Tax legislation contains only a few paragraphs regarding SR&ED tax credits. Over the years, case law has completed the legislation by interpreting particular cases where the taxpayer opposed the Crown.

One of the greatest cases in the history of SR&ED is Northwest Hydraulic Consultants Limited v. The Queen, in 1997. One of the arguments bore on what did or did not constitute an eligible SR&ED project. Justice Bowman rendered a decision based on the three criteria (five-question approach) defining SR&ED activity:  scientific/technological uncertainty, scientific/technological advancement and the presence of a systematic investigation. This definition of SR&ED, subsequently reused and reconfirmed, has become a cornerstone of the program. Not all cases however have had as much impact as the Northwest Hydraulics case.

Further cases have recently enabled the tax authorities to clarify or confirm certain aspects of the scientific/technological point. We will take a brief look at one of these cases to illustrate the lessons to be learned from case law:

Joel Theatrical Rigging (JTR) Contractors (1980) Ltd. v. The Queen

Reference: http://decision.tcc-cci.gc.ca/tcc-cci/decisions/en/item/218140/index.do

In this case settled in July 2016, the company contested the CRA’s refusal of its SR&ED projects on the basis that the claims did not meet the scientific eligibility criteria.

One of the projects involved the development of a device comprising a motor that would activate a hydraulic system to control the rate of descent of a theatre’s fire curtain. Current practice in the field consisted in using counterweights to achieve the same function.

The Judge agreed with the CRA’s decision, which stated that the problems involved in attaining the objectives could be resolved by “routine engineering”; the term typically “describes techniques, procedures and data that are generally accessible to competent professionals in the field”.

When analyzing a case, the reasoning and the process used by the Judge are just as important as the ruling itself. From the arguments of this ruling, the following points should be taken into consideration when determining the eligibility of SR&ED activities:

• It was not clear whether the project was carried out by competent professionals in the field: the employees who worked on this project did not have a technical diploma or experience in mechanical or hydraulic design. They also did not have recourse to specialized external resources. “(…) the research teams did not include any professional engineers or researchers who held a university degree in engineering, and as none of the researchers with limited engineering training were called as witnesses (…)”.
• There was no correct formulation of hypotheses on the basis of several tests in the process. The Judge provided a number of definitions taken from various sources and retained a simple one stating that a hypothesis should be formulated as a statement to be tested: “In other words, a hypothesis is a statement to be tested by an experiment or a trial.”
• There was a lack of thoroughness in the experimental process. For example, during trials, the rate of the curtain’s descent was not measured: “It seems to me that, if the scientific method had been used (i.e., if there had been systematic observation, measurement and experiment), Mr. Marineau and his colleagues would have determined the precise weight used in the experiments and would have precisely measured the duration of the descent in each experiment so that they could determine whether, as they moved from one experiment to the next, the duration of the descent was increasing or decreasing.”

With regard to Point 2, it could be assumed that these hypotheses could be implicit for each design iteration, but it is still possible to be able to reconstitute them from the facts and they must be specific and innovative. A good hypothesis at the basis of a trial is what mainly distinguishes a systematic investigation from a “trial and error” process.

Point 3 is an argument rarely used in case law to refute the presence of SR&ED. Note however that, in this particular case, the Judge does not set the bar very high in terms of scientific thoroughness.

Nonetheless, there is a positive aspect resulting from the comments of this ruling: the Judge reiterates that contemporaneous documentation, while beneficial, is not essential for demonstrating the existence of SR&ED: “Although Northwest Hydraulic indicated that one of the criteria of SR&ED is a detailed record of hypotheses, tests and results, some cases have suggested that this particular criterion may not be absolutely essential.”

This case constitutes another situation where SR&ED projects in applied mechanics are difficult to defend. The current practice in this field is quite vague and arguments must be convincing. Also, work must be performed by personnel at the cutting-edge of technology and a thorough development process must be adopted.

Federal Minister of Finance, Bill Morneau, presented his budget on March 22, 2017. The government is continuing with its planned focus on building a strong middle class through innovation, skills, partnership and fairness. Budget 2017 focuses on giving talented people the skills they need to drive our most successful industries and high-growth companies forward, while investing in Canadians’ well-being through a focus on mental health, home care and indigenous health care.

Forecasted deficits

As widely anticipated, the budget projects significant deficits over the next several years. The government forecasts a deficit of $23 billion for 2016–17 and $28.5 million in 2017–18. Over the next four years, deficits are expected to decline gradually from $27.4 billion in 2018–19 to $18.8 billion in 2021–22.

Canada continues to have the lowest total government net debt-to-GDP ratio of all G7 countries. The federal debt-to-GDP ratio is projected to decline gradually after 2018–19 reaching 30.9 percent in 2021–22.

Investing in priorities

The government is committed to making smart, necessary investments in the economy to ensure a thriving middle class, and remains committed to a responsible approach to fiscal management.

The government will initiate three new expenditure management initiatives:

• A comprehensive review of at least three federal departments (to be determined), with the aim to eliminate poorly targeted and inefficient programs, wasteful spending and inefficient programs, and ineffective and obsolete government initiatives.
• Initiate a three-year review of federal fixed assets to identify ways to enhance or generate greater value from government assets.
• Initiate a review of all federal innovation and clean technology programs across all departments, as federal programs are dispersed to simplify programming and better align resources to improve the effectiveness of innovation programs.

The government will report on the progress of these reviews in Budget 2018.

The government will also introduce legislative changes to improve the organization and efficiency of government operations, as needed.

International staff postings provide an excellent growth opportunity for a business.

Whether the company prefers to hire from abroad or send resources from here, this decision includes multiple human, financial, legal and tax aspects that will influence the success of this process.

Posting impacts

A business with some of its staff posted abroad would not be able to function efficiently and reduce posting costs without proper tax planning and efficient compliance services.

It is imperative for both employers and employees to comply with the foreign country’s tax laws and regulations, otherwise the tax authorities could impose hefty fines or penalties. Employees must have a clear understanding of the impact of the posting on their personal tax and resulting compliance obligations for both the country of residence and the host country. Employers must establish a fair and just remuneration plan, pay taxes as applicable, file income tax returns and comply with indirect taxes accurately and in a timely fashion, locally and internationally.

Tax obligations, even without a head office

Entrepreneurs often believe that they do not have to worry about payroll deductions for an employee sent abroad, corporate taxes and the sales taxes of the country in question when they do not have a head office abroad. This is not always the case!

As an example, a Canadian company carrying on sales in the United States that decides to send a sales person there for a certain amount of time to develop the U.S. market could be subject to the following U.S. tax obligations:

• Registration as a U.S. employer;
• Remittance of the sales person’s U.S. payroll deductions;
• Filing of employee and company U.S. state and federal tax returns;
• Registration for U.S. sales taxes.

These resulting tax obligations may be considerable for a Canadian company that is not familiar with the laws of the host country. As such, it is important for entrepreneurs to learn more about their organizational and tax structure. The objective is to minimize the overall tax rate and avoid situations where foreign activities could increase the tax burden.

A company that knows how to plan and rigorously adheres to the tax laws can considerably reduce the operating risks and expenses related to its international activities. Our team of international tax experts can guide you in your foreign posting process by offering you integrated consulting and compliance services that cover all of the tax, personal and organizational aspects of international staff mobility.