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TSX Venture Exchange stocks may offer tax breaks

Male pattern baldness can be a problem for some men. And if you're going to use one of those lotions that promotes hair growth, make sure you read the fine print first.

My friend Paul has never been the kind of guy to read the fine print. The label on his lotion clearly read: "May not promote hair growth with all men. May cause irritation of the scalp."

Now, I guess it wouldn't have been so bad if the stuff had caused Paul's hair to grow while at the same time causing irritation of the scalp. The problem? Paul still has no hair, but he does have a flaming red scalp.

"What am I going to do Tim?" Paul asked this week.

"Paul, I'm the wrong guy to ask, but I suppose you could always apply for a job as a lighthouse," I said unsympathetically.

If there's one thing to remember, it's this: Missing the fine print can have big implications -- especially in hair-loss remedies and tax law.
The fine print

You might recall that, back in 1999, the Vancouver and Alberta stock exchanges merged to form the TSX Venture Exchange (formerly called the Canadian Venture Exchange). At that time, the Department of Finance announced that the TSX Venture Exchange would be added to the list of "prescribed" stock exchanges under our tax law in Canada. It matters quite a bit in the world of tax whether or not a stock is listed on a "prescribed" stock exchange.

For example, stocks that do not trade on a prescribed stock exchange are not generally considered to be public companies under our tax law; they're usually considered to be private companies for tax purposes. There can be real tax benefits to owning a private company.

A few months after the Vancouver and Alberta exchanges merged, the Canadian Dealing Network (CDN -- Canada's former over-the-counter stock market) also joined the TSX Venture Exchange. You see, the CDN was never a prescribed stock exchange, so the companies trading over the CDN were generally considered to be private companies for tax purposes.

I wrote about the benefits of this in two articles dated January 25, 1997, and April 17, 1999, (see

When the CDN joined the TSX Venture Exchange, most tax pros -- including me -- assumed that stocks trading on the CDN would now be considered public companies under tax law since the new TSX Venture Exchange is a prescribed stock exchange.

As it turns out, most of us failed to read the fine print. In a press release dated Dec. 21, 2000, the Department of Finance announced that stocks formerly trading on the CDN became "Tier 3" stocks on the new TSX Venture Exchange. Interestingly, Tier 3 of the TSX Venture Exchange has not yet been added to the list of prescribed stock exchanges in Canada. The bottom line? Those stocks that formerly traded on the CDN are still generally considered for tax purposes to be private companies as Tier 3 stocks on the new TSX Venture Exchange.
The benefits

Tier 3 stocks can offer investors both upside and downside protection. Consider the upside first.

If you do happen to make money holding those stocks, you may be eligible to shelter from tax up to $500,000 of capital gains on those shares. You see, there is still an enhanced capital gains exemption of $500,000 available to shelter gains on the disposition of "qualified small business corporation" (QSBC) shares. This could save you as much as $120,000 in tax, depending on your province.

The question is: Are those Tier 3 shares you own considered to be QSBC shares? There are certain tests that must be met, and only the company itself can answer that question for you.

So what if you've lost money on those stocks?

If you lose money owning a private company, you may be entitled to claim an "allowable business investment loss" (ABIL), which is calculated as 50 per cent of the loss you've incurred. Unlike your typical capital losses, which must be applied to offset capital gains, an ABIL can be deducted against any type of income. Not a bad deal.

To qualify, the company must be considered a "small business corporation" (SBC), which will include many of those Tier 3 companies on the TSX Venture Exchange. You'll need to contact the company itself to find out if it's considered an SBC.
The steps

So what can you do to save some tax here?

1. If you own Tier 3 shares that have appreciated in value, consider crystallizing the gains on those shares by selling today if you can shelter the gains from tax using the enhanced capital gains exemption; you never know when the exemption might disappear.

2. If your Tier 3 shares have dropped in value (and what hasn't dropped in value recently?), consider selling today to claim an ABIL this year, where the shares qualify.

3. If you've sold qualifying Tier 3 shares in the past, consider requesting an adjustment to that tax return to shelter any gain from tax using the enhanced capital gains exemption, or to classify any loss as an ABIL.

Depending on how long ago you sold those shares the taxman may not be obliged to allow the change, but it could save you tax -- so be sure to file Form T1-ADJ to request the adjustment.
Tim Cestnick, CA, CFP, TEP is author of Winning the Tax Game 2002 and Winning the Estate Planning Game. He is managing director, Tax Smart Services, at AIC Ltd.

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