2015-0614081R3 Flow through shares - farm-out agreement

Principal Issues: (1) Whether expenses relating to a proposed exploration program will qualify as Canadian exploration expenses under paragraph (f) of the definition of CEE and will not be considered to be related to a mine that has come into production in reasonable commercial quantities or to a potential or actual extension thereof; (2) Whether, if such expenses are incurred by a non-resident corporation carrying on business in Canada pursuant to a "farm-out agreement", such expenses could be renounced to flow-through shareholders; (3) Whether the farmer will have proceeds of disposition as a result of farming out Canadian resource properties; and (4) Whether GAAR would apply to recharacterize the tax consequences of the Proposed Transactions.

Position: (1) Yes, (2) Yes, (3) No, (4) No.

Reasons: (1) Based on the facts presented and written opinions provided by Natural Resources Canada, (2) By virtue of engaging in exploration activities in Canada, the non-resident corporation will be carrying on business in Canada. Therefore, subsection 66(12.71) will not preclude the non-resident from renouncing CEE to flow-through shareholders; (3) The Farm-in Agreements satisfy the administrative position in Interpretation Bulletin IT-125R4; (4) The proposed transactions are consistent with the administrative position relating to farm-out arrangements and there would therefore not be a misuse or abuse.

Author: XXXXXXXXXX
Section: 66(15), 66(12.71), 66.1(6), 66.2(6), 245(2)

XXXXXXXXXX                                                                                                         2015-061408

XXXXXXXXXX, 2016

Dear XXXXXXXXXX

Re: Advance Income Tax Ruling
       XXXXXXXXXX XXXXXXXXXX

This is in reply to a letter dated XXXXXXXXXX and other correspondence from you requesting an advance income tax ruling on behalf of XXXXXXXXXX.

To the best of your knowledge and that of the taxpayers named above, none of the proposed transactions and/or issues involved in this advance income tax ruling are the same as or substantially similar to transactions and/or issues that are:

a) in a previously filed tax return of the taxpayers or a related person;

b) being considered by a tax services office or tax centre in connection with a previously filed tax return of the taxpayers or a related person;

c) under objection by the taxpayers or a related person;

d) the subject of a current or completed court process involving the taxpayers or a related person; or

e) the subject of an advance income tax ruling previously considered by the Income Tax Rulings Directorate.

This document is based solely on the facts and proposed transactions described below.  The documentation submitted with the request does not form part of the facts and proposed transactions and any references thereto are provided solely for the convenience of the reader.

Unless otherwise stated, all references to a statute are to the Income Tax Act, R.S.C. 1985, c.1 (5th Supp.), as amended to the date of this letter (the “Act”), and all terms and conditions used herein that are defined in the Act have the meaning given in such definition unless otherwise indicated.

DEFINITIONS

In this letter, unless otherwise expressly stated, the following terms have the meanings specified below:

“Aco” means XXXXXXXXXX, a company continued under the CBCA and a wholly-owned subsidiary of Bco;

“Bco” means XXXXXXXXXX, a company incorporated under the laws of XXXXXXXXXX, the shares of which are listed on the XXXXXXXXXX;

“Cco” means XXXXXXXXXX;

“CDE” has the meaning assigned to the term “Canadian development expense” by subsection 66.2(5);

“CEE” has the meaning assigned to the term “Canadian exploration expense” by subsection 66.1(6);

XXXXXXXXXX

XXXXXXXXXX

“Canadian resource property” has the meaning assigned to that term by subsection 66(15);

“CBCA” means the Canada Business Corporations Act, R.S.C. 1985, as amended;

“CRA” means the Canada Revenue Agency;

“Dco” means XXXXXXXXXX;

“depreciable property” has the meaning assigned to that term by subsection 13(21);

“Eco” means XXXXXXXXXX, a corporation that was organized under the laws of XXXXXXXXXX and that was a predecessor of Aco;

“Expenditures” means, collectively, the Property 1 Expenditures, the Property 2 Expenditures, the Property 3 Expenditures and the Property 4 Expenditures;

“Exploration Programs” means the Property 1 Exploration Program, the Property 2 Exploration Program, the Property 3 Exploration Program and the Property 4 Exploration Program;

“Farm-in Agreements” has the meaning assigned in paragraph 24;

“Fco” means XXXXXXXXXX;

“flow-through share” has the meaning assigned to that term by subsection 66(15);

“NI 43-101” means National Instrument 43-101 for the Standards of Disclosure for Mineral Projects, published by the Canadian Securities Administrators;

“Options” means the Property 3 Option and the Property 4 Option;

“paid-up capital” has the meaning assigned to that term by subsection 89(1);

“principal-business corporation” has the meaning assigned to that term by subsection 66(15);

“private corporation” has the meaning assigned to that term by subsection 89(1);

“Properties” means, collectively, Property 1, Property 2, Property 3 and Property 4;

“Property 1” means the property in which Aco currently has a XXXXXXXXXX% joint venture interest, with Cco owning the remaining XXXXXXXXXX% interest, consisting of the XXXXXXXXXX mining claims listed in Appendix A which are located XXXXXXXXXX, but, for greater certainty, excluding the XXXXXXXXXX which has XXXXXXXXXX mining leases (XXXXXXXXXX).  The XXXXXXXXXX property is located XXXXXXXXXX and is limited to XXXXXXXXXX;

“Property 1 Expenditures” has the meaning assigned in paragraph 22;

“Property 1 Exploration Program” means the exploration program that is proposed in respect of the XXXXXXXXXX portion of Property 1, as described in paragraph 30;

“Property 2” means the XXXXXXXXXX, consisting of the XXXXXXXXXX mining claims listed in Appendix B which are located in XXXXXXXXXX;

“Property 2 Expenditures” has the meaning assigned in paragraph 22;

“Property 2 Exploration Program” means the exploration program that is proposed in respect of Property 2, as described in paragraph 32;

“Property 2 Mines” has the meaning assigned in paragraph 12;

“Property 3” means the XXXXXXXXXX, consisting of the XXXXXXXXXX mining claims listed in Appendix C covering XXXXXXXXXX;

“Property 3 Agreement” has the meaning assigned in paragraph 23;

“Property 3 Expenditures” has the meaning assigned in paragraph 23;

“Property 3 Exploration Program” means the exploration program that is proposed in respect of Property 3, as described in paragraph 33;

“Property 3 Option” has the meaning assigned in paragraph 23;

“Property 4” means the XXXXXXXXXX, consisting of the XXXXXXXXXX mining claims listed in Appendix D covering XXXXXXXXXX;

“Property 4 Agreement” has the meaning assigned in paragraph 24;

“Property 4 Expenditures” has the meaning assigned in paragraph 24;

“Property 4 Exploration Program” means the exploration program that is proposed in respect of the XXXXXXXXXX portion of Property 4, as described in paragraph 34;

“Property 4 Mine” has the meaning assigned in paragraph 14;

“Property 4 Option” has the meaning assigned in paragraph 24;

“Proposed Transactions” means the transactions described in paragraphs 19 through 38; and

“taxable Canadian corporation” has the meaning assigned to that term by subsection 89(1).

Our understanding of the statement of facts, proposed transactions and additional information is as follows:

STATEMENT OF FACTS

Aco and Bco

1. Bco is a company incorporated under the laws of the state of XXXXXXXXXX, the shares of which are listed on the XXXXXXXXXX.  Bco’s business office is located at XXXXXXXXXX.

2. Bco has a fiscal year end of XXXXXXXXXX.  Bco is not a resident of Canada for purposes of the Act and does not currently carry on any business in Canada.

3. Bco is a principal-business corporation for purposes of the Act as substantially all of its assets are shares of the capital stock of, or indebtedness of, one or more principal-business corporations that are related to Bco (otherwise than because of a right referred to in paragraph 251(5)(b)), including Aco.

4. Aco is a taxable Canadian corporation and a private corporation.  Aco’s business office is located at XXXXXXXXXX.

5. Aco has a fiscal year end of XXXXXXXXXX. Aco’s business number is XXXXXXXXXX.  Aco’s tax services office is the XXXXXXXXXX Tax Services Office, XXXXXXXXXX and tax centre is XXXXXXXXXX Tax Centre, XXXXXXXXXX.

6. Aco was formed on XXXXXXXXXX upon the amalgamation of XXXXXXXXXX, a wholly-owned subsidiary of Bco that was organized under the laws of XXXXXXXXXX, and Eco.  Aco was continued under the CBCA on XXXXXXXXXX.

7. Aco’s principal business is mining and exploring for minerals.  Aco is a principal-business corporation for purposes of the Act.  Aco has not made an election under subsection 261(3) to, and is not otherwise required to, report its Canadian tax results in a currency other than Canadian currency.

8. Aco is involved in the XXXXXXXXXX of a number of XXXXXXXXXX properties primarily in XXXXXXXXXX.

The Properties

9. Property 1, together with the XXXXXXXXXX, is Aco’s principal property in XXXXXXXXXX.  In XXXXXXXXXX, Eco granted Cco an option to earn a XXXXXXXXXX% interest in Property 1 by incurring exploration expenditures.  By XXXXXXXXXX, Cco had incurred $XXXXXXXXXX in exploration expenditures and thereby earned its XXXXXXXXXX% interest in Property 1.  Aco is negotiating with Cco to acquire Cco’s XXXXXXXXXX% joint venture interest in Property 1.  If the negotiations are successful, Aco will own XXXXXXXXXX% of Property 1 prior to the transfer, described in paragraph 19, of its interest in Property 1 to Bco.

10. The work carried out by Cco included XXXXXXXXXX engaging in a drilling program which it carried out from XXXXXXXXXX and which resulted in the drilling of XXXXXXXXXX reverse circulation holes and XXXXXXXXXX drill holes. Although the Cco exploration program identified XXXXXXXXXX, the XXXXXXXXXX did not allow for the calculation of any resource tonnage that would have been compliant with NI 43-101.

11. There has been no exploration activity on Property 1 since XXXXXXXXXX. There are currently no operating mines on Property 1 and there are no proven or probable reserves, and no measured or indicated resources, on Property 1.  There are currently exploration and development activities in XXXXXXXXXX property and XXXXXXXXXX.

12. Aco recently acquired Property 2.  There are currently no operating mines on Property 2, and XXXXXXXXXX, on Property 2.  Between XXXXXXXXXX a total of XXXXXXXXXX companies conducted XXXXXXXXXX.

13. To date, Aco has incurred approximately $XXXXXXXXXX on exploration activities with respect to Property 3.  Exploration work in respect of Property 3 began in XXXXXXXXXX and included XXXXXXXXXX.  Such work resulted in the discovery of XXXXXXXXXX occurrences on different areas of Property 3.  There is currently no mining production, and there are no operating mines, on Property 3.  There are no proven or probable reserves, and no measured or indicated resources, on Property 3.  Dco owns a XXXXXXXXXX% XXXXXXXXXX in respect of Property 3 which was retained by (granted to) Dco in connection with the transfer of XXXXXXXXXX% of Property 3 by Dco to Aco.

14. There has been relatively extensive exploration work done in the past on Property 4.  To date, Aco estimates that approximately $XXXXXXXXXX has been incurred on technical studies and $XXXXXXXXXX on XXXXXXXXXX with respect to Property 4.  While there is currently no mining production, and there are no operating mines, on Property 4, there is a formerly operating mine (the “Property 4 Mine”). 

15. The Property 4 Mine was constructed in XXXXXXXXXX following the drilling of XXXXXXXXXX diamond drill holes totalling XXXXXXXXXX.  A XXXXXXXXXX shaft was excavated to a vertical depth of XXXXXXXXXX metres. Underground work consisted of drifting and crosscutting on XXXXXXXXXX metre and XXXXXXXXXX metre levels.  In XXXXXXXXXX, the shaft was deepened to a vertical depth of XXXXXXXXXX metres and the XXXXXXXXXX metre level was excavated.  Operations were suspended in XXXXXXXXXX and the mine was allowed to flood.  From XXXXXXXXXX to XXXXXXXXXX, the mine was dewatered and underground operations resumed.  A total of XXXXXXXXXX tons of ore was produced before the operations were stopped due to a shortage of mine labour.  A total of XXXXXXXXXX metres of drifting and crosscutting was completed from XXXXXXXXXX to XXXXXXXXXX. 

16. A revised advanced exploration program was completed in XXXXXXXXXX in respect of Property 4.  It consisted of XXXXXXXXXX metres of surface diamond drilling and an evaluation of the XXXXXXXXXX area, sinking of vertical XXXXXXXXXX compartment XXXXXXXXXX metres by XXXXXXXXXX metres exploration to a depth of XXXXXXXXXX metres, XXXXXXXXXX metres of cross cutting, XXXXXXXXXX metres of drifting on the XXXXXXXXXX metre level and XXXXXXXXXX metres of underground bazooka drilling.  The XXXXXXXXXX stope assessment consisted of a seismic survey, overburden drilling, XXXXXXXXXX diamond drill holes and an overburden analysis.  Shaft stations were excavated to correspond with the same levels within the old workings and a XXXXXXXXXX metre pillar was established above the new XXXXXXXXXX metre level.  A total of XXXXXXXXXX tonnes of mineralization was extracted and piled on surface.

17. No exploration activities have been carried out in the Property 4 Mine workings since XXXXXXXXXX and the Property 4 XXXXXXXXXX ceased producing in XXXXXXXXXX.  The Property 4 Mine has been abandoned and has become derelict. The Property 4 Mine has lost its characteristics as a mine.

18. There are a number of net smelter returns that exist in respect of Property 4 (as detailed in Appendix E), each of which was retained by (granted to) an owner of an interest in Property 4 in connection with a transfer of an interest in Property 4.  Each of Property 1, Property 2, Property 3 and Property 4 is an “unproven resource property” and at such a stage of exploration that expenses incurred thereon, would still qualify as CEE.

PROPOSED TRANSACTIONS

Purchase of Property Interests by Bco

19. Bco proposes to purchase Aco’s interest in Property 1 and Property 2 for a purchase price, in each case, equal to the fair market value of such interest.  Such purchase price will, in each case, be satisfied by the reduction of the intercompany debt now owing by Aco to Bco by an amount equal to such purchase price.  Aco will include the proceeds of disposition of Property 1 and Property 2 in element F of the definition “cumulative Canadian development expense” when computing its income for the taxation year in which the transfer by Aco to Bco of its interest in Property 1 and Property 2, as the case may be, occurs.  For greater certainty, the transfer by Aco to Bco of its respective interests in Property 1 and Property 2 will not result in Bco acquiring any interest in any property other than the mining claims (and associated mineral rights) set out in Appendices A and B.

20. If Cco continues to own a XXXXXXXXXX% joint venture interest in Property 1, Bco will become a party to the joint venture agreement relating to Property 1.  Such joint venture agreement will provide that each joint venture participant is required to bear its pro-rata portion of the exploration expenses to be incurred in respect of the particular property, with consequences to a joint venture participant (such as the dilution of its interest in the joint venture) if such joint venture participant does not contribute its pro rata share of expenses as required.

Flow-Through Share Offering

21. Bco proposes to issue common shares as flow-through shares to investors for proceeds of approximately, but not limited to, $XXXXXXXXXX in one or more offerings.  Bco will offer these flow-through shares to subscribers that are residents of Canada and may issue the flow-through shares by private placement or through a public offering by way of prospectus.  Bco will provide the CRA with the name, address, social insurance number of, and the number of flow-through shares acquired by, each investor.  The net proceeds of the offerings will be used to finance exploration programs on the Properties, as described in paragraphs 29 through 34 below.  Bco will file a T100A with the CRA and will apply for a Selling Instrument T100 Identification Number.

Proposed Expenditures and Agreements

22. Bco intends to incur exploration expenditures on Property 1 (the “Property 1 Expenditures”) of approximately $XXXXXXXXXX and on Property 2 (the “Property 2 Expenditures”) of approximately $XXXXXXXXXX after an interest in such properties has been acquired by Bco as described in paragraph 19 above.

23. Aco and Bco will enter into an option agreement (the “Property 3 Agreement”) whereunder Aco will grant to Bco, on normal commercial terms between parties dealing at arm’s length, an exclusive option to acquire an undivided working interest in Property 3 (the “Property 3 Option”) for an investment of approximately $XXXXXXXXXX.  The Property 3 Agreement will specify that Bco must fund and incur a specified amount of expenditures (the “Property 3 Expenditures”) on Property 3.

24. Aco and Bco will enter into an option agreement (the “Property 4 Agreement” and, together with the Property 3 Agreement, the “Farm-in Agreements”) whereunder Aco will grant to Bco, on normal commercial terms between parties dealing at arm’s length, an exclusive option to acquire an undivided working interest in Property 4 (the “Property 4 Option” and, together with the Property 3 Option, the “Options”) for an investment of approximately $XXXXXXXXXX.  The Property 4 Agreement will specify that Bco must fund and incur a specified amount of expenditures (the “Property 4 Expenditures”) on Property 4.

25. If Bco has made the Property 3 Expenditures in accordance with the Property 3 Agreement, Bco will be required to provide a written notice of exercise of the Property 3 Option to Aco and Bco will be deemed to have exercised such Option.  The amount of the working interest that will be the subject of the Option will be equal to the specified amount of the Property 3 Expenditures divided by the fair market value of Property 3 at the time the Property 3 Option is granted.  For greater certainty, the transfer by Aco to Bco of the working interest in Property 3 in accordance with the Property 3 Option will not result in Bco acquiring any interest in any property other than the mining claims (and associated mineral rights) set out in Appendix C.

26. If Bco has made the Property 4 Expenditures in accordance with the Property 4 Agreement, Bco will be required to provide a written notice of exercise of the Property 4 Option to Aco and Bco will be deemed to have exercised such Option.  The amount of the working interest that will be the subject of the Option will be equal to the specified amount of the Property 4 Expenditures divided by the fair market value of Property 4 at the time the Property 4 Option is granted. For greater certainty, the transfer by Aco to Bco of the working interest in Property 4 in accordance with the Property 4 Option will not result in Bco acquiring any interest in any property other than the mining claims (and associated mineral rights) set out in Appendix D.

27. Other than its obligation to incur the Property 3 Expenditures and the Property 4 Expenditures, respectively, Bco will not give any additional consideration to Aco to acquire its working interests in Properties 3 and 4 on the exercise of the Options.  No depreciable properties or other amounts will be acquired, or incurred, by Bco in order to earn its interest in Properties 3 and 4, respectively.  Bco will act as operator of Properties 3 and 4 while Bco is farming-in to Properties 3 and 4.

28. The Farm-in Agreements will specify that Bco will not be acting as agent for Aco and that the Farm-in Agreements will not create a partnership or joint venture arrangement.  The arrangements under the Farm-in Agreements will each constitute a “simple farm-out transaction” as described in Interpretation Bulletin IT-125R4.

Proposed Exploration Activities on the Properties

29. The Expenditures will be incurred to advance the exploration activities at the Properties, which are intended to increase confidence levels in grade, geometry and continuity of these projects and new resource estimates.  This will be accomplished through additional prospecting, exploration and surface drilling of the Properties.

30. The proposed exploration program with respect to the XXXXXXXXXX portion of Property 1 consists of re-logging of drill core, geophysical re-processing and modelling of old data, and diamond and reverse circulation drilling from the surface. The proposed exploration area for the XXXXXXXXXX portion of Property 1 begins at about XXXXXXXXXX of the mine shaft for the XXXXXXXXXX and extends past the claims owned by Fco XXXXXXXXXX to the XXXXXXXXXX boundary of Property 1 at the border with XXXXXXXXXX.  The drilling program will be mainly driven by detected geophysical and geochemical anomalies and will see the existence of mineralization close to the surface, as well as at relatively shallow depths (around XXXXXXXXXX metres) in an area that is located more than XXXXXXXXXX kilometres from the existing shaft of the XXXXXXXXXX.  Any mineralization eventually found close to the surface, if proven economic, would be mined by open pit method.  If deeper mineralization is found that requires underground mining, given the distance between the proposed exploration and the XXXXXXXXXX, it is not expected that any such underground mining would utilize the existing workings of, or the extraction machinery and equipment used in the mining of, the XXXXXXXXXX.  Rather, it is anticipated that any new mine (whether open pit or underground) that results from the proposed exploration of the XXXXXXXXXX portion of Property 1 would be operated independently from the XXXXXXXXXX and that there would not be an integrated system for the extraction of ore that is used in the operation of both such new mine and the XXXXXXXXXX.

31. There is no formal exploration program currently proposed for the XXXXXXXXXX portion of Property 1. Any potential exploration work would be scattered over several anomalies located several kilometres from the XXXXXXXXXX and it is not expected that any new mine that is established on the XXXXXXXXXX portion of Property 1 would utilize the existing workings of, or the extraction machinery and equipment used in the mining of, the XXXXXXXXXX.  Rather, it is anticipated that any new mine (whether open pit or underground) that results from the proposed exploration of the XXXXXXXXXX portion of Property 1 would be operated independently from the XXXXXXXXXX and that there would not be an integrated system for the extraction of ore that is used in the operation of both such new mine and the XXXXXXXXXX.

32. The proposed exploration program for Property 2 would include XXXXXXXXXX geological teams to follow up on previously identified exploration targets.  This work would include mapping and sampling of outcrops and the taking of soil samples for geochemistry.  This program would also include a XXXXXXXXXX kilometre XXXXXXXXXX survey (XXXXXXXXXX line kilometres).  A second phase of exploration includes XXXXXXXXXX (XXXXXXXXXX metres) drill programs at XXXXXXXXXX of the more advanced targets.  It is not expected that any new mine that is established on Property 2 would utilize any remaining workings of any of the Property 2 Mines.  Rather, it is expected that any new mine that results from the proposed exploration of Property 2 would be operated independently from any remnants of the Property 2 Mines.

33. The proposed exploration program for Property 3 would be focused on the XXXXXXXXXX part of Property 3 with the objective of finding a XXXXXXXXXX deposit of economic significance around discovered XXXXXXXXXX occurrences.  Such program would include geophysical surveys, further prospection and diamond drilling.  A helicopter-borne high-resolution magnetic survey is also proposed on the XXXXXXXXXX occurrence and a follow-up prospection campaign is also proposed on the new induced polarization anomalies generated along the XXXXXXXXXX.  A XXXXXXXXXX metre drilling program will be designed based on the new prospection results and the induced polarization anomalies generated by the new survey.  The drilling program will also include XXXXXXXXXX.

34. The proposed exploration program with respect to Property 4 consists of a core drilling program from the surface to explore the ore potential below the shallow zones already explored.  It is not expected that any new mine that is established on Property 4 would utilize the existing workings of the Property 4 Mine because such workings are too shallow and are not extensive enough to provide any significant support for any potential underground mining operation on Property 4.  Rather, it is expected that any new mine that results from the proposed exploration of Property 4 would be operated independently from any remnants of the Property 4 Mine.

35. Bco intends to use arm’s length contractors to conduct the work described herein but may also use employees of Aco to complete certain activities pursuant to an intercompany services agreement under which Aco will be paid an arm’s length fee by Bco for such services.  Bco will use the proceeds from the flow-through share offerings to pay the contractors or Aco, as the case may be.  The contractors and Aco intend to use their own specialized equipment in carrying out all services on behalf of Bco.  Bco will not acquire an interest in Aco’s depreciable property.

36. By carrying out the exploration activities described above and contemplated in the Farm-in Agreements, Bco will be carrying on business in Canada and will file the required income tax returns in Canada.

Renunciation by Bco

37. Bco will renounce Expenditures pursuant to, and in accordance with, subsections 66(12.6) and 66(12.66) of the Act, as applicable, to the Canadian resident investors to whom the flow-through shares are issued as described in paragraph 21 above.  Bco will file form T101A in respect of such renunciation.

38. The Expenditures to be renounced to a flow-through share investor will not include any amount incurred before the later of:

(a) the date that the applicable flow-through share agreement is entered into with each investor; and

(b) in the case of Properties 1 and 2, the date an interest in such Properties is acquired by Bco and, in the case of Properties 3 and 4, the date that the applicable Farm-in Agreement has been executed.

ADDITIONAL INFORMATION

39. Bco will comply with the provisions of Part XII.6 of the Act in respect of the Proposed Transactions.

40. After Bco has incurred the Expenditures, and in the case of Properties 3 and 4, after Bco has earned its working interests in such Properties pursuant to the applicable Farm-in Agreements, and following the renunciation by Bco of Expenditures to its shareholders, Bco may transfer its interests in one or more Properties to Aco in return for shares of Aco.  If any such transfer is made, Bco and Aco may jointly file an election under subsection 85(1) to deem Bco’s proceeds of disposition, and Aco’s cost, of any transferred interest in a Property to be the elected amount, subject to the detailed rules in subsection 85(1).  In the case of the transfer of its interest in Property 3 or 4, it is expected that the elected amount would be a nominal amount.  Bco’s cost of the shares of Aco received as consideration for such interests would be equal to the elected amount and the increase to the paid-up capital of those shares would not exceed the maximum amount that could be added to the paid-up capital of such shares, having regard to subsection 85(2.1).

PURPOSE OF THE PROPOSED TRANSACTIONS

41. The proposed Expenditures to be incurred to complete the proposed exploration and development work will allow Aco to gain greater confidence and certainty with respect to the location, nature, extent and quality of the mineralization of the Properties.

42. The purpose for having Bco rather than Aco issue the flow-through shares is that the flow-through shares would be publicly listed on the XXXXXXXXXX and would be more attractive to investors.  However, it is intended that the flow-through shares will be issued only to residents of Canada.  The purpose of issuing flow-through shares is to provide financing for the Expenditures on the Properties, each being a Canadian resource property.

RULINGS

Provided that the preceding statements constitute a complete and accurate disclosure of all the relevant facts, Proposed Transactions and purpose of the Proposed Transactions, and provided further that the Proposed Transactions are carried out as described above, our rulings are as follows:

A. An expense incurred by Bco after the date of this letter and as part of an Exploration Program, which is incurred for the purpose of determining the existence, location, extent or quality of a mineral resource on Property 1, Property 2, Property 3 or Property 4, as the case may be, including such an expense incurred:

(a) for environmental studies or community consultations (including, studies or consultations that are undertaken to obtain a right, licence or privilege for the purpose of determining the existence, location, extent or quality of a mineral resource on Property 1, Property 2, Property 3 or Property 4, as the case may be);

(b) in the course of:

(i) prospecting;

(ii) carrying out geological, geophysical or geochemical surveys;

(iii) drilling by rotary, diamond or percussion or other methods; or

(iv) trenching, digging test pits and preliminary sampling;

but not including

(c) any Canadian development expense; or

(d) any expense described in (b)(i), (iii) or (iv) above in respect of the mineral resource, incurred before a new mine in the mineral resource comes into production in reasonable commercial quantities, that results in revenue or can reasonably be expected to result in revenue earned before the new mine comes into production in reasonable commercial quantities, except to the extent that the total of all such expenses exceeds the total of those revenues,

will qualify as a Canadian exploration expense of Bco pursuant to paragraph (f) of the definition thereof in subsection 66.1(6) of the Act, provided that the expense does not constitute the cost, or any part of the cost, to Bco of any depreciable property.

B. Provided that Bco is carrying on business in Canada, subsection 66(12.71) will not apply to prevent Bco from renouncing CEE to an investor that acquires flow-through shares as described in paragraph 21.

C. Subsection 245(2) will not apply to the Proposed Transactions, in and by themselves, to redetermine the tax consequences confirmed in the rulings given above.

COMMENTS

The above rulings are given subject to the limitations and qualifications set forth in Information Circular 70-6R7 issued on April 22, 2016, and are binding on the Canada Revenue Agency provided that Bco has commenced work under each of the Exploration Programs by no later than XXXXXXXXXX.  The above rulings are based on the law as it presently reads and do not take into account any proposed or future amendments to the Act or the Canada-United States Income Tax Convention (1980) which, if enacted, could have an effect on the rulings provided herein.

Although we received, for review, certain documents relating to the Proposed Transactions, our rulings are based solely on the facts and representations contained herein.

Expenses incurred in order to determine the economic feasibility of whether or not to proceed with developing a new mine, or that are related to the processing or sale of the mineral do not, in our view, satisfy the purpose test in paragraph (f) of the definition of “Canadian exploration expense”.  In addition, exploration expenses incurred for activities undertaken in the area that is less than XXXXXXXXXX kilometres from the Property 1 XXXXXXXXXX Mine may not qualify as CEE under subsection 66.1(6) of the Act. 

Under paragraph 28 above, it is represented that the arrangements under the Farm-in Agreements will each constitute a simple farm-out transaction.  In our view, Aco should be subject to our position on “simple farm-outs” that is contained in paragraph 14 of our Interpretation Bulletin IT-125R4. Accordingly, in our view, Aco will not have proceeds of disposition with respect to the disposition of Canadian resource properties as a result of farming out Property 3 and Property 4 pursuant to the Farm-in Agreements as described in paragraphs 23 through 28 above.

Except as expressly stated, our rulings do not imply acceptance, approval or confirmation of any income tax implications relating to the facts or Proposed Transactions.  In particular, nothing in this letter should be interpreted as confirming either expressly or implicitly:

(i) the reasonableness of any expenditure referred to in this letter;

(ii) whether any particular expense incurred by Bco will qualify as CEE, or whether any particular expense not considered to be CEE will qualify as CDE;

(iii) whether any expense incurred by Bco that is not incurred as part of the Exploration Programs will qualify as CEE;

(iv) whether any particular expense incurred by Bco will constitute a prescribed Canadian exploration and development overhead expense for the purpose of paragraph 66(12.6)(b) of the Act;

(v) whether Bco meets the definition of a principal-business corporation or whether any share issued by Bco will be a flow-through share;

(vi) the determination of the fair market value or adjusted cost base of any property referred to herein, including, for greater certainty, the fair market value of any of the Properties;

(vii) whether subsection 15(1) or section 80 would apply in respect of the Proposed Transaction described in paragraph 19 above; and

(viii) any tax consequences relating to the facts and Proposed Transactions described herein, other than those specifically described in the rulings given above, including, for greater certainty, any tax consequences to any person other than Aco or Bco that relate to the facts or Proposed Transactions described herein.

Yours truly,

XXXXXXXXXX
Manager
Resources Section
Reorganizations Division
Income Tax Rulings Directorate
Legislative Policy & Regulatory Affairs Branch

APPENDIX A - PROPERTY 1
XXXXXXXXXX

APPENDIX B - PROPERTY 2
XXXXXXXXXX

APPENDIX C - PROPERTY 3
XXXXXXXXXX

APPENDIX D – PROPERTY 4
XXXXXXXXXX

APPENDIX E - PROPERTY 4
XXXXXXXXX

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