Hi there! What do you know of flow through funds? Have you seen them used?Hi Joan,
In what context?
It's my understanding that the mining industry and CRA offer flow-through shares where they shareholder benefits from the expenses, in order to reduce taxes. And that if one has and influx of income they could be useful. I'd be really curious to know what you think, not many people talk about this
I'll throw another of my 2 cents in here.
Flow through shares were introduced in Canada over a half-century ago to stimulate investment in resource exploration corporations. Essentially these corporations (or more often flow-through limited partnerships) renounce the exploration and development expenses to the investors holding their shares. These corporations often have no need for these expenses due to large taxable losses. The investors can then take these expenses as a reduction in their taxable income in the year.
To provide a simplified example, let's assume an investor in the highest marginal tax bracket of 50% (a hypothetical bracket but in 2016 many provinces will exceed 50%). The investor puts in $10,000 into the investment.
In the year of investment (let's say 2016) the investor can generally expect the full amount of the investment basis to be returned through the renunciation of expenses. As such the investor would receive a deduction from income in the amount of $10,000 from income, and would reduce their taxes payable by $5,000. This potentially reduces their risk in the investment as they have received a refund of half their investment.
The cost base in the investment is reduced to nil in flow through shares as a result of the renunciation. Assuming the shares retain their value of $10,000. When they are sold this would generate a capital gain, which is included at 50%, for a taxable capital gain of $5,000. The taxes payable on this would be $2,500 (50% x $5,000).
An investor in this situation is ahead $2,500. They received a refund of $5,000 and paid only $2,500 in tax. They also received their investment back. Sounds great right? Why isn't everyone doing this?
These products are a favourite for investment brokers, they often come with a very healthy commission to those who sell them. I would strongly recommend that you understand these investments fully before throwing money into them. Many of people I have talked with have only been able to remember the great tax refund they received, but not how they ultimately did on the investment (which may have been at a large loss).
These investments carry significant risk. In our example we assumed that the investor receives their $10,000 back. However, this is often not the case. These entities often post very large losses and their value is often significantly less than the $10,000 after the renunciation of expenses - even with the renunciation they may still have lost money.
A very flashy investment product that promises a large tax refund. But, I am a big fan of the saying "Do not let the tax tail wag the dog". Make sure you understand the risk associated with these investments before entering them. If you take a look at the literature produced by the entities that distribute these investments they almost always assume the investment retains it's value, which is rarely the case.
These investments do work in the right situations but you must look at each situation on it's own facts. (and if you are not in the highest income bracket likely not a consideration).
Hope this helps a little. Let me know if anything above isn't clear.