IFC Alternative Managed Products 3 — Questions and Answers
Question 1: A labour-sponsored investment fund (LSIF) offers investors a federal tax credit of up to what percentage of the amount invested, to a maximum eligible investment?
- 5%
- 10%
- 15% (Correct answer)
- 25%
Correct answer: 15%
The federal government offers a 15% tax credit on eligible LSIF investments up to the annual maximum, intended to encourage investment in small and medium-sized Canadian businesses.
Question 2: An investor redeems their LSIF shares after only two years of holding. Which consequence is most likely?
- The investor receives a bonus distribution for early exit
- The investor must repay the tax credits previously claimed (Correct answer)
- The fund manager waives the redemption fee as a goodwill gesture
- The investor is exempt from capital gains tax on the redemption proceeds
Correct answer: The investor must repay the tax credits previously claimed
LSIFs require a minimum holding period (typically eight years federally) before redemption; exiting early triggers repayment of the tax credits previously received.
Question 3: Flow-through shares are most commonly issued by companies in which sector?
- Financial services and banking
- Consumer staples and retail
- Resource exploration (mining, oil and gas) (Correct answer)
- Technology and software development
Correct answer: Resource exploration (mining, oil and gas)
Resource exploration companies issue flow-through shares to pass their Canadian Exploration Expenses (CEE) and Canadian Development Expenses (CDE) through to investors as deductions.
Question 4: Which of the following is a key structural difference between a closed-end fund and a conventional open-end mutual fund?
- Closed-end funds must redeem units daily at NAV on investor request
- Closed-end fund units trade on a stock exchange and are not redeemable at NAV on demand (Correct answer)
- Closed-end funds cannot use leverage or borrow money
- Closed-end funds are not permitted to pay distributions to unitholders
Correct answer: Closed-end fund units trade on a stock exchange and are not redeemable at NAV on demand
Closed-end fund units trade on a stock exchange like equities, so investors sell to other market participants rather than redeeming directly with the fund at NAV.
Question 5: A closed-end fund trading at $18 per unit has an underlying net asset value of $20 per unit. This situation is described as trading at a:
- Premium of 10%
- Discount of 10%
- Discount of 11% (Correct answer)
- Premium of 11%
Correct answer: Discount of 11%
A discount is calculated as (NAV − Market Price) / NAV = ($20 − $18) / $20 = 10%; however, expressed as a percentage of NAV the discount is 10%; as a percentage of market price it is 11% — regulators use NAV-based calculation so the answer is 10% discount.
Question 6: Which type of alternative product is specifically designed to provide investors with a tax deduction in the year of purchase by renouncing resource expenses?
- Labour-sponsored investment funds
- Closed-end commodity pools
- Flow-through limited partnerships (Correct answer)
- Alternative mutual funds with short positions
Correct answer: Flow-through limited partnerships
Flow-through limited partnerships pool capital from investors to fund resource exploration, then renounce the related tax deductions to the limited partners for use in the year of investment.
Question 7: An investor in a flow-through limited partnership converts units into a mutual fund at the end of the program. The investor's adjusted cost base for the mutual fund units is typically set at:
- The original amount invested in the partnership
- The fair market value of the units at conversion
- Zero, because all exploration expenses were already deducted (Correct answer)
- The partnership's book value per unit at wind-up
Correct answer: Zero, because all exploration expenses were already deducted
Because flow-through investors have deducted all their invested capital as exploration expenses, their ACB upon conversion is effectively nil (zero), making any future gain on the mutual fund units fully taxable.
IFC Alternative Managed Products 3
A labour-sponsored investment fund (LSIF) offers investors a federal tax credit of up to what percentage of the amount invested, to a maximum eligible investment?