After listening to an episode of Canadaland, we pondered the purpose of the SR&ED program and whether it is hurting or helping Canadian innovation.
Does SR&ED Work for Canada?
Why Johnny Can’t Innovate,1 an episode of Canadaland, features debates questioning the validity of the Scientific Research & Experimental Development (SR&ED) program. At the beginning of the summer of 2016, 30 Canadian bankers, industry leaders, and entrepreneurs got together to figure out how to “fix” the tech industry. Entrepreneur Dan Debow, an angel investor and adjunct University of Toronto law professor, uses his presence at this meeting to purport himself as an expert in tax incentive programs.
According to Debow, there are two major problems regarding government innovation funding:
- the government has less faith in the capital markets to allocate resources, and
- they always try to give a little bit to everybody, spreading themselves too thin.
Debow goes on to explain that, instead of giving money to companies with a proven track record, the SR&ED program gives money to anybody who does research and development (R&D), lending it the nickname the “free money program.” A company may not be doing well commercially, however, they can still get money from the government for doing legitimate R&D work.
If you talk to people in every part of SR&ED, what do they call it? [. . .] They call it the “free money program”. [. . .] It creates a system where there is very little incentive for anybody to say this is what’s wrong, because everybody’s benefiting from it.
In the years that we have spent helping Canadian companies file tax claims, we have yet to hear anybody call it the “free money program.” Perhaps Debow is extrapolating this nickname from his experiences and social connections. It is also interesting that Debow would point this out now, when the Canada Revenue Agency (CRA) has made significant changes to SR&ED policies and invested $15 million in additional reviews, reducing tax leakage due to ineligible submissions. We have reviewed the CRA’s budget reports and observed there has been a steady decline in companies filing for tax credits since changes to the SR&ED program were implemented in 2012.
In short, Debow claims that the CRA opportunity cost is too high.
[SR&ED] measures inputs, that is you tried to do something. […] As opposed to the capital market that’s based on outputs; you succeeded; you built something people want.
Why Continue with the SR&ED Program?
The program has helped many Canadian-based companies, including small and early-stage companies. The biggest possible downside, highlighted by Debow, is that the CRA backs both successful and less successful corporations. We would argue, however, that funding both successful and unsuccessful corporations and projects is not a downside. A fundamental characteristic of the program is that the CRA does not exist to pick winners and losers–its role is to enforce the Income Tax Act and the associated policies.
To call the program “free money” is incorrect. The role of the SR&ED program is not to increase corporate profits, but to encourage the “generation of information or the discovery of knowledge that advances the understanding of scientific relations or technology” 2 in Canada, which seems a worthy cause.
There are other programs that can assist with commercialization and adoption of technology, which seems to be what Debow is referencing when he discusses “successful innovation.” It is our opinion that the SR&ED program serves a specific purpose and should, as Debow suggests, a “reach for the podium”-style program be implemented, it should be separate from this long-established, clearly defined tax credit.