Scientific Research and Experimental Development (SRED) & Investment Tax Credit (ITC)
Scientific Research and Experimental Development (SRED) & Investment Tax Credit (ITC)
Definitions
What is SRED?
- Qualified Scientific research and experimental development expenditures (SR&ED) get a generous tax treatment in Canada.
- The government is providing this tax incentive to encourage corporations to invest in research and innovation
What is ITC?
- ITC is a tax credit given for investing in new capital properties (only in Atlantic provinces & Gaspe) and for investing in scientific research and experimental development (available in all parts of Canada).
- ITC claimed on qualified capital assets reduces the tax cost of the asset (UCC) in the year following the claim.
Is all the Accounting Research & Development (R&D) = SRED?
- Psychology
- Engineering
- Design
- Operations research
- Mathematical analysis
- Computer analysis
- Data collection – not routine
- Testing
- Market research
- Quality control
- Exploring or drilling for oil
- Style changes
- Routine data collection
- Humanities or social sciences
- Commercial production of a new or improved product
What are the tax advantages of SRED?
- Current SRED expenditures and most capital expenditures are 100% tax deductible
- Any allowable expenditure that is not deducted in a year can be deducted in any future year
- SRED expenditures are also eligible for investment tax credits (ITCs) – The percentage of credit varies with the type of corporation and also how much is refundable and non-refundable. Please check the Summary chart below for rates
- However this ITC credit reduces the SRED deduction next year and/or increases the taxable income if there is no SRED deduction available (see example at the end of this document)
| Category | SRED Expenditures | ITC Rate | Refundable portion of ITC earned on | Non-Refundable portion of ITC earned on | ||
| Current Expenditures | Current Expenditures | Current Expenditures | Current Expenditures | |||
| Canadian-Controlled Private Corporations (CCPCs) | Up to the expenditure limit | 35% | 100% | 40% | N/A | 60% |
| In excess of the expenditure limit | 20% | 40% | 40% | 60% | 60% | |
| Other corporations | 20% | N/A | N/A | 100% | 100% | |
| Proprietorships, partners of a partnership, and trusts | 20% | 40% | 40% | 60% | 60% | |
Expenditure Limit:
- The maximum expenditure limit is $3 million
- The expenditure limit begins to decrease when the taxable income of the CCPC (along with associated corporations) for the previous tax year is more than $500,000 and becomes nil starting at $800,000.
- The expenditure limit also begins to decrease when the taxable capital employed in Canada of the CCPC (along with associated corporations) for the previous tax year reaches $10 million and becomes nil starting at $50 million.
Explanation for the Chart above
Special Rule for CCPC’S
If a corporation meets both of the following two criteria, the ITC rate is 35% and 35% * 100% of current expenditures and 35% * 40% of capital expenditures up to the expenditure limit are refundable:
- If the corporation CCPC throughout the year; and
- Previous year taxable income before loss carryback < the SBD limit $500,000 (shared among associated corporations)
If both criteria’s are not met:
- ITC Rate is 20% and of that only 40% is refundable
- Refundable = 20% * [ (40% * current)+ (40% * capital) ]
- Non-Refundable = 20% * [ (60% * current) + (60% * capital) ]
Therefore, for expenditures over the Expenditure Limit (see above) and for individuals and other non-qualifying corporations, an ITC rate of 20% applies; and 20% * 40% of current and capital expenditures are refundable; the remainder is a non-refundable tax credit.
Finally, taxpayers must claim ITCs no later than 18 months after the year-end.
Non-CCPC Corporations (public companies, non CC private companies)
SRED non-refundable credit = 20% * (100% of current + 100% capital)
Refundable portion = $nil
Non-corporations (individuals, partnerships, trusts) – similar rule to CCPC who are over the $3M limit:
Total SRED = 20% * (capital + current)
Refundable = 20% * (40% current + 40% capital)
Non-Refundable = 20% * (60% current + 60% capital)
Example of SRED and ITC CREDIT
If ABC corporation has SR&ED expenditures of $200,000 for December 31, 2009, and net income before SR&ED deduction is $600,000. Assume ABC has $300,000 income in 2010 and no SR&ED expenses. Also assume a 30% tax rate and ITC rate of 20% (for actual ITC rate refer to table above as it is different for each type of corporation).
Required: Determine the tax liability in 2009 and 2010
December 31, 2009:
Taxable income = $600,000 less $200,000 SR&ED = $400,000
Tax @30% =$120,000
Deduct: ITC = ($40,000) i.e. ($200,000 * 20% ITC rate)
Net Tax $80,000
December 31, 2010:
Taxable income = $300,000 less $0 SR&ED plus 2009 ITC of $40,000= $340,000
Tax @30% =$102,000
Deduct: ITC = ($0) i.e. ($nil SR&ED * 20% ITC rate)
Net Tax $102,000
If 2010 SR&ED expenditure was say $130,000, then taxable income would be $210,000 ($300,000 – $130,000 + 40,000). In addition, an ITC credit of $26,000 (i.e. $130,000 * 20%) can be claimed/deducted in computing the income tax for 2010.