Canada's R&D tax credit program hurts R&D in Canada
medium.com
medium.com
To begin with under the definition of what the program considers claimable, in the strictest sense, most software work doesn't actually qualify, but the program is so poorly administered that most of them are able to successfully claim it anyways so they try, however you are always under the risk that your claim will be denied or clawed back.
Adding to this problem for startups, first time claimants have a much higher chance of being audited, as well as any time a claim increases significantly over the previous year (think high growth company). If an audit goes poorly enough you can also have previous years claims clawed back.
Then there is the time wasted in preparing and submitting, the pedantic time tracking that startups implement which is a drag on development teams in order to file these claims.
Finally, because the process is confusing and daunting enough most companies will hire a SR&ED consultant to file the claim for them where they will likely pay around 20% of the total claim.
In short, SR&ED is a great program for consultants to siphon money from tax payers but a terrible program for funding innovative startups.
All you are saying is true except the conclusion in the last sentence, which may be a valid point but doesn't follow from the other facts.
Some companies document everything and end up being rejected for a random formerly unknown minutia, whereas other companies document less, and ultimately get approved for a bad claim.
Anyone I've talked to who's even been close to the process (a claimant, a technical contact, an interviewee, an administrator) have had traumatic experiences with the process.
In one instance, a company I worked for hired a consultant to do the application. This consultant basically interviewed everyone on the technical team and tried to coax us into saying every piece of functionality was novel and innovative, whether it was true or not. I came out of that meeting feeling so dirty that I wanted to shower for a couple of hours.
My other experiences were working in companies (or knowing of other people in other companies) who were applying for and getting SRED money where the R&D innovations were at best questionable.
As someone who works in tech, I want programs like SRED to work. On the other hand, being a taxpayer and seeing how some companies are getting SRED money for arguably undeserving R&D work makes me think SRED is a complete waste of taxpayer money.
This benefit needs to be abolished, as the number of tax dollars being sunk into it is ridiculous. For the few percent of businesses that might actual merit such a benefit, oh well. Compete in the market like everyone else without assistance. The difference between a deserving business and a business that will lie and twist words to save 15-35% on salaries is impossible to determine accurately. Too many liars and fraudsters have destroyed the system, so kill the program and nobody benefits.
It's why I advocate for a lower hard cap as well. With a hard cap, it's likely that the total amount paid out is well under $4B, which means we can then go on and address how we can better distribute funding and change the evaluation process to not be as restrictive.
And in many cases there are web development or design agencies claiming and getting SRED, achieved purely by hiring consultants who know how to spin things.
Claim 1: > Promotes excessive executive compensation
You can not claim executive compensation in a SRED claim. If you do it is fraud.
It is an excluded expense see here:
http://www.cra-arc.gc.ca/txcrdt/sred-rsde/clmng/ttlqlfdsrdxp...
Claim 2: > We’re paying foreign entities to take IP and profits out of Canada. Not a very good use of taxpayer dollars, is it?
Actually that is illegal, see this:
http://www.cra-arc.gc.ca/txcrdt/sred-rsde/clmng/ttlqlfdsrdxp...
Claim 3: > Removes emphasis on sustainable growth
It isn't meant to be sustainable, it is mean to fund the initial R&D in something that is risky. As you grow, and you slow down R&D, yes it gets smaller -- by design.
This is a really weird post and seems to be spreading FUD.
SRED is not a perfect program, but the main faults outlined in this article are complete wrong.
Claim 2, there is no requirement for IP to be owned by the Canadian entity for its development to be qualified for SR&ED (I’ve verified this from multiple accountants and the CRA).
As for Claim 3, you realize that this is indefinite right?
Regarding Claim 1, you are advocating that company will sacrifice its growth in order to live off of SRED. The larger one’s SRED claims and the larger they are in respect to total expenditures, the more likely to gain scrutiny and audits. I’ve been SRED audited, it isn’t fun. If a company could make $1M, why couldn’t it make $2M? This seems like a contrived scenario.
Regarding Claim 2, if a company is not going to act in its own best interests, it doesn’t matter who owns the IP. The company could license it for nothing to other companies even if it owned the IP.
In both scenarios you are outlining companies acting against their own best interests. Maybe it is possible, but it doesn’t seem like a very common case. Do you have numbers to back it up, or just the theoretical possibility that it could technically happen?
And yes, it does matter who owns the IP. If a sale happens, the proceeds to to the residing country's tax base. If it's not in Canada, we lose out on those gains.
SRED zombies are a real thing. Companies that should otherwise fold keep living on. It's not that they are sacrificing growth, they are tying up productive resources.
Executive compensation is not included in SR&ED. Even if you're a CEO who codes, only the time you spend coding can be claimed. The salary claimable is capped at $100K (I believe) for any major shareholders (or family members).
It is also well established that whoever owns the IP gets the SR&ED credits and foreign companies are not eligible for SR&ED.
But go ahead and call people names on the internet. It makes you seem like a true authority on the matter.
The time-tracking requirements seriously degrade your productivity.
I joked that if you discovered time travel, you wouldn't qualify for SR&ED because you were successful, so there was obviously no risk involved, ergo you don't qualify.
You could even be prosecuted for tax avoidance, given the vague standard.
So your average SAAS startup doesn't face technological risk, even though they face lots of business risks (might not be able to hire good enough developers, might not be able to produce bug free app, etc).
However the first few companies using deep learning to do facial recognition from photos (eg. facebook automatic tagging)... well they would have faced technological risk. It wasn't known at the outset that deep learning would produce sufficient quality matches to be useful.
On the downside... big organizations that can pay big bucks for assistance with writing SR&D applications can qualify for S&RD. Several of the big Canadian banks have recovered considerable amounts. Which is pretty outrageous on the face of things... how much actual SR&D and technological risk is being faced in a banking environment? None that I've ever seen (well... except for one project I was involved in... but that was a trivial "lets try this and see if we can use shared record locks as activity signals for a job scheduler").
In a way scientific/technological risk is a bad measure for software R&D. In general there is very little technological risk, and what risk there is is generally tackled via prototyping and/or early testing. The meat of the development costs comes much later... and there's no gov't tax support for that at all.
Ok...
> However the first few companies using deep learning to do facial recognition from photos (eg. facebook automatic tagging)... well they would have faced technological risk. It wasn't known at the outset that deep learning would produce sufficient quality matches to be useful.
This is a wildly different standard. It certainly was known at the outset that facial recognition from photographs is possible to do in software, because people do it all the time. They just didn't know how.
Every Canadian software company I've worked for in my 15 year career has used SR&ED.
Every single one. Most were small (ie. sub-25 people employed, most of those also making virtually no profit at all), a couple are large. Some tried to do it in house with only a lawyer to do late-stage massaging of the reports, others hired full on consultants for quite a lot of money to do it.
And they all got money out of SR&ED.
This is anecdata, but I don't think the idea that it's pretty difficult washes.
you wouldn't qualify for SR&ED because you were successful, so there was obviously no risk involved,
I'm not surprised you had a difficult audit if you were talking about things like "explaining polymorphism and encapulation" - sounds a description of activities in software development that are clearly not SR&ED-able.
If Canada wants to do something for startups, they should setup a sovereign wealth fund that does early stage investment in Canadian companies -- and then it should actively help make those companies successful. SR&ED is a transfer payment from Canadian taxpayers to Canadian consultants; it should be scrapped, not fixed.
There's a few other startup grant opportunities out there but they're mostly province dependent and not very accessible.
What you're proposing is more of a startup incentive than an R&D incentive though. Not saying it's a bad thing, just different.
The Business Development Bank of Canada (a financial institution owned by the federal government) actually does this - it has a venture fund that's one of the largest in Canada.
http://www.bdc.ca/EN/bdc-capital/venture-capital/strategic-a...
SR&ED is not a grant you apply for, it is a tax credit that you are ENTITLED to for taking technical risk and venturing into areas of technical uncertainty.
SR&ED is a tax credit and a perfectly reasonable one. The problem with SR&ED is that it is a badly abused which leads to painful auditing processes for everyone.
Since Joyent Canada is (as far as I'm aware) a 100% wholly owned subsidiary of a US corporation it doesn't surprise me the CRA took a close look at the claims as Canadians ultimately wont see the extent of the benefits that the program hopes to achieve for Canadian corporations. The fact that you call it the "Canadian office" rather than the "Canadian company we own" illustrates a frame of thinking that likely makes the CRA uncomfortable. The program is designed to help Canadian companies.
So.. you are an American, working for an American company, managing a team that is receiving Canadian tax breaks for generating I.P. for the American corporation and you are complaining that you received friction from the CRA? Yeah, no shit.
> SR&ED is a transfer payment from Canadian taxpayers to Canadian consultants; it should be scrapped, not fixed.
No, SR&ED is not funding from Canadian tax payers. Once again it is a tax credit for money spent on salaries for performing tasks that have abnormally high risk. Its critical to understand the difference before voicing an opinion on the matter.
edit: wording
I spent about two weeks putting together the application (along with the rest of my corporate tax return, so time was spent there too), and wrote up a few pages about the software development work that we did.
It took about 2 months for them to respond, and I was approved without a request for additional supporting documents. I received $48k.
I don't think I'll try and apply for it again next year, since I think it's going to be harder to justify the time expense, but overall, it wasn't so bad for a small claim.
I can certainly see how larger claims than mine become onerous though.
(Taking a 2-week vacation doesn't do that, because you're fresh and energized afterwards, rather than beaten down by the grim bureaucracy).
This doesn't compute.
Whether that's a problem depends on the amount that you think of this as a general small business tax credit vs an incentive to do research.
Second-hand, and supposedly they've tightened the rules since then, but I feel like it's really telling of the flaws with the program at a fundamental level.
Either make it a handout directly or tighten up the rules so that it can only apply to things with really rigid processes that are capital intensive, imo.
I've seen SR&ED abused at companies I've worked at, and on the flip-side I've seen claims that should qualify as R&D get denied.
By investing in startups (doing some due-diligence up front as any venture fund would), we can increase the amount of R&D in Canada while simultaneously reducing the operational cost of running it dramatically.
Big companies can take advantage of this program by acquiring earlier-stage startups in their field.
In my circle of fellow SR&ED recipients, none of us have ever said "Well if it wasn't for this program, we wouldn't have hired these people, built that, researched this etc."
Although in spirit it's meant to act as incentive to take risk, profit is all the motivation you need. I can't help but think that $4B could have been better spent on a few km of track for the subway in Toronto, for example.
I managed to get a decent amount of money back from SR&ED, but it required (as expected) an incredible time investment. A time investment that was negative to our business in every way; there's no way to reap a return on that later unless you return to SR&ED in the future.
The best thing, as always, would be for the government to simply lower taxes and eliminate these circuitous loops.
However, I agree that there is confusion and external pressure to apply which doesn't help things at all.
Most startups, don't do this sort of R&D at all (or hardly at all).
I think it's more interesting to see how Canadian founders can shape these sorts of policies over the next 5-10 years, and this is a great starting point.
(In the end, we launched and were acquired by CNN.)
I'm not stating that SR&ED does not have its benefits, but there are some glaring flaws that need fixing. Others include the SR&ED process itself, evaluation of SR&ED claims and more. However this is the first one I could concretely back up with examples and math and give real solutions to.
Guess who that favours ;)
Not me!