How does the Canada Revenue Agency (CRA) determine whether or not your project meets the Scientific Research & Experimental Development (SR&ED) specifications?
Your project must meet three criteria in order to be eligible for SR&ED:
- Technological Advancement – furthered technical knowledge
- Technological Uncertainty – faced technical challenges or uncertainties
- Technical Content – went through an iterative process to try and overcome those challenges or uncertainties
Determining SR&ED Eligibility:
According to the CRA’s Eligibility of Work for SR&ED Investment Tax Credits Policy, they determine whether a project meets the criteria by asking the following five questions:
1. “Was there a scientific or a technological uncertainty that could not be removed by standard practice/engineering?”
Basically this means that you’ve advanced the current state of technology by enhancing a characteristic or extending a capability. An example could be an automobile parts manufacturer who does not yet have the technology to increase volume in order to meet customer demands. The manufacturer will have to do some development and research to advance the technology and will be able to claim that time through the SR&ED program.
2. “Did the effort involve formulating a hypothesis specifically aimed at reducing or eliminating the uncertainty?”
A hypothesis is defined as “a proposed explanation made on the basis of limited evidence as a starting point for further investigation.” For the purposes of SR&ED, a hypothesis is simply referring to how you will attempt to resolve the technological unknowns identified before the experimentation begins. For example an automobile parts manufacturer could have discovered a new way of advancing technology through analysing of several prototypes and continually testing the original hypothesis.
3. “Was the adopted procedure consistent with the total discipline of the scientific method, including formulating, testing, and modifying the hypothesis?”
If you have a blank face after reading this question, you are not alone. What the CRA is trying to establish with this question is that you went through a well thought out process to identify what advancement you needed to achieve; you identified what challenges were associated with achieving that advancement; and that you followed through with a systematic investigation (or iterative process) until you arrived at your hypothetical outcome or proved that it could not be achieved.
Bonus: click here to download this 20-page SR&ED Guide to learn everything you need to know to prepare a successful claim.
4. “Did the process result in a scientific or technological advancement?”
You’ve advanced the current state of technology by enhancing a characteristic or extending a capability. In your research and experimentation efforts, did you find an existing solution that solved your challenges? If that’s the case, then your project most likely does not qualify for SR&ED.
The CRA is looking for the result of your iterative process and how that has advanced the knowledge base within your company. Keep in mind that this advancement needs to be on a technical level and not a business one. So, it can’t just address a ‘market demand’ knowledge gap, but a technical one.
Didn’t achieve your technological objective due to challenges you could not overcome? This can qualify for SR&ED as this failure has advanced your technical knowledge and you know where not to start in the next iteration of your testing.
5. “Was a record of the hypothesis tested and results kept as the work progressed?
Documentation needs to be contemporaneous. This means that it was “created at the time when the SR&ED work was done and produced as a result of performing such work.” It is expected that all work is documented. You must clearly demonstrate why each major element is required and how each fits into the project. Examples of contemporaneous documentation include notebooks, diaries, e-mails, minutes, file notes, etc.
Time tracking is another very important piece of documentation that can not be forgotten about. It is one thing to prove that you have done the work, however since you are going to be getting money back (or tax credits) based on employee or subcontractor time that went into the work you need to be able to prove this as well.
Still scratching your head?
Feel free to contact us for further clarification as well as a complimentary SR&ED assessment.