Are the CRA rules changing for manufacturing?

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We thought we’d take a little time today to discuss two of the most common issues and challenges currently facing SR&ED claimants in the General Manufacturing space.

“It really seems like Canada Revenue Agency (“CRA”) is tightening up the rules on what they will consider to be SR&ED in the manufacturing/shop floor/Experimental Development space”

Actually, the rules haven’t changed, but CRA is being very consistent with respect to their expectations on a few key points:

  1. Commercial vs. SR&ED project: There is a consistent focus on ensuring that the claimant understands the difference between the overall commercial project, and the associated SR&ED project. The commercial project is what you are trying to design, or build, or take to market. The drivers for that commercial project could be anything from cost, to performance, to emerging market opportunities or environmental concerns. The associated SR&ED project, if there is one, is about the technological advancements and uncertainties that must be addressed in order to achieve your technological objectives, in order to achieve you commercial objectives. CRA is interested in ensuring that commercial aspects of the project, that are not related to the technological advancement/uncertainty work, are not included in the SR&ED claim. Examples of commercial aspects of a project that are commonly, and mistakenly, included in the SR&ED claim, include:
    1. General or non-technical project management;
    2. Routine technical work not related to, or in support of, the resolution of the technological uncertainties;
    3. Routine elements of fabrication and assembly not related resolution of the technological uncertainties; and,
    4.  Commercial production amounts and routine testing and quality efforts, that far exceed the levels required to test and evaluate the technological aspects under investigation.
  2. There is also a consistent focus by CRA to ensure that initial benchmarking, available research review, and due diligence work that is often undertaken at the start of many commercial projects, is not being included in the SR&ED projects being claimed. A SR&ED project begins when the technological uncertainties faced become clear. Often, these technological uncertainties are not known until the initial routine due diligence phase demonstrates that the claimant’s, and the industry’s, current knowledge and capabilities are insufficient to meet the technological objectives of the project – there is a technological “knowledge gap”. CRA wants to understand the due diligence phase as part of the process of understanding the technological knowledge gap being presented, and wants to ensure that this due diligence work was not included in the SR&ED project itself.

Speak with a BeneFACT SR&ED expert today to learn more about the SR&ED program to see if your company’s activities qualify for this lucrative tax credit.  Get the information you need to start maximizing your claim today! Toll Free: 1-855-TAX-BACK (829-2225)

Please click here to learn more about our SR&ED services.

Plan Ahead for Your SR&ED

Plan Ahead for Your SR&ED – Shareholders’ bonuses can’t be claimed for SR&ED credits.  Or can they?

In our last post, we discussed the impact of the SR&ED expenditure limit on the SR&ED credits that can be earned by small and mid-sized Canadian Controlled Private Corporations (“CCPC”). The credits can more than double! We also discussed planning ahead to ensure you have expenditure limit available by paying bonuses to employee shareholders to reduce taxable income and create expenditure limit in order to access enhanced SR&ED credit rates. This post goes into more detail on the SR&ED treatment of shareholders’ bonuses and how to maximize your SR&ED claim by including bonuses in your qualified expenditures.

How are bonuses treated for SR&ED?
For most claimants, there are two expenditure categories that are driven by salary or wages – the SR&ED salary or wages themselves, and the Prescribed Proxy Amount (“PPA” or “proxy”). The proxy is a notional amount calculated based on salary or wages as a replacement for itemized overhead expenses. For 2014 and later years, the proxy rate is 55%, so potentially up to 155% of eligible salary or wages can be claimed for SR&ED purposes. For non-specified employees (not shareholders), the salary or wages amount used to calculate the proxy is reduced by bonuses and taxable benefits. This is usually a small adjustment and only affects the proxy calculation.

For shareholders, the treatment can be radically different. If a shareholder employee owns 10% or more of any class of the corporation’s shares, they are a specified employee. The scope of the specified employee definition also extends to family members of the shareholder and other non-arm’s length persons. For specified employees, bonuses are excluded from both the salary and wages amount and the proxy calculation. When a specified employee – i.e. an owner manager – receives a large bonus payment, this can have a huge impact on the SR&ED expenditures and tax credits. This could be the case when a company “bonuses down” to reduce taxable income and access the enhanced SR&ED tax credits.

How can shareholders’ bonuses be claimed for SR&ED?
CRA’s policy is to treat a single lump sum received by a specified employee as the employee’s salary or wages for the year as long as it is the only payroll payment received in the year. Under this policy, as long as all the proper payroll procedures are followed, the total amount paid to a specified employee would be considered salary or wages for the year.

There are certain limits on the amounts eligible for SR&ED in respect to specified employees based on the Yearly Maximum Pensionable Earnings (also used for CPP), so be sure to involve your SR&ED consultant in the planning process prior to declaring and paying your bonuses to ensure that you’re making an informed decision.

But I need monthly income to live on                                                                       One strategy that can provide monthly cash flow while also getting your annual bonus included for SR&ED is taking a shareholder draw which could be repaid from the bonus. This may work for you depending on a variety of factors such as your corporate structure, other shareholders, etc.  Talk to your tax advisors about this or other cash flow strategies based on your specific circumstances.

Is it really worth it to go through all this?
Let’s look at a numerical example of SR&ED expenditures and tax credits in different scenarios:

* Please click on the image below to open up the table.

SR&ED Example

 

 

 

 

Depending on the ratio of periodic salary to bonus amounts, combined with the portion being claimed for SR&ED, the impact of the different compensation approaches can be quite dramatic.

Speak with a BeneFACT SR&ED expert today to learn more about the SR&ED program to see if your company’s activities qualify for this lucrative tax credit.  Get the information you need to start maximizing your claim today! Toll Free: 1-855-TAX-BACK (829-2225)

Please click here to learn more about our SR&ED services.

SR&ED: Paying Yourself a Dollar Now Could Earn You Two Dollars Later…

Piggy bank with euro coin stacks - concept of increase

Planning Ahead For Next Year’s SR&ED

Managing your company’s taxable income can more than double your SR&ED benefit by accessing enhanced investment tax credits that are available to small to medium sized Canadian Controlled Private Corporations (“CCPC”) based on certain size and income thresholds. The basic federal SR&ED credit is 15% and is only refunded to the extent that a company paid tax. For qualifying CCPCs, the enhanced rate is 35% and the credit is fully refundable whether the company paid tax or not. That’s a difference of 20%!

How does the enhanced credit work?

The enhanced credit is available to CCPCs on up to $3 million of expenditures – the “expenditure limit” – after which the basic credit is earned. The expenditure limit is reduced when a company’s (or corporate group’s) prior year taxable capital and taxable income exceed certain thresholds. The factor that is manageable in many cases is taxable income. The expenditure limit starts at $3 million. It is reduced at a 10:1 ratio when the prior year taxable income exceeds $500,000 and eliminated when taxable income reaches $800,000. So every $1 of last year’s income over $500,000 reduces this year’s expenditure limit by $10. Or we can look at it from the other side: $10 of expenditure limit (up to $3 million) is created next year for every $1 that this year’s income is below $800,000. A company with income of $700,000 would have an expenditure limit of $1 million the following year.

What can I do to get the enhanced credit?

In many cases, it is possible to “bonus down” to reduce taxable income by paying bonuses to owner operators. Every $1 of bonus paid potentially creates $10 of expenditure limit and an extra $2 of SR&ED ITC. You’ll need to have a general idea of your expected SR&ED expenditures to know how much expenditure limit you’re likely to need so you should consult with your SR&ED advisors. At BeneFACT, we frequently assist clients with this estimate. You’ll also need to coordinate with your accountants so that they can plan for the targeted income number and consider any other factors such as the owners’ personal tax situations and the timing of the bonus declaration and payment.

What about provincial credits?

Only a few provinces are impacted by the expenditure limit. The Ontario Innovation Tax Credit (“OITC”) is a 10% refundable credit that is also tied to the expenditure limit, while the Ontario Research & Development Tax Credit (“ORDTC”) is available to all claimants. In British Columbia and Saskatchewan, refundable vs non-refundable status is impacted (not amount) and Quebec’s Labour Tax Credit (“QLTC”) rate is based on a size test (assets), not income.

* Please click on the image below to open up the table.

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