Federal budget 2012

Here is the complete text of the SR&ED changes found in section 3.1 of the budget under the headings “Simplifying the Tax Credit Base” and “Increasing Cost-Effectiveness”:Economic Action Plan 2012 proposes to simplify the SR&ED program by removing capital from the expenditure base. The rules regarding the eligibility of capital expenditures are the most complex for businesses to comply with. In order to simplify the program, Economic Action Plan 2012 proposes to narrow the base of eligible expenditures by removing capital. The other expenditure elements will remain eligible, including salary and wages, materials, overhead expenses and contract payments. This proposed change will affect capital expenditures incurred in 2014 and subsequent years.

Economic Action Plan 2012 proposes to increase the cost-effectiveness of the SR&ED program through two design improvements and a measured reduction in the general tax credit rate.

To increase cost-effectiveness, Economic Action Plan 2012 proposes two design improvements that will better align the tax credits received with actual business expenditures on SR&ED projects, as well as a measured reduction in the general tax credit rate. The two design improvements will affect the calculation of overhead expenditures and of arm’s length contract payments:

• To limit instances where the rules result in tax credits being provided for overhead costs that exceed the actual costs incurred, Economic Action Plan 2012 proposes to gradually reduce the “prescribed proxy amount” that is used to compute overhead expenditures under the so-called “proxy method,” from 65% to 55% of direct labour costs. The 55% rate will be fully phased in as of January 1, 2014.
• To remove the profit element from arm’s length contract payments, Economic Action Plan 2012 proposes to allow only 80% of these contract payments to be used for the purposes of calculating the SR&ED tax credits. This change is consistent with the current tax treatment of non-arm’s length contracts, and will target the tax credits to SR&ED expenditures incurred, and not on profit margins. It will be effective as of January 1, 2013.

Economic Action Plan 2012 also proposes a reduction in the general SR&ED investment tax credit rate. The recent corporate income tax rate reductions (from 22.12% in 2007 to 15% in 2012) have effectively increased the relative generosity of the SR&ED tax incentive program and resulted in growing pools of unused investment tax credits. Effective January 1, 2014, the general SR&ED investment tax credit rate will be reduced from 20% to 15%.

To summarize, as a result of the 2012 federal budget, we can state the following:

• The general SR&ED investment tax credit rate for SMBs for 2012-2013 and 2014 remains unchanged at 35%.
• The general SR&ED investment tax credit for businesses whose taxable income exceeds $800,000 and for public businesses will go from 20% to 15% for the taxation years ending after 2013. Even though this change is generally significant, it will not affect small and medium-sized businesses.
• The amount attributable to capital expenditures for SR&ED equipment is still eligible and is unchanged for 2012 and 2013 but will be ineligible in 2014.
• The replacement rate for overhead expenditures (percentage of direct wages) is unchanged at 65% for 2012. It drops to 60% in 2013 and 55% in 2014.
• The amount attributable to subcontracting expenses is unchanged for 2012 at 100%. It drops to 80% for 2013 and 80% for 2014.
• Contrary to the expectations of some experts, the measures will have no direct impact on SR&ED credit eligibility criteria.

You can find all the details of the budget’s plan to assist businesses and research in Canada in Chapter 3, Supporting Jobs and Growth, section 3.1, Supporting Entrepreneurs, Innovators and World-Class Research, by clicking on this link.

http://www.budget.gc.ca/2012/plan/chap3-1-fra.html

Conclusion: apart from capital expenditures, all other expenses involving wages, equipment, overhead and contract payments continue to be eligible but with lower rates in the case of large businesses.

In brief, the SR&ED program continues to be very generous. It is still the most generous incentive offered to Canadian corporations, especially when combined with the provincial R&D tax credit programs. In 2011 the SR&ED program provided in excess of $3.6 billion of tax credits to more than 24,000 businesses.