Think “R&D” and what springs to mind? Scientists bent over bubbling test tubes? Or technicians on the assembly line improving manufacturing processes?

Both groups could qualify for Canada’s generous federal and provincial research and development tax credits, although many companies that conduct R&D seem unaware of the potential savings that are available to them.

“A lot of corporations think that unless they can show that E is not equal to MC2, they are not carrying on any R&D,” says Anil Chawla, partner in Toronto-based Deloitte & Touche LLP’s tax practice. On the contrary: “The rules in the Income Tax Act talk about systematic investigation in the development of new or existing products or processes, and also incremental improvement.”

Activities that qualify for federal R&D investment tax credits through the Scientific Research and Experimental Development Tax Incentive Program include:

> experimental development to achieve technological advancement to create new materials, devices, products or processes, or improve existing ones;

> applied research to advance scientific knowledge with a specific practical application in view;

> basic research to advance scientific knowledge without a specific practical application in view;

> support work in engineering, design, operations research, mathematical analysis, computer programming, data collection, testing or psychological research, but only if the work is commensurate with and directly supports the eligible experimental development, or applied or basic research.

According to the Canada Revenue Agency, eligible projects must “advance the understanding of scientific relations or technologies, address scientific or technological uncertainty and incorporate a systematic investigation by qualified personnel.” Investment tax credits may be awarded for wages, materials, machinery, equipment, some overhead and SR&ED contracts.

“The bulk of R&D in the manufacturing setting is on the shop floor,” says Carlo Ciaramitaro, KPMG LLP’s SR&ED practice leader for southwestern Ontario. “That would be people who are on the line assisting with technical issues. A good starting point is: do you have technical people on staff? Anyone with a technical background is usually doing some sort of innovative work.”

Specifically excluded are activities such as the commercial production of a new or improved product and the commercial use of a new or improved process, as well as market research, quality control and routine data collection. The full list of excluded activities is available on the CRA Web site, www.cra-arc.gc.ca.

But that leaves a wide range of potential savings for companies in almost every industry — from manufacturing and engineering to bioscience and food processing. Even financial services companies may carry out eligible activities.

“Financial services companies tend to spend a lot of money on information technology and the infrastructure that will help the companies process transactions,” Ciaramitaro says. “Depending on the size of the institution, most of the internal software that they use to run their day-to-day operations has to be developed internally, [and] some elements of the design work would qualify for these credits.”

R&D tax credits can provide a big boost to businesses that carry out qualifying activities — and the 2008 federal budget significantly enriched the SR&ED program. Now, qualifying Canadian-controlled private corporations are entitled to a refundable investment tax credit worth 35% of the first $3 million in eligible R&D expenses (up from $2 million). To qualify, the company’s taxable income in the previous year must be $700,000 or less (up from $600,000) and its taxable capital in the previous year must be $50 million or less (up from $15 million).

The CCPCs that do not meet those requirements and companies that are not CCPCs — public corporations, private corporations controlled by non-residents, proprietorships, partnerships and trusts — may be eligible for an investment tax credit worth 20% of eligible R&D expenses. The key difference is that in most circumstances, this credit, unlike the credit for qualifying CCPCs, is non-refundable. That means it can only be applied against taxes payable — not refunded as a cheque if no taxes are due in a particular year.

“The taxpayer community wanted universal refundability, even for the largest corporations,” says Vik Sachdev, corporate tax partner and Canadian leader with PricewaterhouseCoopers LLP in Toronto. “The Department of Finance settled in the middle. It did not extend universal refundability but did increase the amount of refunds available to young Canadian companies.”

The 2008 federal budget expanded the program in another way, too. Previously, companies could only claim labour costs for R&D work conducted in Canada. As of Feb. 25, a new provision allows an investment tax credit for qualifying salaries and wages earned outside Canada. But there are restrictions. The work abroad must be carried out by Canadian residents in support of a qualifying SR&ED project in Canada, and the credit is a maximum of 10% of the total salaries and wages incurred within the tax year for SR&ED.

@page_break@All provinces and territories except Prince Edward Island, Nunavut and the Northwest Territories have their own R&D tax credit programs. (See table.) Alberta is the most recent province to come on board, with a tax credit worth 10% of eligible R&D expenditures up to $4 million, which takes effect on Jan. 1, 2009. And Ontario recently announced an additional non-refundable SR&ED tax credit of 4.5% to complement its existing refundable 10% innovation tax credit — also effective Jan. 1, 2009.

The basic steps, Sachdev says, are: identifying eligible projects, writing technological project descriptions, accumulating expenditures associated with those projects and being prepared to support claims in an audit.

Chawla says the time is right for business owners to turn their full attention to R&D tax credits. It’s especially key during tough economic periods; otherwise, businesses that fail to innovate risk their future viability.

“Canada’s R&D program is one of the most lucrative programs in the G-7,” says Ciaramitaro. “It amazes me how many companies either aren’t aware of the program or do not maximize the credits.” IE