Money & Shopping

How Does the SR&ED Tax Credit Work?

Karen Donovan

SR&ED tax credits were created to help Canadian businesses that work on research and development, and it provides support through a tax incentive to all companies, regardless of size. They were designed as a way to develop economic growth and make Canadian companies more competitive in their sectors.

Since 1985, the SR&ED program has provided a tax incentive of over $3 billion to more than 20,000 claimants annually and is administrated through the Canadian Revenue Agency.

This sounds like a great program to take advantage of, but how does the SR&ED tax credit work?

What Is SR&ED?

Scientific Research & Experimental Development is a tax program for a specific type of R&D where you can earn investment tax credits for qualified expenditures. These can be in the form of a:

  • Income tax reduction
  • Tax credit
  • Cash refund

To be eligible for the SR&ED tax credit program, your projects must undertake certain activities that create new products or improve existing ones. These qualifying activities include:

Experimental Development

Through experimentation, you are working to achieve technological advancement.

Basic Research

Without a specific or practical application in mind, you are working to advance scientific knowledge.

Applied Research

When you have a specific or practical application, research is attempted to advance scientific knowledge.

Support

Any additional work being done in a supportive role for these other activities, including:

  • Design
  • Data collection
  • Operations research
  • Engineering
  • Psychological research
  • Mathematical analysis
  • Testing
  • Data collection
  • Computer programming

SR&ED Eligibility

 

To be eligible for the SR&ED program, there must be:

Technical Uncertainty

As a company works to solve technological problems in a project, there needs to be real Uncertainty. There must be real issues with trying to resolve problems, and staff are using their skillset to overcome these issues without any available solutions.

Systematic Investigation

Using a systematic approach, the company works to remove roadblocks and apply what they’ve learned through the process to apply newer methods based on their previous outcomes. Random attempts do not qualify but rather systematic actions to overcome obstacles with the hope of a positive outcome.

Technological Advancement

Strategic attempts to resolve technological issues can advance understanding and move toward a breakthrough, but each hurdle is an achievement nonetheless. This is because you can prove negative outcomes from previous techniques. It is in working through failures and moving forward that advancement is achieved.

Scientific Documentation

To show proof of SR&ED, there must be robust documentation of the accumulated evidence for all activities carried out during the process. This advancement of research and development costs money, and there must be documented proof of it to get the credits.

What Can Be Claimed Under SR&ED?

Companies eligible for the tax incentive need to be operational in Canada and can be Canadian-controlled private companies (CCPCs), foreign-controlled proprietorships, partnerships and trusts. Also, any subcontractors and salary expenses must be paid to a Canadian entity with either a BN or SIN. Additionally, at least 90% of the eligible work must occur in Canada, and any claim must be for SR&ED work or projects.

The type of eligible work includes:

  • Capital expenditures
  • A new application of existing technology
  • Technological issues
  • Budget overruns
  • Improvement and development of processes and products
  • Consulting studies
  • Integrating new technologies in older facilities
  • Regulatory and environmental compliance
  • Cost reduction initiatives

There are, however, several types of work that do not qualify. These include:

  • Quality control
  • Sales promotion
  • Routine data collection
  • Market research
  • Commercial production or commercial use of innovation
  • Research in social sciences
  • Research in humanities
  • Styling changes
  • Routine testing of materials, processes, devices, products
  • Prospecting, exploring, drilling or producing minerals, natural gas or petroleum

Eligible expenses include:

  • Wages and salaries for those employees directly working on the project
  • Material
  • Overhead

Capital expenses are not included but may be deducted as part of the business income as a depreciation expense or a capital cost allowance. This includes machinery, equipment and buildings.

How to Make a SR&ED Claim

To be eligible, you must file a claim within six months of your fiscal year-end, with SR&ED reporting due 12 months afterwards. The credits can then be used to carry forward for up to 20 years, offset your payable taxes or be refunded as cash.

The claim process through CRA does take time. All claims are screened to determine whether they can be processed within 60 of receipt or if they need to be sent in for a review which takes a further 180 days. Checks for SR&ED eligibility are done by a technical reviewer and a financial reviewer, and they examine all costs associated with the claim to determine eligibility. After completion, CRA will send you a notice of assessment.

While this can be a complicated process, taking advantage of the SR&ED tax incentive program will greatly benefit your company. Use this as a guide to understanding how the SR&ED tax credit works and speak with a qualified, professional consultant to help you properly file your claim and reap the benefits.