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Navigating the SR&ED changes to maximize impact to your startup

On December 16, 2024, Liberal House leader Karina Gould tabled the government’s Fall Economic Statement, announcing significant reforms to Canada’s Scientific Research and Experimental Development (SR&ED) program. These changes go beyond the commitments made in the 2024 federal budget and aim to encourage Canadian businesses to invest more in innovation. The reforms are designed to address a decade-long decline in R&D expenditures in Canada, which lags behind international peers, and to bolster the country’s competitive position in the global innovation landscape.

Existing Program

The federal SR&ED tax incentive program has been a cornerstone of Canada’s economic development strategies since 1987. It is the largest single tax incentive program, and provides support to more than 20,000 businesses annually.

The program is based on the concept of qualified SR&ED expenditures, which generally include labor costs, contract payments to third-party companies performing qualified work in Canada, the cost of materials consumed or transformed during the SR&ED process, as well as third-party payments to research institutions, universities, or labs conducting SR&ED. The program offers two primary incentives for eligible taxpayers.

First, the program allows claimants to deduct SR&ED expenditures in the year incurred or to added to a pool for future use.  Second, the program offers claimants the following investment tax credits (ITCs):

1) For non-Canadian-controlled private corporations (CCPCs), a 15% non-refundable tax credit on qualified expenditures;

2) For individuals, sole proprietorships, certain trusts and partners of a partnership, a 15% credit on qualified expenditure, of which 40% is refundable;

3) For (smaller) CCPCs that are “qualifying corporations”, a 35% fully refundable credit on the first $3 million of qualified expenditures (the expenditure limit) and a 15% credit on the excess qualified expenditures, of which 40% is refundable; and

4) For CCPCs that are not qualifying corporations, a 35% fully refundable credit up to the expenditure limit, and a 15% credit on the excess qualified expenditures, none of which is refundable.

The expenditure limit decreases when claimant’s taxable capital for the previous year reaches $10 million and becomes nil starting at $50 million.

In addition to adhering to legislative requirements, claimants must submit extensive reporting detailing the nature and purpose of SR&ED activities to access program benefits.

Proposed Changes to the Program

The current SR&ED program represents about $4 billion in annual tax incentives. The proposed changes would increase this by almost $1.9 billion over the next six years, by incorporating the following updates to the program:

1) Return of Eligible Capital Expenditures: Starting next fiscal year, capital expenditures will once again qualify for deductions and ITCs, reversing changes made in 2014. These rules will apply to capital property acquired after December 16, 2024, and to lease payments becoming payable after the same date;

2) Increased 35% Rate Cap: The expenditure limit for the enhanced 35% rate will rise from $3 million to $4.5 million;

3) Higher Phase-Out Thresholds: The taxable capital thresholds for enhanced credit eligibility will increase from $10 million–$50 million to $15 million–$75 million.

4) Extended Enhanced Credits: Canadian public corporations will now qualify for the 35% enhanced refundable credit.

The proposed updates to the SR&ED program follow extensive public consultations led by the Department of Finance. These consultations explored new eligibility conditions, adjustments to the tax credit rate structure, and the potential adoption of a “patent box” regime to incentivize the creation, commercialization, and retention of intellectual property (IP) in Canada. The government announced its intention to implement a patent box regime in its 2025 Budget, which could encourage companies to develop, commercialize, and retain IP in Canada by taxing income earned from qualifying IP at a lower rate than standard corporate income.

The government indicated that the proposed changes would be the first of further reforms to the program, with coming updates on program administration and qualified expenses to be announced in its 2025 Budget.

Conclusion

The SR&ED program has long been a cornerstone of Canada’s efforts to foster innovation. However, businesses advancing beyond early-stage R&D or with sustained, long-term R&D needs have often struggled to fully leverage its benefits. The expansion of SR&ED to include scale-up activities as well as into the public company space will create a more supportive environment for Canadian business. The federal government’s proposed reforms aim to strengthen incentives for businesses to invest in R&D, ultimately driving economic growth.

However, businesses navigating these changes may face complexities and opportunities that require careful planning. While startups and scaleups await the simplification of the SR&ED application process, our team (including MT❯Ventures) is ready to assist your business in navigating the SR&ED program and exploring other government funding opportunities to support your innovation journey.

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