How do tax credits work canada

how do tax credits work canada

The SRED Program

Here is some great news for technology companies. Canada, and in particular British Columbia, may be the best region in the world in which to set up a technology venture because of the very generous research and development tax credits.

The Canadian government gives away well over $1.5 billion each year to companies (and other taxpayers, too) who do research and development work - which, by definition, means technology companies. This is called the Scientific Research and Experimental Development Program or SRED for short. For current, up-to-date information on this very useful program, please visit the Canada Customs and Revenue Agency's (CCRA) web site at http://www.rc.gc.ca/sred/.

And, it's a refundable credit. This means that if you have no revenue and/or are not profitable yet, you can get the credit back in cash! That's right. The Feds send you a cheque! In British Columbia, that can amount to as much as 68 cents back on every incremental R&D dollar spent! Many people are under the false belief that the credit is much smaller and may not be worth the effort. Please read on.

How Much?

Generally, Canadian-controlled private corporations (CCPCs) with less than $200,000 in taxable income can receive a refundable investment tax credit (ITC) of 35% (68% after the gross up - see below for the math) of qualifying SR&ED expenditures, to a maximum of $2 million of expenditures. Most other Canadian corporations, proprietorships, partnerships, and trusts can receive an investment tax credit of 20% of qualifying SR&ED expenditures. Note: Individuals, i.e. proprietorships, can even claim this - great for hobbyists who are doing weird science in their basements!

So, for every $1.00 you spend on research and development including an overhead allowance. you get up to $.35 back in either CASH or a tax credit from the federal government. That's like having a 35% silent partner in your business - only better. Public companies and non-CCPCs, such as foreign controlled corporations, do not get quite this much. They are limited to a 20% grant. But, that's still pretty darn good!

But, there's more!

The government allows you to claim overhead on your R&D expenditures. If you have a dedicated R&D facility, this is easy to do, but if R&D is part of your overall operation, the calculation of overhead can be cumbersome. Therefore, you main claim

an overhead "proxy" which amounts to 65% of your direct cost. Therefore, if you hire an R&D employee and pay her $100K during the fiscal year, you can actually claim the 35% grant on your total cost of $165K (i.e. $100K X 1.65).

Still More.

Certain provinces, such as British Columbia (as of Sept'99), also provide a provincial SRED credit. In the case of B.C. for example, the Province provides an additional 10% credit. So for every incremental R&D dollar spent, a total of $.68 can be recovered, taking into account the provincial and federal credits on the overhead topped-up direct R&D cost. Here's how the calculation works:

SRED Claims, including B.C. Credit:

The following applies to a CCPC (Canadian Controlled Private Company)

Company pays $100 for Research (e.g. Salary)

Company Payment= $100

65% Overhead Proxy= $65

65% Overhead Proxy= $65

TOTAL R&D: $165 (same as for a CCPC)

Claim:

BC Portion: 10% of $165= $16.5

Fed Portion: 20% of ($165-$16.5)= $29.7

TOTAL non-refundable Tax Credit= $46.2 (i.e. equal to 46.2% of dollars spent)

How to Apply

Any taxpayer can apply - companies or individuals. You apply simply by filling in a form (see CCRA Form T661 ) that is part of your annual tax filing, i.e. submitted with the T2 or T1 income tax return. However, you can file SR&ED claims as late as 12 months after your filing due date for the year in which the SR&ED expenditure was incurred. It is quite straightforward. You only need to "prove" that you spent the money on R&D (e.g. white lab coats, black lab notebooks, an element of risk or uncertainty, etc). Note that routine engineering or product development type work does NOT qualify. R&D, by definition, involves some degree of risk or uncertainty and the SRED program helps in overcoming that risk or uncertainty. The CCRA web site will help you get a better understanding of what qualifies and what doesn't.

Actually, there's a Catch-22 here. To raise the initial capital, companies try to convince investors that there is little risk - i.e. give us the money and will do the R&D and be successful. But then, to get the SRED funding, companies have to convince government that there really was a risk or element of uncertainty! It's a balancing act!

Source: www.sfu.ca

Category: Credit

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