What is the SR&ED Tax Credit?
The Scientific Research and Experimental Development (SR&ED) Program is a federal tax credit program administered by the Canada Revenue Agency (“CRA”) and designed to encourage Canadian businesses to conduct research and development (R&D) in Canada.
Eligibility for the SR&ED Tax Credit
Corporations, individuals, trusts and members of a partnership can apply for SR&ED tax credits. Incentives come in the form of SR&ED expense deductions to reduce taxable income and as investment tax credits (ITC), paid in dollars by cheque to the claimant, which can be as high as 35 percent of eligible R&D costs such as materials and labour.
Taxpayers carrying on a business in Canada are eligible for the SR&ED program. However, the tax incentive may differ depending on whether your business is structured, for example, as a sole proprietorship or a corporation. Additional advantages exist for Canadian-controlled private corporations.
What Work Qualifies?
Only some activities are eligible for the SR&ED program. Eligible work includes:
basic research; and
certain types of work in support of the above listed.
Despite the above, SR&ED tax credits are not awarded purely for “laboratory” type work. As outlined below, “shop floor SR&ED” occurs in a production environment. For instance, if your business is developing a product and has had to engage in additional development and testing to overcome design complexities, you may have engaged in SR&ED for tax purposes.
Often, these types of activities fall within fields such as engineering, design, operations research, mathematical analysis, computer programming, data collection and testing.
Refundable and non-refundable tax credits for a portion of costs related to these areas can be recovered through the SR&ED program. This includes wages and salaries of employees, overhead expenditures, and materials.
What Work does not Qualify?
SR&ED eligible work does not include:
capital expenditures, market research or sales promotion;
quality control or routine testing of materials, devices, products, or processes;
research in the social sciences or humanities;
commercial production of a new or improved material, device or product or the commercial use of a new or improved process;
routine data collection; and
prospecting, exploring or drilling for, or producing minerals, petroleum or natural gas.
The Legal Test - Northwest Hydraulic Consultants Ltd. v. The Queen, 1998 CanLII 553 (TCC)
The test to consider whether the claimed work is eligible for the SR&ED tax credit was outlined in the Tax Court of Canada decision Northwest Hydraulic Consultants Ltd. v. The Queen, 1998 CanLII 553 (TCC), at paragraph 16:
1. Is there a technical risk or uncertainty?…
2. Did the person claiming to be doing SRED formulate hypotheses specifically aimed at reducing or eliminating that technological uncertainty?…
3. Did the procedures adopted accord with established and objective principles of scientific method, characterized by trained and systematic observation, measurement and experiment, and the formulation, testing and modification of hypotheses?…
4. Did the process result in a technological advance, that is to say an advancement in the general understanding?…
5. Although the Income Tax Act and the Regulations do not say so explicitly, it seems self-evident that a detailed record of the hypotheses, tests and results be kept, and that it be kept as the work progresses.
Shop Floor SR&ED
Many SR&ED claimants receive tax credits for what is termed “shop floor SR&ED”. For example, a small company manufactures plastic containers and during the year its employees struggled to complete a packaging prototype due to the complexity of the design requested. “Shop floor SR&ED” may have occurred. Indicators include additional efforts to complete the design, involving more testing than usual, for example. Likely a solution was not available in the public domain. As a result of these efforts the knowledge base of the employees increased. They achieved technological advancement “for the purpose of creating new, or improving existing, materials, devices, products or processes, including incremental improvements thereto…” As long as additional circumstances are present, SR&ED, per the policy and case law, was conducted. Therefore, cash or a tax credit to reduce taxable income, for a percentage of material, overhead and labour costs for that project will be granted.
How can we help?
Because the SR&ED tax credit program provides considerable funding for successful applicants, the CRA is especially cautious in administering the SR&ED Program and valid claims may be rejected. It is not uncommon for one CRA SR&ED Auditor (Research & Technology Advisor) to disagree with another as to whether a particular project is SR&ED.
Our staff includes former SR&ED consultants. We can assist at any stage of the claim process. We can prepare your claim and we are experts at disputing denied SR&ED tax credit claims and we represent clients at the audit and appeal stages including before the Tax Court of Canada.
At the audit stage, we can represent clients before the SR&ED technical and financial reviewers from the CRA. We can assist with preparing the necessary documentation and legal arguments to support your claim.
At the Objections stage, we help our clients draft and submit Notice(s) of Objection to fight denied SR&ED credits, prepare additional submissions to the CRA to substantiate their claims, and communicate with the CRA on their behalf.
If the dispute is not resolved at the Objections stage we can continue the appeal in the Tax Court of Canada. This includes conducting the necessary due diligence and researching the relevant statutes and case law to counter CRA’s position. We will analyze all CRA audit reports to find discrepancies, then prepare, draft and file a Notice of Appeal with the Tax Court of Canada. Throughout the appeal we will correspond with the CRA/Department of Justice including submitting arguments to the CRA/Department of Justice and Tax Court of Canada.
Contact us to schedule a free consultation with a Tax Lawyer and SR&ED Expert. We will review your facts and circumstances and advise you of your options.
SpenceDrake Tax Law
Northwest Hydraulic Consultants Ltd. v. The Queen,  3 CTC 2520,  CarswellNat 3632, 52 DTC 1839