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Scitax Advisory Parteners' Submission in Response to Joint Finance Canada – Canada Revenue Agency Consultation Improving the Scientific Research and Experimental Development Tax Incentives:
1. Match Availability without Accessibility
Increased availability of funds should be accompanied by increased accessibility. If the government wants to increase tax credit availability, it should ensure that CRA doesn't undermine the process by reducing availability with changed administrative practices, or changes to the law, which make it more difficult to qualify.
2. Clarify the Rules
To help solve the rules problem regarding SR&ED eligibility, CRA's SR&ED administration has built a huge web site with a tremendous set of information circulars, application policies, sector specific guidelines and other documents. Now this is very helpful to the taxpayer except that none of these have the force of law and taxpayers citing these publications as grounds for having filed a claim; and expected some cash from the program; are routinely told by CRA auditors that these publications do not apply. They say, "We go by the Act". If they do not apply, they should be removed from the CRA website and replaced by documentation that does clarify the 500 words in the Income Tax Act that define what qualifies as SR&ED in Canada. CRA should then adhere to its publications.
3. Refundability and Monetization Issues:
Canada is one of the few countries to offer an R&D incentive in the form of a cash benefit. In short, this means that even companies that have no taxable benefit can get a cheque at the end of the year. This is a very good way for technology start-ups to boot strap themselves to life. At present, this cash benefit is only available to small Canadian-owned private companies (CCPCs).
This refundability needs to be extended to a broader range of companies. The Biotech sector is particularly concerned about this since even small biotech start-ups are often public and cannot monetize their SR&ED benefit.
We urge "caution" here. Foreign companies already have many options for reducing their taxable income in Canada; transfer pricing, management fees etc,; allowing foreign companies access to refundable SR&ED benefits has high potential for abuse; i.e. transfer profits to foreign parent, reduce taxable income to zero and claim the cash.
We suggest solving the monetization problem in either of two ways: One option would be to allow companies operating on certain designated small- and micro-cap junior stock exchanges to retain their SR&ED refundability. This might fit well with the growing ties between the NASDAQ and CDNX exchanges. The other option, which we prefer, would be to introduce a flow-through share scheme like the one that has worked so well to promote mineral exploration in Canada's oil and gas sector.
4. Impact on Provincial Economic Policy:
Most Canadian Provinces have their own SR&ED tax credit schemes. All of these link directly to the Federal Scheme: eligible for Federal means eligible for Provincial. For example, an Ontario company only gets its Ontario Innovation Tax Credit if CRA – an agency of the Canadian Federal Government agrees. This means that a Conservative government in Ottawa has some control over how effectively a Liberal government can deliver its economic development initiatives to the technology sector. This situation of influence will become more acute over time as Ontario and other provinces integrate their formally independent tax administrations with CRA. Ideally the provincial and Federal SR&ED tax credit schemes should be independent of one another, to avoid any perception of political influence between jurisdictions.
5. Define Acceptable Record Keeping:
CRA SR&ED auditors are always asking for "records showing what you did and when you did it. What is lacking is a definition of the level of detail would be acceptable.
Other government departments and agencies have had good luck with industry standard project management approaches such as the Work Breakdown Structure (WBS); perhaps it would be a good starting point for CRA.
6. Eligibility of Fees for SR&ED Claim Preparation:
The Income Tax Act Regulations are very clear that expenditures on legal and accounting services are not SR&ED eligible – even if they are solely incurred to make an SR&ED claim. However, what about professional fees paid to engineers and technical writers who help identify and document work while either it is being done or afterwards when the claim is being prepared for filing? Although probably offside under the proxy overhead method, claim preparation fees paid to other than accountants or lawyers should qualify under the traditional overhead method, particularly if claimed in the year in which they are incurred. There needs to be greater clarity on this, a recent Tax Court Case (Armada Equipment) offers some direction but a clearly defined rule in the Income Tax Act would be better.