Canada supports innovation and entrepreneurship through one of the most favourable and efficient tax treatments for scientific research and experimental development (SR&ED) expenditures in the world. This is especially true when combined with the provincial SR&ED tax incentives. An average benefit rate on research and development (R&D) investment is 30 per cent for the corporation. Reducing R&D costs Canada’s SR&ED tax incentive program is the largest R&D support program aimed at the private sector. All companies based in Canada that invest in R&D can qualify, irrespective of their size, industry sector or technology area they represent – as long as they perform qualified R&D. Based on the 2009 data, the total value of federal SR&ED tax credit expenditure is approximately $ 3.5 billion.

Generally, in addition to full tax deduction of current SR&ED expenditures, a tax credit is also available based on qualifying SR&ED expenditures carried out in Canada. Other distinct advantages of the SR&ED program include eligibility of deducting the full cost of R&D machinery and equipment, no limits on subcontracting, and ability to defray part of the R&D expenses incurred abroad on Canadian R&D projects.

For large Canadian corporations and foreign controlled corporations, regardless of size or whether they are public or private, the rate of the tax credit is 20% and is non-refundable. A non-refundable tax credit can be used to offset Canadian federal taxes payable in the current year, in the previous three years, and/or in the next 20 years. There are no ceilings on R&D expenditures, taxable income or taxable capital for companies claiming the 20% tax credit rate.

On the other hand, small Canadian-controlled private corporations (CCPCs), with taxable income of up to $500,000 and taxable capital of up to a specified level, can receive a refundable tax credit of 35% of qualifying current and capital SR&ED expenditures, to a maximum of $3 million of expenditures per year. Over the $3 million SR&ED expenditure threshold, the credit rate is reduced to 20%, of which 40% may be refundable.

To top all of this off, various provinces have their own additional tax incentive programs for SR&ED activities carried out in their respective provinces. Although the provincial R&D tax credits must be deducted from a base for federal SR&ED tax credit, the net benefit is essentially one and a half times higher than the benefit of federal SR&ED tax credit alone. In addition, many provinces make the refund of their R&D tax credit available for foreign-owned corporations.

How can foreign companies qualify for the Canadian SR&ED tax benefits?

(a) Through a Canadian subsidiary of a foreign parent
The Canadian subsidiary can carry out qualifying SR&ED activities in Canada and, through deducting the expenditures and claiming the 20% tax credit, the subsidiary can significantly reduce or even eliminate Canadian taxes payable. The foreign parent can contract the Canadian subsidiary to carry out the SR&ED activities on their behalf, in which case the foreign parent will own the rights to the SR&ED, and the Canadian subsidiary can still make use of the SR&ED tax incentive program.

(b) Through a Canadian-controlled private corporation
A foreign corporation can set up a CCPC in Canada as long as it owns 50% or less of the company’s shares and the shares do not have any special rights attached to them. Traditionally, non-residents set up CCPCs in Canada by having a Canadian investor such as a venture-capital firm or research institution hold the remaining shares.

Eligibility

Eligible activities include experimental development, applied research, basic research, and support work. Up to 10% of R&D wages and salaries of Canadian resident employees incurred abroad by a Canadian-based company are also eligible. The activities outside Canada must be in support of SR&ED carried on in Canada directly by the company. In general, activities not eligible for benefits under the SR&ED program include research in the social sciences or humanities; commercial production of a new or improved product; routine data collection; and prospecting for or producing minerals, petroleum or natural gas.

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