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Discussing “On Behalf Of” in SR&ED Contracts

SR&ED Writing and Research

What is “on behalf of” when referring to SR&ED contracts?

Contractual agreements, whether between arm’s length or non-arm’s length entities, are a common occurrence in the business world, particularly in SR&ED research.   In one of our previous articles, we discussed the disbursal of Investment Tax Credits (ITCs) between entities dealing at arm’s length versus non-arm’s length. Within arm’s length contract agreements, the primary method of determining which entity can lay claim to the SR&ED tax credits is the verification of the concept of “On behalf of”.

For a claimant dealing at arm’s length with the SR&ED performer, “on behalf of” in contractual agreements makes all the difference between a valid SR&ED claim or a rejected one. We will discuss the definition of “on behalf of, as well as factors like contractor performance requirements, pricing vs. risk, intellectual property ownership, etc. – all of which influence ITC entitlement in SR&ED contracts.

Disclaimer: Contract law is usually a complicated topic. Since various factors influence its application and enforcement, it normally requires expertise to be applied on a case-by-case basis. This article is meant to provide a basic understanding of the subject matter discussed within and does not serve to replace legal advice. For more insight, please contact a tax lawyer specializing in SR&ED.

“Contract Payment” in SR&ED Policy

Under the Assistance and Contract Payments Policy, a contract payment is:

contract payment is:

  • an amount paid or payable to a claimant by a taxable supplier in respect of the amount for SR&ED:
    • for, or on behalf of, a person or partnership entitled to a deduction for the amount as a current expenditure or as a third-party payment to a corporation; and
    • at a time when the claimant and the person or partnership (the taxable supplier) are dealing at arm’s length; or
  • an amount for an expenditure of a current nature (other than a prescribed amount) payable by a Canadian government, municipality or other Canadian public authority (see section 4.1.1) or by a person exempt from Part I tax under section 149 of the Income Tax Act for SR&ED to be performed for it or on its behalf.

In this context, a prescribed amount is an amount received from the Canadian Commercial Corporation in respect of an amount received by that corporation from a foreign government, foreign municipality or other foreign public authority.1

The Concept of “On Behalf Of”

The CRA’s Contract Expenditures for SR&ED Performed on Behalf of a Claimant Policy explains “on behalf of” as the following:

[…] “on behalf of” […] normally refers to a situation where the SR&ED work is contracted out to another party under circumstances where the claimant (payer) typically maintains ownership of the SR&ED work performed.

Whether the payer requested the contractor to perform SR&ED on behalf of the payer under the terms of the contract is a key element for determining an amount as being a contract payment. This determination is made on the basis of the terms of the contract read as a whole and by reviewing all the facts surrounding the particular situation.2

Is it a Contract Payment for SR&ED?

As listed under the Assistance and Contract Payments Policy, the criteria to determine the validity of a contract are applicable to all claimants regardless of whether the claimant is:

  • a person or partnership; or,
  • a Canadian government, municipality, or other Canadian public authority (see section 4.1.1) or a person exempt from Part I tax.

These criteria should be considered in assessing the nature of the payment. The key element to consider is whether the payer is requesting the contractor to perform SR&ED on behalf of the payer under the terms of the contract. An analysis is required of all circumstances relating to the payment to determine if the amount is to be treated as a contract payment.

None of the criteria are, in themselves, conclusive.3

Contractor Performance Requirements

Under this criterion,4 the main question is not whether SR&ED eligible work was carried out, but rather whether or not it was carried out because it was specifically required under the terms of the contract.

Furthermore, did the payer also include specifications for the work contracted which had to be complied with while pursuing the tasks for which the performer was engaged?

If the contract in question reflects both of these requirements, then it may indicate that the performer carried out SR&ED on behalf of the payer, thus validating the amount paid as a contract payment. If proven as a valid contract payment as determined by SR&ED policies, then the payer, not the performer, lays claim to the ITC.

Pricing vs Risks Assumed

In the article discussing arm’s length versus non-arm’s length credit disbursals, we posited that one of the main questions determining eligibility of ITC claim was as follows: which organization bore the brunt of financial risk in the project? The questions posed under this criterion support and reflect that same query.

[A] Is there a ceiling price beyond which the contractor would not have been paid?

If the answer to this question is yes, then the contractor/performer had to assume risks under the contract, because they – and not the payer – would be responsible for costs above the ceiling price. This raises doubts as to whether the contractor performed SR&ED on behalf of the payer. If the contractor/performer agreed to absorb extra costs related to the project, this may indicate that the SR&ED was being carried out by, and at the risk of, the contractor and not on behalf of the payer.

[B] Would the contractor have been entitled to payments if the work did not meet the requirements of work to be performed under the contract?

If the answer is yes, it may indicate that the risks taken by the performer were limited. In such a case, the risks rested with the payer, even with a ceiling price clause. This would support the position that SR&ED was carried out on behalf of the payer.

One particular reason behind this could be that if the performer did not comply with requirements specified for the work under the contract, then the payers may find themselves battling the eligibility of the work when the claim is filed. If the performer receives payment regardless of compliance with specific requirements, then the risk is born by the payer and not the performer.

The CRA also notes that a repayment given because the work stopped or the other obligations of the contractor were not fulfilled should not be considered in making the determination.

Intellectual Property

The rights to the intellectual property (IP) arising from the SR&ED work are an important consideration to keep in mind while determining if a contract was carried out by a performer on behalf of a payer. If the IP belongs to the contractor, it may indicate that the performer did not carry out SR&ED work on behalf of the payer.

The policy also clarifies the CRA’s position in cases where the payer holds conditional rights to use the results of the SR&ED. Under such terms, the existence of a conditional right may indicate that the SR&ED was not performed on behalf of the payer, since the payer is not permitted to use the results of the SR&ED as desired.

However, distinctions can be made in case of a contract with the Crown. The ownership of IP resting with the performer rather than the Crown does not necessarily have a notable effect on the qualification of a payment as a contract payment. This succinctly displays the fact that the ownership of IP is just one factor among many which are weighed during the overall comprehensive analysis of the nature of contract payments.

The CRA further clarifies, under this policy, two particular situations with respect to the IP criteria:

[1] For contracts with the Crown, the Treasury Board of Canada Secratariat’s “Policy on Title to Intellectual Property arising under Crown Procurement Contracts” specifies that IP developed by a performer during the course of a crown procurement contract will stay with the performer.

[2] The second situation deals with contracts with universities, in their capacity as payers. In this case, the university usually owns the rights to the IP. The following questions are considered in the determination of valid SR&ED contract payments.

  • Does the university have the capacity or intent to exploit the results of the SR&ED done by the performer?
  • Is the SR&ED that was performed within the scope of research that would normally be done by the university?

If the answer to both these questions is yes, then the SR&ED was performed on the behalf of the university.

Contracts for Services vs Sale of Goods

While the CRA lists this as the last predetermined factor in the policy, for the fulfillment of “on behalf of” under SR&ED contracts payments, they haven’t clarified upon the manner in which the presence of either of these factors determines ITC entitlement: “A contract for service may indicate that the SR&ED work was being performed on behalf of the payer. However, a contract for the sale of a good does not necessarily mean that the SR&ED work was not being performed on behalf of the payer.”

Conclusion: SR&ED Contracts

While the factors listed above may shed some light on the necessary conditions which must be fulfilled in order to successfully defend your claim to SR&ED work done on behalf of your organization (in your capacity as the payer), the CRA itself notes these points to be inconclusive by themselves. This is why, in addition to complying with the points listed above, primary precautions should include specific wording in the contractual agreement which denotes ahead of time which organization between the payer and the performer would claim the ITCs at the end for all SR&ED contracts.

Want to estimate your potential refund? Why not try our SR&ED calculator, which allows you to enter SR&ED contracts.

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Show 4 footnotes

  1. Government of Canada. (December 18, 2014.) Assistance and Contract Payments Policy. 5.0 Contract payments. 5.2 Definition of a contract payment. Retrieved November 24, 2017, from: https://www.canada.ca/en/revenue-agency/services/scientific-research-experimental-development-tax-incentive-program/assistance-contract-payments-policy.html#s5_2
  2. Government of Canada. (December 18, 2014.) Contract Expenditures for SR&ED Performed on Behalf of a Claimant Policy. 3.0 On behalf of. Retrieved November 24, 2017, from: https://www.canada.ca/en/revenue-agency/services/scientific-research-experimental-development-tax-incentive-program/contract-expenditures-performed-on-behalf-a-claimant-policy.html#s3_0.
  3. Government of Canada. (December 18, 2014.) Assistance and Contract Payments Policy. 5.0 Contract payments. 5.5 Criteria to consider. Retrieved November 24, 2017, from: https://www.canada.ca/en/revenue-agency/services/scientific-research-experimental-development-tax-incentive-program/assistance-contract-payments-policy.html#s5_5
  4. Government of Canada. (December 18, 2014.) Assistance and Contract Payments Policy. 5.0 Contract payments. 5.5 Criteria to consider. 5.5.1 Contractor performance requirements. Retrieved November 24, 2017, from: https://www.canada.ca/en/revenue-agency/services/scientific-research-experimental-development-tax-incentive-program/assistance-contract-payments-policy.html#s5_5_1

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