is proportionate to its realistic ability to spend and perform.
The transaction documents include an issuer indemnity where a tax reduction or disallowance results from the issuer’s own failure to meet its obligations.
5. Compensation and independence
No person or affiliated company receives compensation from the issuer of the flow-through shares or from the underwriter of the transaction. Ken Stern acts as an independent referring agent. Any referral compensation and/or brokerage fee is disclosed by the registered dealer. The tax-deductible fee is always clearly shown in the cashflow, which is approved by the participant in advance of the transaction closing.
6. Direct line
Sample subscription agreement, indemnity agreement, and a worked example with the numbers
Further reading
Start with the Primer.
A guide to the tax benefits and mechanics of flow-through shares. One transaction, completely outlined, start to finish. It answers much of what people ask me at the start of their investigation.
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