2017 Report on Federal Tax Expenditures (FTEs) Shows Less Government Spending on the SR&ED Program
The 2017 Report on Federal Tax Expenditures (FTEs) has revised the total amount that SR&ED tax credits will reduce revenue gained from income tax by 15 percent, compared to the 2016 report.
The 2017 report, released by the Department of Finance Canada, estimates that $2.8 billion will be disbursed via the SR&ED investment tax credit in 2017 from what the government earns in taxes. 1 However, in the 2016 version of the report, the government estimated spending more than $3.3 billion on SR&ED in 2017. 2
At the same time, the amount projected to be spent for non-refundable Income Tax Credits (ITCs), which are usually earned by public- and foreign-owned corporations, dropped from almost $1.65 billion in the 2016 report to $1.35 billion in the 2017 report for the 2017 tax year.
Why has the government decreased these projections? Before trying to answer that question, it will be worthwhile to provide some background on the report and Federal Tax Expenditures (FTEs) in general for context’s sake.
What is the Report on FTEs?
According to the 2017 edition of the report, one of the document’s primary purposes is to estimate the fiscal cost of FTEs. 3 An FTE is something that reduces the amount of federal tax that can be collected. A tax credit, such as the SR&ED program, is one of these FTEs. Video Tax News reported in March 2017 that the SR&ED tax credit program is the 12th largest FTE in Canada. Some feel, as the Video Tax News article suggests, that with the federal government’s new focus on spending deficits, FTEs should be the focus of budget cuts to reduce the amount of government spending. 4
The Department of Finance Canada first reported on FTEs in 1979 and has published estimates since 1994. The intent is to report on the federal tax system and encourage public dialogue. 5 These reports are released in advance of each year’s federal budget.
Examining the Numbers from the Reports
To provide analysis on the downward spending trends, here are the figures from the 2016 report on how much the government intends to spend in FTEs on SR&ED. 6 The figures are in the millions of dollars.
| Millions of Dollars | 2016 (projected) | 2017 (projected) |
|---|---|---|
| Personal Income Tax | 3 | 3 |
| Corporate Income Tax (Non-Refundable portion) | ||
| Earned and claimed in current year | 610 | 640 |
| Claimed in current year but earned in prior years | 860 | 900 |
| Earned in current year but carried back to prior years | 115 | 125 |
| Total Corporate Income Tax (Non-Refundable Portion) | 1585 | 1645 |
| Total Corporate Income Tax (Refundable Portion) | 1575 | 1645 |
| Total Corporate Income Tax | 3160 | 3310 |
| Total | 3165 | 3315 |
| Source: Government of Canada. Department of Finance Canada. 2016, February 23. Report on Federal Tax Expenditures: Concepts, Estimates and Evaluations. Pg. 250. | ||
Here are the figures from the following year (2017). 7 Note that 2017’s figures project expenditures into 2018 for the first time:
| Millions of Dollars | 2016 (projected) | 2017 (projected) | 2018 (projected) |
|---|---|---|---|
| Personal Income Tax | 1 | 1 | 1 |
| Corporate Income Tax (Non-Refundable portion) | |||
| Earned and claimed in current year | 420 | 440 | 445 |
| Claimed in current year but earned in prior years | 930 | 970 | 1005 |
| Earned in current year but carried back to prior years | 40 | 40 | 40 |
| Total Corporate Income Tax (Non-Refundable Portion) | 1385 | 1445 | 1500 |
| Total Corporate Income Tax (Refundable Portion) | 1305 | 1350 | 1405 |
| Total Corporate Income Tax | 2690 | 2800 | 2905 |
| Total | 2690 | 2800 | 2905 |
| Source: Government of Canada. Department of Finance Canada. (2017, February 23.) 2017 Report on Federal Tax Expenditures: Concepts, Estimates and Evaluations. Pg. 249. | |||
The non-refundable numbers are interesting (again, this is the type of credit largely claimed by public- and foreign-owned companies). The amount of spending on FTEs from these companies claiming a tax credit in the current year, having earned them in prior years, has gone up by approximately seven percent in the 2017 tax year. However, there is a startling decline in FTEs spent on tax credits claimed on the amount earned in the current year but carried back to prior years; it has dropped by almost 70 percent and the reason for this is unknown.
Overall, the biggest decrease is in the amount of FTEs expected to be spent on SR&ED for the tax year 2016. Expectations to spend almost $3.2 billion fell to a projected spend of approximately $2.7 billion for that particular tax year. There’s also the question of why the non-refundable Investment Tax Credit (ITC) spending fell, though the reduction in credits earned in the current year though were carried back to previous years played the most significant part. The government is not saying what is happening – at least, not in these reports.
What is causing the decrease in spending?
Causes for the reduction could be anything from companies not willing to take the time to file an SR&ED claim for perceived lack of worth, especially in light of Federal Budget 2012 changes and the Canada Revenue Agency’s audit processes tightening the requirements for obtaining an SR&ED tax credit.
If the downward trend is due to the changes made to the SR&ED program in the 2012 Federal Budget, why would the changes greatly affect the projected amount to be spent in years 2016 and 2017 from year to year – about five years later?
Note that in the following table of historical data, there was already a decline in FTEs spent on SR&ED from the years 2013 to 2014, the latter year being when the most of the 2012 Budget changes went into effect.
(To summarize the 2012 Federal Budget changes for 2014, the refundable tax credit went from 20 percent to 15 percent, capital expenditures were no longer allowed to be accrued after 2014, and the proxy overhead calculations went to 55 percent from 65 percent.)
However, the latest report does note that “estimates for the personal income tax for 2010 to 2013 include investment tax credits claimed in respect of certain other certified property under a provision that is now repealed. These credits cannot be separated from SR&ED investment tax credits, but are likely negligible.”8
Here are the figures from the 2016 report, which shows the figures for 2012 – 2014: 9
| Millions of Dollars | 2012 | 2013 | 2014 (projected) |
|---|---|---|---|
| Personal Income Tax | 4 | 3 | 5 |
| Corporate Income Tax (Non-Refundable portion) | |||
| Earned and claimed in current year | 805 | 675 | 580 |
| Claimed in current year but earned in prior years | 745 | 995 | 840 |
| Earned in current year but carried back to prior years | 55 | 225 | 110 |
| Total Corporate Income Tax (Non-Refundable Portion) | 1605 | 1895 | 1510 |
| Total Corporate Income Tax (Refundable Portion) | 1500 | 1330 | 1500 |
| Total Corporate Income Tax | 3105 | 3225 | 3010 |
| Total | 3110 | 3230 | 3010 |
| Source: Government of Canada. Department of Finance Canada. (2016, February 23.) Report on Federal Tax Expenditures: Concepts, Estimates and Evaluations, 2016. Pg. 250. | |||
In comparison, here are the figures from the 2017 report, which shows the 2012 -2014: 10
| Millions of Dollars | 2012 | 2013 | 2014 |
|---|---|---|---|
| Personal Income Tax | 4 | 3 | 1 |
| Corporate Income Tax (Non-Refundable portion) | |||
| Earned and claimed in current year | 785 | 700 | 525 |
| Claimed in current year but earned in prior years | 990 | 1010 | 780 |
| Earned in current year but carried back to prior years | 65 | 225 | 40 |
| Total Corporate Income Tax (Non-Refundable Portion) | 1845 | 1935 | 1345 |
| Total Corporate Income Tax (Refundable Portion) | 1455 | 1335 | 1290 |
| Total Corporate Income Tax | 3300 | 3270 | 2635 |
| Total | 3300 | 3275 | 2635 |
| Source: Government of Canada. Department of Finance Canada. (2017, February 23.) Report on Federal Tax Expenditures: Concepts, Estimates and Evaluations, 2017. Pg. 249. | |||
Of note, the 2016 report says that “about 4,400 individuals and 23,000 corporations claimed this (SR&ED) credit in 2013.”11 In comparison, the 2017 report notes that “about 3,800 individuals and 21,900 corporations claimed this credit in 2014.”12 That is a fairly significant reduction between the two years, particularly among individuals.
It is interesting to note, however, that the total amount of FTEs spent actually rose slightly from 2016 to 2017 for the tax year 2013. Were companies trying to claim expenditures before the new provisions went into effect? The reports do not offer an explanation, but it appears that companies were trying to meet the deadline before the 2014 changes began. The amount of non-refundable tax credits claimed in 2012 for credits earned in the current year but were carried back to prior years was $65 million according to the 2017 report. If you note the increase to $225 million in 2013, it appears that companies were indeed trying to take advantage of the old rules before the new ones came into being.
Time for Some Hard Questions
It may be time to ask the federal government some tough questions with what is happening with the SR&ED program. Are companies suddenly not being as innovative as they once were? (This suggestion was even posed by Navdeep Bains, Minister of Innovation, Science, and Economic Development, in a July 2016 Globe and Mail Q and A; “We’re providing opportunities for businesses but they’re not really stepping up.” 13) If so, how can that account for the precarious drop between 2013 and 2014, when new rules came into effect?
Is the CRA being more stringent in its assessments? The number of Tax Court of Canada cases in recent years might reflect this, as the Globe and Mail reported in April 2015 that there were 80 SR&ED-related cases before the court at that time. The number of new SR&ED-related cases had previously increased from 20 in 2012 to 42 in 2014. 14
Asking why there has been a downward revision in the amount spent on SR&ED from FTEs is significant, especially in light of the reports’ rationale behind why Canada has an SR&ED tax credit program in the first place:
The rationale for this tax support is that the benefits of SR&ED extend beyond the performers (in the private sector and at small businesses) themselves to other firms and sectors of the economy. The existence of these spillovers of externalities means that, in the absence of government support, firms would perform less SR&ED than desirable for the economy. 15
If the SR&ED program is decreasing the number of tax credits available to the private sector, then why? This is, from the government’s perspective, an important program that provides clear benefits, for it notes that without it, there would be less SR&ED performed at all. Does the program need more promotion? Or has the program’s 2013 and 2014 changes negatively influenced how many individuals and companies are filing claims, impacting the FTEs spent on it?
Whatever the case might be, the revision of FTEs spent on SR&ED is ominous – even if the number of FTEs spent overall on SR&ED are slowly returning to pre-2014 levels overall. It will be interesting to see what the figures are in next year’s report and if the downward projection trend continues in light of the federal government’s new focus on innovation.
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Bibliography
Devaney, Joseph. “Budget 2017 – Foreshadowing from the Tax Expenditures Report.” Video Tax News. 2017, March 1. Retrieved July 7, 2017, from https://www.videotax.com/web-tips-articles/2017/4/5/budget-2017-foreshadowing-from-the-tax-expenditures-report.
Government of Canada. Department of Finance Canada. 2017 Report on Federal Tax Expenditures: Concepts, Estimates and Evaluations. 2017, February 23. Retrieved July 7, 2017, from https://www.fin.gc.ca/taxexp-depfisc/2017/taxexp-depfisc17-eng.pdf.
Government of Canada. Department of Finance Canada. Report on Federal Tax Expenditures: Concepts, Estimates and Evaluations, 2016. 2016, February 23. Retrieved July 7, 2017, from https://www.fin.gc.ca/taxexp-depfisc/2016/taxexp-depfisc16-eng.pdf.
McKenna, Barrie. “Ottawa’s generous loans come with R&D tax credit crackdown.” The Globe and Mail: Toronto, Ontario. 2015, April 13. Pg. B1.
Silcoff, Sean. “A federal focus on innovation.” The Globe and Mail: Toronto, Ontario. 2016, July 27. Pg. B2.