Frequently Asked Questions About the
Direct Equity Tax Credit Program
- What is venture capital?
- Why are tax credits needed
to encourage investors to put their money into these ventures?
- Why is the focus on "small
business"?
- What is the Direct Equity
Tax Credit program?
- What is the area referred
to as the North East Avalon?
- Who will be eligible for a
Direct Equity Tax Credit?
- What criteria must be met
for a business to be considered an eligible business under the program?
- What kinds of business
activities must a company be engaged in to qualify under the program?
- What kind of shares
issuance could be considered to be eligible investments?
- Do shares issued under
this program still have to comply with the Securities Commission of
Newfoundland?
- Are there any restrictions
on how the investment funds can be used by an eligible company?
- How can government monitor
this program for compliance?
- What is the rationale for
excluding certain businesses and business activities from the program?
- Are there any fund-raising
limits or caps under the programs for the eligible businesses?
- What is the application
process under the Direct Equity Tax Credit program for an eligible
business?
- How does an investor or
arm’s length corporation under the Direct Equity Tax Credit program
actually receive his/her tax credit?
- How much tax credit can an
investor receive?
- What requirements are
there of the investor?
- Is it fair to assume that
companies made eligible under this government tax credit program should
be safe investments?
- Has the program been
successful so far?
- What are the new
enhancements to the Direct Equity Tax Credit Program?
- How do people obtain more
information on the Direct Equity Tax Credit program?
1. What is venture
capital?
Venture capital, also known as risk capital, is money put up by investors to
fund a new company or an expansion of an established company. The investor’s
money is used as equity by the company to grow the business and eventually
to provide a return or profit to the investor. Venture capital is usually
very "patient" money where investors are prepared to leave it in the company
for a considerable period of time to give the company a chance to grow and
succeed.
2. Why are tax credits
needed to encourage investors to put their money into these ventures?
The start up of a new business or an expansion of an existing one is very
risky, especially for small businesses in new emerging areas of the economy.
Entrepreneurs often have difficulty finding the capital they need to get
their businesses up and running or expand them as they start to grow. Tax
credits reduce the financial risk to investors and thereby provide an
incentive for them to put their money into companies that are in need of
start up or expansion funds.
3. Why is the focus on
"small business"?
Small businesses are a vital part of our economy - they make up about 95 per
cent of all business enterprises that exist in Newfoundland and Labrador and
create more jobs each year in Canada than any other sector of the economy.
Targeting the small business sector for support has the potential to make a
real difference in virtually all areas of the province.
4. What is the Direct
Equity Tax Credit program?
The Direct Equity Tax Credit program became effective October 30, 2000. This
program provides a provincial income tax credit equal to 20 per cent of the
investment made directly in eligible businesses located in the North East
Avalon area, and a 35 per cent tax credit to investors who make a direct
investment in eligible businesses in the remainder of the province.
Effective April 1, 2004, the Direct Equity Tax Credit Program has been
expanded to include investments made by an arm’s length corporation in an
eligible business.
5. What is the area
referred to as the North East Avalon?
The North East Avalon includes Bauline, Conception Bay South, Flatrock, Logy
Bay-Middle Cove-Outer Cove, Paradise, Petty Harbour, Portugal Cove-St
Philip’s, Pouch Cove, Torbay, Mount Pearl and St. John’s. The location of
the investor is not a consideration in determining the tax credit rate.
Where qualifying activities are undertaken both inside and outside the North
East Avalon, a reasonable pro-ration of the 20% and 35% tax credit rates
would apply.
6. Who will be eligible
for a Direct Equity Tax Credit?
The credit is available to individuals 19 years of age or older who invest
in an eligible business and who are residents of Newfoundland and Labrador
or otherwise paying income tax to the province.
Effective April 1, 2004, the program has been expanded to include
investments made by arm’s length corporations operating in Newfoundland and
Labrador and otherwise subject to Newfoundland and Labrador corporate income
tax.
7. What criteria must be
met for a business to be considered an eligible business under the program?
In order to qualify as an eligible business, a corporation must:
- be a Canadian controlled corporation and
not a publicly traded corporation;
- have a permanent establishment in
Newfoundland and Labrador;
- have less than $20 million in assets,
including associated corporations;
- utilize in the province all of the
capital raised from the specified issuance;
- have no more than 50 full time
equivalent positions;
- have at least $25,000 of either or both
of shareholder equity and shareholder loans before applying for
certification; and
- must be engaged in, and will utilize
funds for, qualifying activities.
8. What kinds of business
activities must a company be engaged in to qualify under the program?
The programs are designed to support small businesses in growing areas of
the economy, such as:
- technology;
- research and development;
- aquaculture;
- forestry and agrifoods;
- manufacturing and processing;
- export / import replacement businesses;
- tourism; and
- cultural industries.
Considerable flexibility will be adopted to
ensure that legitimate proposals are considered if they meet this
fundamental test. However, businesses engaged in the following areas will
not be eligible:
- wholesale;
- retail;
- food and beverage services;
- personal services, business services,
professional practices and trades;
- real estate marketing and development;
- oil and gas development and production;
- mineral resource exploration;
- financial services;
- fish harvesting and primary fish
processing (except processing of underutilised species as designated by
the Minister); and
- any other activity which in the opinion
of the Minister is not in keeping with the spirit and intent of this
program.
9. What kind of shares
issuance could be considered to be eligible investments?
The proposed share offering must be new common voting shares issued after
October 30, 2000. They must be non-redeemable, non-convertible and
unrestricted in profit sharing or participation upon dissolution. Other than
the RRSP program, they may not be eligible for any other credits or
deductions. The shares can not be paid for in kind. They must be fully paid
for in cash.
In addition, shares are not eligible if the
individual investor disposed of any shares of the eligible business at any
time after March 22, 2000 and before the specified issue of shares. Shares
purchased by a corporate investor are not eligible if that investor disposed
of any shares of the eligible business at any time after March 27, 2003. The
specified issue of shares refers to those shares that are specified in the
business’s application for a Certificate of Registration as an eligible
business.
10. Do shares issued
under this program still have to comply with the Securities Commission of
Newfoundland?
Yes, the Direct Equity Tax Credit program in no way affects or changes the
responsibilities of issuing companies to comply with the Securities
Commission of Newfoundland. Those who are issuing shares under the Direct
Equity Tax Credit program have to ensure that they are in complete
compliance with the Commission, as normal.
11. Are there any
restrictions on how the investment funds can be used by an eligible company?
Yes. The tax credits are intended to finance the start up, modernization,
expansion or growth of an eligible small business. They will not be
permitted to go toward activities that do not meet these objectives, such as
simply retiring old debt in a company or to refinance or purchase an
existing company or to pay out existing shareholders of a company. The tax
credits must create new wealth and activity in a business.
12. How can government
monitor this program for compliance?
Eligible businesses shall supply financial statements, corporate tax returns
and schedules, as required by the Minister. These statements must include an
independent auditor’s statement that the corporation is in good standing and
that the specified share issuance meets all the requirements of the Direct
Equity Tax Credit program. Upon request, eligible businesses shall supply
information confirming the use or disposition of capital raised under the
Direct Equity Tax Credit program, to ensure compliance with requirements
such as qualifying business activities and prohibited uses of funds.
Eligible businesses shall also provide a detailed status report of
shareholdings for five years after specified share issuances.
Also, the provincial Department of Finance
will be conducting routine on-site audits. There are significant penalties
for those who knowingly and willingly fail to comply with the requirements
of the Direct Equity Tax Credit Regulations under the Income Tax Act.
13. What is the rationale
for excluding certain businesses and business activities from the program?
The purpose of the program is to encourage incremental business activity
in key sectors of the economy. Targeting the program to growth sectors and
to those businesses with the greatest capital-raising challenges enables the
province to get the biggest return for its tax dollars.
14. Are there any
fund-raising limits or caps under the programs for the eligible businesses?
Yes. There is a fund-raising cap of $700,000 per eligible company in the
Direct Equity Tax Credit program. This limit is designed to ensure the
benefits of the program are available to as many companies as possible
without compromising the needs of the small business community. Based on the
consultations held, the cap is high enough to meet the needs of most start
up and expanding small businesses in the province.
15. What is the
application process under the Direct Equity Tax Credit program for an
eligible business?
An eligible business must make application to the provincial Department
of Finance to obtain certification. A simple application form will need to
be filled out. Approval of most applications can be expected within two
weeks, provided the requested information in the application form is
complete. Certification will then authorize the business to go out and raise
the approved amount of investment capital within three months of being made
eligible, with the benefit of the provincial tax credit as an incentive.
16. How does an investor
or arm’s length corporation under the Direct Equity Tax Credit program
actually receive the tax credit?
Tax credit receipts to investors, including arm’s length corporate
investors, will be issued by the provincial Department of Finance upon
receiving investor documentation from the eligible business that has
certification. The tax credit receipt must then be submitted with the
taxpayer’s T1 Income Tax return or T2 return, as appropriate, for the
applicable tax year.
17. How much tax credit
can an investor receive?
The maximum annual tax credit per investor is $50,000. For eligible
individual investment the tax credit may be claimed in the year in which the
eligible shares are purchased, or if purchased within 60 days of a calendar
year, may be claimed in the previous year. For eligible corporate investors,
the tax credit would be claimed in the fiscal year in which the investor
purchased the eligible shares. The credit is not refundable but may be
carried forward for seven years or carried back three years, however,
corporate investors can not carry back in fiscal years ending prior to April
1, 2004 and individuals can not carry back the credit prior to the 2000
taxation year. The $50,000 maximum credit includes any carry forward (or
back) amounts used in a given year.
18. What requirements are
there in terms of the shares after issuance?
Eligible businesses are not allowed to redeem eligible shares for 5 years
after issuance. If shares are redeemed then the eligible business shall pay
to the Minister a penalty equal to the tax credit allowed with respect to
the shares plus interest. This five year period is intended to ensure that
the investment funds have a chance to work for the benefit of the company.
19. Is it fair to assume
that companies made eligible under this government tax credit program should
be safe investments?
No. The Province of Newfoundland and Labrador in no way guarantees the value
of any shares issued by an eligible business. Nor does it in any way express
an opinion as to the financial condition of the issuing company or the
merits of an investment in shares of the issuing company.
20. Has the program been
successful so far?
Yes, the program has been very successful, with numerous applications to
date and many companies made eligible. Many of these eligible companies have
already raised significant amounts of capital under the program. Recent
changes that allow arm’s length corporate investors should further improve
the program.
21. What are the new
enhancements to the Direct Equity Tax Credit Program?
Effective April 1, 2004, the program has been expanded to include
investments made by arm’s length corporations in an eligible business. Under
the enhanced program, corporations would be eligible for a tax credit
respecting the purchase of newly issued non restricted common voting shares
of an eligible business. The corporation acquiring the shares would not be
entitled to the tax credit in respect of shares purchased from a corporation
with which it does not deal at arm’s length. Arm’s length has the same
meaning as section 251 of the federal Income Tax Act.
22. How do people obtain
more information on the Direct Equity Tax Credit program?
The Direct Equity Tax Credit Regulations under the Income Tax Act may be
found at
http://www.gov.nl.ca/hoa/regulations/rc010026.htm
Additional information, including application
forms, may be obtained by contacting:
Department of Finance
Taxation and Fiscal Policy Division
Government of Newfoundland and Labrador
P.O. Box 8700
St. John’s, NL
A1B 4J6
Phone: (709) 729-3665
Fax: (709) 729-2277
E-mail: taxadmin@gov.nl.ca
|