18 June 2007 External T.I. 2007-0226411E5 - Reduction in qualified expenditures under 127(18)

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.

Principal Issues: Whether a Crown Corporation would be required to reduce its otherwise eligible SR&ED expenses by virtue of Subsection 127(18) for the government funding.

Position: Question of fact.

Reasons: It would be a question of fact to be determined with reference to the circumstances, agreements, etc., relevant to a particular situation. The funding process information provided would probably not be the only factor considered in making a determination.

2007-022641
XXXXXXXXXX Charles Rafuse
613-957-8967
June 18, 2007

Dear XXXXXXXXXX:

Re: Subsection 127(18)

This is in reply to letter of March 6, 2007, concerning the application of subsection 127(18) of the Income Tax Act (the "Act").

You described a situation where a Crown Corporation (CC) receives government funding to finance its capital projects. You indicate that the capital projects are described at a high level, during the funding approval process, such that there is no specific disclosure of anticipated scientific research and experimental development (SR&ED) expenditures. In addition, you explain that CC receives the government funding regardless of whether it performs SR&ED and that CC performs SR&ED at its sole discretion.

At issue is whether CC would be required to reduce its otherwise eligible SR&ED expenditures by virtue of subsection 127(18) for a portion of the government assistance on the basis that a portion of the assistance "can reasonably be considered to be in respect of" SR&ED. Your question is whether, in order for subsection 127(18) to apply to an amount of assistance, the assistance must be specifically identified for SR&ED and be designated by the payer for SR&ED at the time of providing the assistance.

Our Comments

Written confirmation of the tax implications inherent in particular transactions is given by this Directorate only where the transactions are proposed and are the subject matter of an advance income tax ruling request submitted in the manner set out in Information Circular 70-6R5, Advance Income Tax Rulings, dated May 17, 2002. Where the particular transactions are completed, the inquiry should be addressed to the relevant Tax Services Office. However, we are prepared to offer the following general comments.

Subsection 127(18) of the Act provides as follows:

Where on or before the filing-due date for a taxation year of a person or partnership (referred to in this subsection as the "taxpayer") the taxpayer has received, is entitled to receive or can reasonably be expected to receive a particular amount that is government assistance, non-government assistance or a contract payment that can reasonably be considered to be in respect of scientific research and experimental development, the amount by which the particular amount exceeds all amounts applied for preceding taxation years under this subsection or subsection (19) or (20) in respect of the particular amount shall be applied to reduce the taxpayer's qualified expenditures otherwise incurred in the year that can reasonably be considered to be in respect of the scientific research and experimental development.

Subsection 127(18) of the Act applies to reduce qualified expenditures where the government assistance, non-government assistance or contract payment "can reasonably be considered to be in respect of" SR&ED. In our view, the application of subsection 127(18) in respect of an amount of assistance is not limited only to situations where the assistance is specifically identified for SR&ED and is designated for SR&ED by the payor at the time of providing the assistance.

Whether an amount "can reasonably be considered to be in respect of" SR&ED in a particular situation is a question of fact to be determined with reference to the circumstances, agreements, etc., relevant to the particular situation. The Canada Revenue Agency would generally make this determination when the SR&ED staff at the local Tax Services Office reviews a taxpayer's SR&ED claim.

We would anticipate that factors used in determining whether an amount of government assistance "can reasonably be considered to be in respect of" SR&ED would not be limited to the use of a particular capital funding approval procedure but would include any other factor identified to be relevant. For example, where a taxpayer submitted reports to the government indicating the level of SR&ED activities in a previous year we would expect that this information would be a consideration of a subsequent year's capital funding and may result in a portion of such government funding as reasonably being considered to be in respect of SR&ED for purposes of subsection 127(18). Also, in the case where there will be substantial SR&ED performed by a taxpayer, unless it can be established from the documentation and other relevant information that the government assistance was provided solely in respect of other non-SR&ED activities, we tend to think that a portion of the assistance could reasonably be considered to be in respect of SR&ED for purposes of subsection 127(18).

We trust this information is helpful.

Yours truly,

S. Parnanzone
For Director
Business and Partnerships Division
Income Tax Rulings Directorate
Legislative Policy and Regulatory Affairs Branch