25 January 1990 Ministerial Letter 58838 F - Scientific Research and Experimental Development not a Business of the Taxpayer

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.

Dear Sirs:

Re:  Interpretation of paragraph 37(7)(e) of the Income Tax Act (the "Act")

We are writing in reply to your letter of October 10, 1989 concerning the interpretation of paragraph 37(7)(e) of the Act.

In your letter you outline a hypothetical situation in which a corporation has carried on a business other than the prosecution of scientific research and experimental development ("SR&ED"). The corporation discontinues its previous business and amends its articles of incorporation to provide-that it is restricted to carrying on a business consisting of the prosecution of SR&ED.

You requested our comments related to the following questions:

1.     If the corporation commences to carry on the business of SR&ED in its fiscal year ("Year B") following the taxation year during which it ceased to carry on its prior business ("Year A"), and all or substantially all of the corporation's revenue is derived from the prosecution of SR&ED in Year B, will the prosecution of SR&ED be considered to be a business of the corporation to which SR&ED is related in Year B.

2.     If the corporation commences to carry on the business of SR&ED on a date in Year A after the time at which it had ceased to carry on its prior business and all or substantially all of its revenue during remainder of Year A is derived from the prosecution of SR&ED, will the prosecution of SR&ED be considered to be a business of the corporation to which SR&ED is related in Year A.

3.     Given the following facts:

a)        During a taxation year, the board of directors passes a resolution that certain cash amounts will be used for the prosecution of SR&ED.

b)        The cash is invested on a short term basis until it is actually used.

c)        All of the cash is eventually used for SR&ED during the year.

d)        The interest income received by the corporation in the taxation year from the investment of the funds exceeds the other revenue of the corporation in the year.

e)        All or substantially all of the non-interest income of the corporation for the year is derived from the prosecution of SR&ED.

     Will the interest income received be regarded as being revenue from the prosecution of SR&ED and thus not prevent the prosecution of SR&ED from being a business of the corporation to which SR&ED is related.

Our Comments

Our comments related to the above questions are as follows:

1.     Generally, the fact that the taxpayer operated a different business in a prior taxation year will not by itself influence the determination of whether the taxpayer derives all or substantially all of its revenue from the prosecution of SR&ED in the current year for purposes of paragraph 37(7)(e) of the Act.  Where the taxpayer can show that all or substantially all (90% or more) of its revenue in the current year is from the prosecution of SR & ED, the prosecution of SR&ED would generally be considered to be a business of the taxpayer to which SR&ED is related.

2.     Paragraph 37(7)(e) of the Act requires that a taxpayer derive all or substantially all of its revenue from the prosecution of SR&ED in order for SR&ED to be considered to be a business of the taxpayer.  The Department has previously stated that "all or substantially all" means 90 percent or more, however, the Department will consider not only the particular taxation year but also the pattern established over a number of taxation years and in the case of a start-up company, the manner in which the taxpayer is proposing to derive its revenue.  As it is a question of fact whether a taxpayer derives all or substantially all of its revenue from the prosecution of SR&ED, all facts will be considered, however, in our opinion, the operation of a different business earlier in the taxation year is likely to adversely affect the determination.

3.     The wording of paragraph 37(7)(e) of the Act indicates that the prosecution of SR&ED would not be related to the business of SR&ED where a company earns more than 10% of its income from interest. However, where a corporation earns incidental interest income, it is the Department's policy that the receipt of interest derived from the temporary investment of surplus funds which are subsequently used in SR&ED will not by itself result in the taxpayer failing to satisfy the all or substantially all of revenue test.  In determining whether the taxpayer derives all or substantially all of its revenue from the prosecution of SR&ED, the Department has administratively adopted the position of looking to the manner in which the taxpayer is proposing to derive its revenue, as well as the reasonableness and attainability of its proposed revenue source. Where it can be shown that the interest income is only incidental to the SR&ED business and that the relevant facts indicate that over a period of years a taxpayer's revenue is anticipated to be all or substantially all from the prosecution of SR&ED, the Department will generally consider the prosecution of SR&ED to be a business of the taxpayer to which SR&ED is related.

I trust these comments will be of assistance to you.

for DirectorBusiness and General DivisionSpecialty Rulings DirectorateLegislative and Intergovernmental Affairs Branch