Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ARC.
Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the Department.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle du ministère.
Principal Issues:
Taxpayer derives all of its revenue from the prosecution of SR&ED. Whether:
(a) all management and administrative salaries and all other employees' salaries and wages qualify as SR&ED under clause 37(8)(a)(ii)(B);
(b) all administrative and support salaries would fall under paragraph 2900(2)(c) of the Regulations and, therefore, are not prescribed expenditures under clause 2902(a)(i)(A) of the Regulations;
(c) all overheads would be SR&ED on the basis that they are incremental to the prosecution of SR&ED.
Position:
The reason that the taxpayer derives all of its revenue from SR&ED does not support its treatment of the expenditures in the manner described above.
Reasons:
The particular treatment of the expenditures was accorded to sole-purpose SR&ED performers prior to 1995. This treatment was repealed under the law in 1994.
An expenditure of a current nature could be an expenditure described under paragraph 37(1)(a) provided it is all or substantially all attributable to the prosecution of SR&ED. Such test would be based on 90% or more of the expenditure being used for SR&ED purposes and not on whether the taxpayer derives its revenue from SR&ED.
An expenditure that qualifies under Regulation 2900(2)(c) must be directly related to the prosecution and it would not have been incurred with the occurrence of the prosecution. It is a question of fact whether a particular expenditure or only a portion thereof would be so incremental to such prosecution of SR&ED.
March 26, 2001
SR&ED Directorate HEADQUARTERS
Financial Legislation Application Frank Fontaine
Section 957-4364
Mel Machado, Manager
Attention: Michel Lefebvre
2001-006974
XXXXXXXXXX
Sole Purpose Scientific Research and
Experimental Development ("SR&ED") Performer
This refers to the situation raised by you during our recent meeting concerning the treatment by XXXXXXXXXX of certain expenditures for taxation years commencing after 1995.
XXXXXXXXXX is a subsidiary corporation of XXXXXXXXXX derives all or substantially all of its revenue from the prosecution of scientific research and experimental development from the SR&ED it performs on behalf of XXXXXXXXXX. As a result, XXXXXXXXXX contends that:
(i) all XXXXXXXXXX management and administrative salaries are solely attributable to the prosecution of SR&ED and salaries and wages of all employees qualify as SR&ED under clause 37(8)(a)(ii)(B) of the Income Tax Act (the "Act");
(ii) all XXXXXXXXXX administrative and support salaries fall under paragraph 2900(2)(c) of the Income Tax Regulations (the "Regulations") and, accordingly, are not prescribed expenditures under clause 2902(a)(ii)(A) of the Regulations; and
(iii) all overhead expenses of XXXXXXXXXX qualify as SR&ED on the basis that they are, pursuant to subsection 2900(3) of the Regulations, incremental to the prosecution of SR&ED and also that none of these expenses are prescribed expenditures.
1. The treatment by XXXXXXXXXX cannot be attributed to the treatment of certain expenditures which was previously accorded sole-purpose SR&ED performers under the Act, since the law providing such treatment was repealed effective February 23, 1994. According to the Technical Notes, the change in the law was intended to ensure that all taxpayers were subject to the same rules in respect of their eligibility for the investment tax credit.
2. It is a question of fact whether a particular expenditure comprising administrative salary or wages would be all or substantially all ("ASA") directed to SR&ED, and if so, avoid being a prescribed expenditure under clause 2902(a)(i)(A) of the Regulations. See subparagraph 3(a) below.
3. We disagree with the taxpayer that all the expenditures described in (i), (ii) and (iii) above qualify as SR&ED expenditures based solely on the arguments submitted. Our reasons are, respectively, as follows:
(a) The position that management and administrative salaries are solely attributable to SR&ED, as described in (i) above would rest, in our opinion, on whether such expenditure meets the ASA tests described in subclause 37(8)(a)(ii)(A)(I) of the Act and in clause 2902(a)(i)(A) of the Regulations. Our position with regard to an expenditure of a current nature described in paragraph 18 of IT-151R5, is that 90% or more thereof must be used for SR&ED purposes and that an employee's remuneration (subject to subsections 37(9) and (9.5) of the Act) would meet such test, if the employee was hired to perform his/her duties in SR&ED activities.
(b) In order to meet the requirements under paragraph 2900(2)(c) of the Regulations, an expenditure must satisfy two tests. It must first be "directly related" to the prosecution of the SR&ED and secondly, the expenditure would not have been incurred had such prosecution not occurred. The taxpayer's contention that all administrative and support salaries and wages should be included under paragraph 2900(2)(c) of the Regulations would infer that all administrative and clerical support staff, in effect, "directly support" or "directly undertake" the prosecution of SR&ED as prescribed under paragraph 2900(2)(b) of the Regulations, thereby making the latter provision meaningless.
By virtue of the words "directly related", it is inconceivable that all administrative and clerical support staff would be "directly related" to the prosecution of SR&ED equally with staff hired to perform their duties specifically in such prosecution. It is our view that the words "portion" and "directly related" in paragraphs 2900(2)(c) and 2900(3)(b) of the Regulations indicate that only some duties of such staff would meet such test, the determination of which would be based on a finding of fact.
XXXXXXXXXX argument that all of the expenditures described in (ii) above fall under paragraph 2900(2)(c) of the Regulations and would, therefore, not be a prescribed expenditure under clause 2902(a)(i)(A), is not supported for the reasons stated in the immediate paragraph above. An amount would not be a prescribed expenditure by virtue of being included in paragraph 2900(2)(c) only "to the extent" that the expenditure is "directly related" to the prosecution of SR&ED and would not have been incurred without the prosecution.
(c) For similar reasons described in (b) above, it is unlikely that with regard to overheads, every asset or aspect of a business that carries on SR&ED is "directly related" to the prosecution of such SR&ED.
Our Conclusion
XXXXXXXXXX treatment of its expenditures is based on the premise that all it does is SR&ED and all of its revenue is derived from SR&ED. This argument must be contrasted with a corporation whose business is reported to be manufacturing. Where all or substantially all of such corporation's income is derived from manufacturing, it would not be accepted for tax purposes that all of its management and administrative staff are "directly engaged" in, or "directly related" to, manufacturing. These quoted words are also described in the definition of "cost of manufacturing and processing labour", for the purpose of computing the "Canadian manufacturing and processing profits" under section 5202 of the Regulations. These terms are included in the law specifically to separate certain activities such as those performed by management, administrative and clerical staff carried on within the corporation that would not be considered manufacturing. Accordingly, notwithstanding the extent of XXXXXXXXXX SR&ED activities, it would be incorrect to conclude, based on the law, that all of XXXXXXXXXX expenditures are directly related to the (provision for the....) prosecution of SR&ED, or are 90% or more attributable to such prosecution.
We would agree, however, that there may be a portion of its management, administrative, clerical and overhead expenditure that would reasonably be so related to such prosecution pursuant to paragraphs 2900(2)(c) and (3)(b) of the Regulations.
The Department of Finance confirmed by facsimile transmission that they disagree with XXXXXXXXXX treatment, since to permit it would be tantamount to accepting the continuance of the rules of sole-purpose SR&ED performers which would be inappropriate from a tax policy perspective, when the intent of the change in the law in 1994 concerning such performers was to place all taxpayers on an even playing field.
We trust our comments will be of assistance to you.
Steve Tevlin
for Director
Business and Partnerships Division
Income Tax Rulings Directorate
Policy and Legislation Branch
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