14 August 1990 External T.I. 59240 F - Scientific Research

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.

Attention: 19(1)

August 14, 1990

Dear Sirs:

Re: Subsection 37(2) of the Income Tax Act (the "Act")

We are writing in response to your letter of December 7, 1989 in which you requested our opinion regarding the meaning of the phrase "directly undertaken by or on behalf of the taxpayer" as found in paragraph 37(2)(a) of the Act.  You queried whether the Department's interpretation of the phrase "entitled to exploit the results of such scientific research and experimental development ("SR&ED")" as found in paragraph 37(2)(b) would apply to the phrase in question in paragraph (a).

You also queried whether the Department's Advance Ruling TR-47 published on January 10, 1977 still expresses the Department's interpretation of paragraph 37(2)(a) of the Act and whether that interpretation would apply to the following hypothetical example so as to exclude the payments by the Canadian corporation from Part XIII of the Act:

     A Canadian corporation pays 100% of the expenses of an SR&ED project conducted by a U.S. corporation.  In consideration therefore, the Canadian corporation will receive a limited right to resultant know-how in order to permit it to manufacture and market any resultant product of the SR&ED.

Our Comments

Confirmation of the tax consequences of proposed transactions is only provided in response to a request for an advance income tax ruling, as described in our Information Circular 70-6R dated December 18, 1978.  Although we are unable to provide any binding confirmation in response to your request, we have stated below some general comments.

The phrase "entitled to exploit the results of such SR& ED" refers to the right of a person to make use of the SR&ED results.  This is a prerequisite that was added with respect to "payments" in order for the payor to be entitled to claim the payments as SR&ED expenditures, since it is feasible to make payments to another person to do research and yet not obtain any rights as a result of such payments.  This phrase is not used in conjunction with SR&ED "directly undertaken by or on behalf of the taxpayer" perhaps because it is implicit that a person doing research has the right to use the results of the SR&ED (unless the researcher is performing the research ON BEHALF OF another person).

The phrase "directly undertaken by or on behalf of the taxpayer" in paragraph 37(2)(a) covers two situations.  The first is that of SR&ED "directly undertaken BY the taxpayer" and is self-explanatory.  The second is that of SR&ED "directly undertaken on behalf of the taxpayer" and this concerns an agency type of relationship between the taxpayer and the SR&ED performer.  If an arrangement between a taxpayer and a research organization does not provide the taxpayer with rights to the SR&ED results, such would not constitute SR&ED undertaken on behalf of the taxpayer.

With regard to our published advance income tax rulings, you are no doubt familiar that a new series was commenced in November 1985 because the former series was generally out-dated.  As a general statement, the rulings published in the former series should not be relied upon.  In TR-47, the general point under consideration was whether Part XIII of the Act would apply to payments by a person resident in Canada to a non-resident where those payments represented the Canadian resident's obligations under a research project carried out jointly by the Canadian resident and the non-resident.  It remains our view that, where parties are jointly carrying on research, each party is considered to be carrying on the research in a manner which would fit within the description of SR&ED "directly undertaken by or on behalf of the taxpayer."  Accordingly, a Canadian resident's payments to a non-resident to reimburse the non-resident for costs incurred on behalf of the Canadian resident would not be subject to Part XIII of the Act.  Specifically, paragraph 212(1)(d) of the Act would not apply where the payments are for research to be performed.

The facts of your example are considerably different from those described in TR-47.  In TR-47, the two parties were jointly carrying on research; whereas in your example, the Canadian corporation is paying 100% of the costs, so the project is apparently not a joint project.  Furthermore, the Canadian corporation is not receiving 100% of the resultant benefits, so it is apparent that the non-resident is not conducting the research solely on behalf of the Canadian corporation, and some portion of the payments may represent something other than payments for research.  Thus, rather than fitting within paragraph 37(2)(a), it is apparent that the payor in your example would have to rely on paragraph 37(2)(b).  That being so, the payments would not qualify unless they were paid to "an approved association, university, college, research institute or other similar institution."

Our comments in this letter represent our general views with respect to the subject matter of your letter.  The facts of a particular situation may lead to a different conclusion.  For instance, it could be that all of the payments are for the acquisition of rights arising out of SR&ED, in which case the payments would, except as provided for by the Canada-U.S. Tax Convention, be subject to the application of subparagraph 212(1)(d)(i) of the Act.  Where the recipient is carrying on business solely in the United States, Article VII of the Convention would not necessarily exempt the payments from tax under section 212 of the Act, since section 6 of Article VII notes that one must also consider other Articles in the Convention.  For bona fide cost sharing arrangements, reference can be made to paragraphs 29 to 32 of our Interpretation Bulletin IT-303.

Our comments in this letter are not rulings and, in accordance with the guidelines set out in Information Circular 70-6R dated December 18, 1978, are not binding on the Department.

Yours truly,

for DirectorBusiness and General DivisionRulings DirectorateLegislative and Intergovernmental Affairs Branch