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Canadian Goverment Pays You Money via the SR&ED Incentive Program

By Richard Moore (http://www.techincentives.ca).

Published: 29 July 2006

The Scientific Research and Experimental Development (SR&ED) is the largest government incentive available to Canadian technology companies (~$3 Billion annually). This is about 20X the amount of grants that they receive from the National Research Council. SR&ED has a huge impact on balance sheets of technology-based companies because they typically recover ~1/2 of their R&D costs from the governments of Canada: 76% federal; 24% provincial in BC and Ontario; more in Quebec; only the federal portion in non-interventionist Alberta. SR&ED is the lifeblood of all tech startups. They must apply after they have spent money on R&D. The deadline is 18 months after every fiscal year end: some will be in the fortunate position of being able to apply for SR&ED for two fiscal periods, if both fiscal periods ended within the last 18 months.

Canadian Controlled Private Corporations (CCPCs) in Ontario and British Columbia receive cash equal to the sum of: 68.5% of qualifying salaries; 41.5% of contract fees and costs of materials 22.6% of capital equipment used exclusively for R&D. Public companies qualify too, but instead of government cheques they receive Investment Tax Credits that can be used only to reduce their income taxes, and about one-half as much as CCPCs receive (typically ~3-4 months after SR&ED forms are submitted to CRA, part of their T2 Corporate Income Tax returns).

Unfortunately Canada Revenue Agency (CRA) which administers the SR&ED funding program is unable to convey the underlying arithmetic simply. CRA summarizes SR&ED benefits as follows: federal Investment Tax Credits of 35% + provincial ITCs of another 10%. This is correct, but misleading because it omits the 65% proxy that CRA applies to salaries as a "proxy" for overhead expenses, and the compounding effect. Unfortunately, CRA doesn't explain these calculations because they are optimal, although they apply in the vast majority of situations.

Most companies are mystified by the academic prism that CRA uses to determine eligibility, and intimidated by the paperwork. Not all technical work qualifies for SR&ED, only "research" performed by Canadians in Canada. When existing knowledge is inadequate, design engineers will need to systematically investigate problems; when they discover solutions, they generate new knowledge (i.e., what CRA refers to as an 'Advancement', i.e., an 'advancement in knowledge'), a key element of proving to CRA that their work qualifies for SR&ED. Typically they access generally-available information to acquire pertinent information and knowledge; if existing knowledge is insufficient or inadequate, they must systematically investigate data, perform tests and analysis to discover solutions to their problems. They are then able to explain to CRA the new technical knowledge that they have generated, which advances knowledge in their technical domain.

"Routine engineering" doesn't qualify for SR&ED because, by definition, competent professionals already know how to perform such tasks by applying existing knowledge, their education, and prior experience. Instead, design engineers' work must be "technically-risky", i.e., the outcome must be uncertain. Conventional system integration does not qualify, for example, because the required information is readily available through documentation; internet; knowledgebases; colleagues.

SR&ED activities include most innovative technical development, because technically-challenging issues that impose uncertainty, and systematic investigation generates new knowledge:

  • experiments and analysis;
  • design, analysis, data collection, and research;
  • technical support (not for customers);
  • internal technical documentation;
  • hiring;
  • direct supervision of employees." "Non-technical activities DO NOT qualify for SR&ED:
  • sales, marketing, and routine engineering;
  • business plan preparation;
  • customer support, preparation of user documentation;
  • financing + reporting to shareholders"

Guidance that I believe will benefit everyone who applies for SR&ED is available at www.techincentives.ca, regardless whether I act for them. The reason my clients outsource their SR&ED claim preparation process to me is that my templates simplify their data capture process so SR&ED becomes a reliable annuity.

Because I was a Science Consultant to CRA for 4 years, I assist my clients to understand SR&ED requirements. I am one of very few people in Canada capable of preparing both technical and financial SR&ED documentation. This potent combination is not only efficient, it ensures that my clients maximize the amount of their SR&ED cheques! I quarterback the entire SR&ED application process for my clients. I guide them to identify SR&ED Projects and prepare documentation that CRA requires. They set up their internal systems to capture SR&ED data using templates that I've developed by preparing >150 SR&ED claims for >55 clients since I left CRA 5 1/2 years ago. My templates form the foundation of a self-documenting process which makes annual preparation of SR&ED claims easy (relatively), not time consuming - only one hour per person is required each month. These templates ensure that my clients have documentation that satisfies CRA, so clients learn to rely on receiving their SR&ED cheques, like an annuity I work only on a contingency basis; I'm content to be paid when their SR&ED cheques arrive.

My clients build SR&ED into their cash flow planning by linking a SR&ED Time Allocation spreadsheet to their cash flow projections. It calculates the amount of the SR&ED cheque that they will receive ~6 months after every fiscal period ends every year, provided we act promptly (~2 months to finalize their financial statements + ~3-4 months for CRA to process their SR&ED claims). Descriptions of activities that each employee and contractor performs each month enable us to (1) justify to CRA the proportion of their time spent working on each SR&ED Project; (2) explain why their activities qualify for SR&ED. By keeping regular records they will not have to retroactively reconstruct a historical record of their activities, while guessing after-the-fact at the percentage of their time spent on SR&ED. It is less time-consuming and simpler for them to regularly enter the percentages of SR&ED-eligible time and justifications, and it is likely to result in a higher SR&ED cheque because technical people tend to think, after they've found a solution to their problems, "Gee, that wasn't so difficult after all" or worse, they forget entirely! Because uncertainties prevail at the beginning, it is easier to describe problems early than to return to re-think through the issues and recall what concerned them, many months later. Proper preparation of SR&ED claims is a process through which I take my clients; not a scramble to cobble together justifications after-the-fact at the end of every fiscal period.

Related Links

  • Dont Miss Out on the SR&ED Tax Credit Program (http://sbinfocanada.about.com/od/taxinfo/a/SREDtaxcredit.htm)by Susan Ward. R&D Tax Credit Program is Open to All Types of Businesses and Applying R&D Tax Incentives to Your Business
  • Scientific Research and Experimental Development (SR&ED) Tax Incentive Program (http://www.cra-arc.gc.ca/taxcredit/sred/menu-e.html)
  • Corporate R & D Grants - SREDs (Canada) (http://www.sfu.ca/~mvolker/biz/sred.htm)
  • Example SR&ED filing (http://semacode.org/weblog/2006/04/29)

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