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: Section 125.1 - Manufacturing and Processing Profits Research and Development of Customized Computer Software
This is in reply to your letter of October 5, 1990 wherein you requested our comments as to whether research and development of customized software which is sold to clients would be considered a qualified activity for purposes of section 125.1 of the Income Tax Act (the Act).
You describe the type of situation where a computer software firm researches, develops and subsequently sells customized software to its clients. The activities involved would be the labour cost and the use of computers in developing the software which is then compiled and transcribed on disks that are then sold to the customers.
The issue of whether the development of computer programs qualifies as manufacturing and processing for purposes of section 125.1 of the Act has been judicially considered. In the case B.B.G.P. Inc. v. M.N.R., 87 DTC 108, the taxpayer was in the business of designing, developing and implementing computerized accounting systems on a custom basis. The taxpayer submitted that it manufactured computer systems for customers and that after a particular system had been manufactured, it was sold to the customer. Although the taxpayer relied on the last sentence in paragraph 40 of IT-145R, the court decided that the process of designing and developing a system is not a manufacturing stage. Once the system is developed, its manufacture can begin and it can be received by way of tangible property: computer cards, tapes or disks. In other words, only once the product has been created, can it be transformed into a tangible property and its manufacture begin.
The activities being referred to in the last sentence in paragraph 40 of IT-145R are those that take place subsequent to the developing of the software and relate to any additional preparation required to enter information onto a tangible medium (such as a blank computer disk or tape) or to verifying that information. This position is consistent with the decision in the court case B.B.G.P. Inc. outlined above. In order for the computer tapes or disks, with information transferred to them, to be considered goods for sale, they would either have to be sold as finished products to the general public or sold to a purchaser who entered into a contract for the sale of a good rather than a contract for the supply of a service (labour, skill and materials).
We trust our comments will be of assistance to you.
Yours truly,
for DirectorBusiness and General DivisionRulings DirectorateLegislative and Intergovernmental Affairs Branch
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