SR&ED Tax Credits 

FROM: JUL-AUG 2009 ISSUE | BY MANU KAKKAR

I spend a fair amount of time in my tax practice obtaining scientific research and experimental development (SR&ED) tax credits for clients. During the current economic crisis more and more of my clients are forwarding me brochures of competitors offering similar SR&ED services. Two things come to mind: 1) thankfully none of my clients have left me! 2) the SR&ED program is more important than ever for Canadian-controlled private corporations (CCPCs). The two key features of this program that are attractive for CCPCs are the amount of the federal tax credit (35 per cent as opposed to the standard 20 per cent) and the fact it is refundable.

Recent budget changes will help CCPCs retain the 35 per cent refundable tax credit. Historically, the taxable income of the group could not exceed $600,000 if the CCPC wished to preserve the 35 per cent refundable tax credit. The rule: for every dollar increase of taxable income from $400,000 to $600,000 there would be a reduction of $10 to the $2 million enhanced SR&ED expenditure pool for CCPCs. This means a CCPC needs to plan what its projected SR&ED expenditure pool will be. Why? To manage its current year taxable income and ensure its eligibility for the 35 per cent refundable credit in the following year.

The 2008 federal budget announced that the CCPC’s enhanced SR&ED pool would increase from $2 million to $3 million for taxation years that end on or after February 26, 2008. Further, the 35 per cent refundable credit was eliminated if the group’s taxable income exceeded $700,000 instead of $600,000. The 2009 budget increased the small business limit to $500,000 and the upper limit for the 35 per cent refundable tax credit to $800,000 from $700,000. Now the phase-out range of the 35 per cent refundable credit is $500,000 to $800,000 of the associated corporate group’s taxable income.

In practice, most CCPCs do not have SR&ED claims in the range of $2 to $3 million. But this new rule will help CCPCs retain a higher corporate taxable income and still be eligible for the 35 per cent refundable tax credit rate. Prior to the 2008 budget, consideration would have to be given to bonus down in order to be eligible for the 35 per cent refundable tax credit next year for any associated CCPC corporate group with a taxable income in excess of $600,000 in the prior year. With the new rules, only taxable income in excess of $800,000 needs to be considered for the bonus down strategy to ensure eligibility of the 35 per cent refundable credit for the following year.

Another factor that needs to be considered is whether the incremental SR&ED tax benefits of the CCPC receiving the additional 15 per cent refundable credit is worth the extra personal tax that will be paid on the bonus to the owner-manager shareholder. In certain circumstances, the deferral of personal tax caused by the difference between the high corporate tax rate paid of not bonussing down in the CCPC (30-35 per cent) and the high personal tax rate otherwise paid on the bonus (40-48 per cent) outweighs the SR&ED tax benefits. The deferral is enhanced the longer the funds are kept in the corporation, and the number of years required to leave the income in the corporation to achieve the breakeven point has been greatly reduced because of the new eligible dividend rules.

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