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 CCRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ADRC.
Principal Issues: Whether a license to use computer software constitutes an expenditure of a current nature for the lease of equipment, for the purposes of the proxy method in calculating a taxpayer's SR&ED expenditures.
Position: No.
Reasons: A license to use computer software, based on the definition of "computer software" in Regulation 1104(2) and paragraph (o) of class 12 of Schedule II to the Regulations, is depreciable capital property. Also, paragraph 10 of IT-283R2 provides that computer software with an enduring nature would be capital property rather than expenditure of a current nature. In this case, the computer software has an estimated useful life of three years.
October 3, 2001
Headquarters Headquarters
SR & ED Directorate Income Tax Rulings
Directorate
Attn: Kevin Gibson F. B. Fontaine
Financial Legislative Applications Section 957-4364
2001-009260
Payments for Use of Computer Software and Related Services
This is in reply to your electronic mail transmission of July 13, 2001 in respect of the above-captioned subject.
The following is a summary of our understanding of the situation, based on telephone conversations (Fontaine/Gibson of Headquarters and Ken Long of the Burnaby Fraser Tax Services Office (the "TSO")).
1. A taxpayer has acquired a license to use computer software for a period of 3 years. The particular agreement indicates that the license does not constitute a sale of the software and the licensor retains title to, and ownership of, all proprietary rights to the software. At the expiration of the license period, there is no buy-out provision and any extension of another period or purchase of a new license would entail new terms and conditions which must be negotiated separately.
2. Under the terms of the agreement, the taxpayer is also required to pay certain costs for technical support and other products ("support services") provided by the licensor. Such support services consist of error correction and telephone support concerning the installation and use of the most current release of software and, product updates which consist of one copy of published revisions to the printed documentation and one copy of revisions to the software product itself. The taxpayer may not acquire the license to use the software without undertaking to pay the support services costs.
3. The taxpayer is obligated, under the agreement, to pay a guaranteed sum for the software, payable annually over the 3-year period of the agreement. With regard to the support services, the taxpayer is also required to make guaranteed monthly payments over the particular period.
4. The TSO is satisfied that the property is computer software, rather than systems software, that is used as a tool to design the electrical circuitry of computer chips and to program computer chips within the range of a certain size and speed. In some cases, the taxpayer either acquires software outright and, in other cases because of obsolescence, the taxpayer acquires software under license for a fixed period.
5. The taxpayer uses the proxy method in calculating its scientific research and experimental development expenditures (SR&ED). It is your view that under this method:
(a) both the payments for the software as well as for the support services would be allowable SR&ED expenditure, attributable to a lease, under subclause 37(8)(a)(ii)(B)(I) of the Income Tax Act (the "Act"), and
(b) in the case where the software is used "primarily" for SR&ED purposes, one-half of the payments for the software and the support services would be allowable SR&ED expenditure of a current nature, in respect of a lease, under subclause 37(8)(a)(ii)(B)(VI) of the Act.
As indicated in paragraph 14 of IT-151R5, subsection 37(4) of the Act would not deny the deduction for expenditures, for the purposes of subsection 37(1) of the Act, made to acquire capital property that is merely a tool used to support the taxpayer's SR&ED efforts. Where the property is so used, we agree that the expenditure in respect thereof would be incurred on SR&ED. Similarly, it is our opinion that related support services costs, other than installation costs of the software and annual upgrade fees, (see paragraph (3) below), would be considered SR&ED expenditures of a current nature.
(2) An expenditure for the acquisition of a license to use computer software would not, for the purposes of the Act, be considered "an expenditure of a current nature for.....the lease of.... equipment". Based on paragraph 10 of IT-283R2 and the definition of "computer software" in subsection 1104(2) of the Income Tax Regulations (the "Regulations"), "a license to use computer software" of an enduring nature (especially with a useful life of three years) would be depreciable capital property that would otherwise be included in class 12 of Schedule II to the Regulations. Accordingly, such capital property used in SR&ED under the proxy method would properly be described under subclause 37(8)(a)(ii)(B)(III) of the Act and would be deductible under subparagraph 37(1)(b)(i); while any related support services costs may be described under subclause 37(8)(a)(ii)(B)(II) of the Act and may be deductible under subparagraph 37(1)(a)(i) of the Act.
(3) It is our view that the expenditure payable in respect of the license to use the computer software would represent the capital cost of the property which would be the total legal obligation to pay the guaranteed amount (albeit over the asset's life) for the property acquired, namely, "a license to use computer software" for a period of 3 years. However, based on paragraph 8 of IT-285R2 which states that the "capital cost of property generally means the full cost to the taxpayer of acquiring the property and includes legal...or other fees incurred to acquire the property.....", it is also our view that any payment for installation of the property and annual upgrades which provide additional features and enhancement to the computer software should be included in the capital cost of the property. Accordingly, such installation and upgrade expenditures would not be considered current expenditures.
(4) Although both current and capital SR&ED expenditures may be deductible under subsection 37(1) and qualify for the investment tax credit under subsection 127(9) of the Act, proper classification of an expenditure is necessary because of other provisions of the Act, such as subsection 37(6) which provides for a recapture in respect of property that otherwise would be depreciable property, as discussed under paragraph 29 of IT-151R5.
We trust our comments will be of assistance.
for Director
Business and Partnership Division
Income Tax Rulings Directorate
Policy and Legislation Branch
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