Eligibility of Work for SR&ED Investment Tax Credits Policy

Date: December 19, 2012

The current version of the policy is available below.

April 24, 2015 Eligibility of Work for SR&ED Investment Tax Credits Policy

Table of contents

• 1 What is SR&ED?
  • 1.1 How SR&ED is carried out
  • 1.2 Why SR&ED is carried out
    • 1.2.1 Basic research
    • 1.2.2 Applied research
    • 1.2.3 Experimental development
• 2 Methodology to determine if work meets the definition of SR&ED
  • 2.1 Step 1: Determine if there is SR&ED
    • 2.1.1 Was there a scientific or a technological uncertainty—an uncertainty that could not be removed by standard practice?
    • 2.1.2 Did the effort involve formulating hypotheses specifically aimed at reducing or eliminating that uncertainty?
    • 2.1.3 Was the adopted procedure consistent with the total discipline of the scientific method, including formulating, testing, and modifying the hypotheses?
    • 2.1.4 Did the process result in a scientific or a technological advancement?
    • 2.1.5 Was a record of the hypotheses tested and the results kept as the work progressed?
  • 2.2 Step 2: Determine the extent of eligible work
    • 2.2.1 Support work
    • 2.2.2 Excluded work
• 3 SR&ED project
  • 3.1 Characteristics of an SR&ED project
  • 3.2 Company project versus SR&ED project
  • 3.3 Duration of an SR&ED project
• 4 SR&ED in a production or manufacturing environment

1 What is SR&ED?

Scientific Research and Experimental Development (SR&ED) is defined for income tax purposes in subsection 248(1) of the Income Tax Act (ITA) as follows:

“ʽscientific research and experimental developmentʼ means systematic investigation or search that is carried out in a field of science or technology by means of experiment or analysis and that is

(a) basic research, namely, work undertaken for the advancement of scientific knowledge without a specific practical application in view,

(b) applied research, namely, work undertaken for the advancement of scientific knowledge with a specific practical application in view, or

(c) experimental development, namely, work undertaken for the purpose of achieving technological advancement for the purpose of creating new, or improving existing, materials, devices, products or processes, including incremental improvements thereto,

and, in applying this definition in respect of a taxpayer, includes

(d) work undertaken by or on behalf of the taxpayer with respect to engineering, design, operations research, mathematical analysis, computer programming, data collection, testing or psychological research, where the work is commensurate with the needs, and directly in support, of work described in paragraph (a), (b), or (c) that is undertaken in Canada by or on behalf of the taxpayer,

but does not include work with respect to

(e) market research or sales promotion,

(f) quality control or routine testing of materials, devices, products or processes,

(g) research in the social sciences or the humanities,

(h) prospecting, exploring or drilling for, or producing, minerals, petroleum or natural gas,

(i) the commercial production of a new or improved material, device or product or the commercial use of a new or improved process,

(j) style changes, or

(k) routine data collection;”

What is generally understood to be “research and development”, or “R&D”, is not necessarily “SR&ED”. SR&ED is carried out in a certain way and for specific reasons. The definition of SR&ED describes how (section 1.1 below) and why (section 1.2 below) SR&ED work is carried out.

Note: “Eligible” and “ineligible” (including the forms “eligibility” and “ineligibility”) are widely used in the SR&ED program, although the ITA does not define these terms. For this document, “eligible” or “ineligible”, without any other qualifier, means work that meets or does not meet the definition of SR&ED in subsection 248(1) of the ITA. In addition, “uncertainty” and “advancement” without any other qualifiers refer to “scientific or technological uncertainty” and “scientific or technological advancement” respectively.

1.1 How SR&ED is carried out

The definition of SR&ED describes how SR&ED is performed—a “systematic investigation or search that is carried out in a field of science or technology by means of experiment or analysis.”

Most work, especially research and development, is carried out systematically. It follows known design methods, techniques, procedures, protocols, standards, and other practices. Also, in many situations, problems are solved by following established procedures and standards. However, the systematic investigation or search called for in the definition of SR&ED is an approach that includes defining a problem, advancing a hypothesis towards resolving that problem, planning and testing the hypothesis by experiment or analysis, and developing logical conclusions based on the results. In this document, this approach to performing SR&ED is referred to as the scientific method.

The term “scientific method” is not intended to discourage engineering or other development work from being claimed. Such work, however, must follow the essence of the scientific method set out in this document. For example, in an industrial context, “possible solution to the problem” may be referred to as a “hypothesis”, and “building and testing of a prototype” may be considered as part of the “experiment or analysis.”

How the work is carried out is only one aspect of whether it is SR&ED. Before it can be determined that work is SR&ED, consideration must also be given to why the work was carried out.

1.2 Why SR&ED is carried out

The definition of SR&ED also describes why SR&ED is undertaken—for the advancement of scientific knowledge, or for the purpose of achieving technological advancement aimed at creating new, or improving existing, materials, devices, products, or processes including incremental improvements.

The systematic investigation or search carried out in a field of science or technology by means of experiment or analysis must be seeking scientific or technological advancement.

Work for the advancement of scientific knowledge or for the purpose of technological advancement implies an attempt to resolve what is called scientific uncertainty or technological uncertainty. Basically, the advancement is the targeted outcome of the SR&ED work while the uncertainty is the impetus for the SR&ED work. Therefore, an attempt to achieve advancement is an attempt to resolve uncertainty.

So, even if work appears to have been carried out as described in section 1.1, for it to be SR&ED, it must also have been carried out to resolve scientific or technological uncertainty (to achieve scientific or technological advancement).

Depending on the purpose of the work, SR&ED can involve:

• basic research
• applied research
• experimental development

1.2.1 Basic research

Basic research is work undertaken for the advancement of scientific knowledge without a specific practical application in view. It is usually carried out in a laboratory setting. Claims involving basic research sometimes include third-party payments to, for example, universities, research institutes, and consortia. The results of basic research are usually published in scientific journals.

One example of basic research is research in the field of elementary particles. This work had its origin as a hypothesis in theoretical physics or scientific models of the structure of matter. Originally there was no physical evidence that the hypothetical particles existed, let alone that there could be a practical value to them. At some point, experiments were devised and performed that demonstrated that these particles existed, and measured their properties (mass and charge). The electron was one of these discoveries.

1.2.2 Applied research

Applied research is also work undertaken for the advancement of scientific knowledge, but with a specific practical application in view. Like basic research, the results could be published in scientific journals.

The discovery of the principle of the transistor, that is, the ability to control the conductivity of a semiconductor, can be considered an example of applied research. A private company did this particular work. Its research objective was to gain knowledge of the properties of semiconductors, particularly how electrons (one type of elementary particles that was discovered as a result of the basic research noted above) behaved in them. The company clearly hoped to develop a practical application (a semiconductor amplifier) based on the scientific knowledge gained although at this point no device or product had been made.

1.2.3 Experimental development

Experimental development is work undertaken for the purpose of achieving technological advancement for the purpose of creating new, or improving existing, materials, devices, products, or processes, including incremental improvements.

One example of experimental development is the work that came about from the discovery of the principle of the transistor. It resulted in the development of devices that used this principle to create solid-state amplifiers and other devices. The development of technology to make devices and eventually products using this discovery was done through experimental development. The applied research was rapidly followed by the development of working prototypes and eventually by practical techniques to make a new product—the transistor. Developing a transistor after discovering the principle of the transistor did not advance scientific knowledge. It did, however, advance technology (the practical application of scientific knowledge and principles).

2 Methodology to determine if work meets the definition of SR&ED

The following 2-step approach can be used to determine if and to what extent work meets the definition of SR&ED:

Step 1: Determine if there is SR&ED

Step 2: Determine the extent of eligible work

2.1 Step 1: Determine if there is SR&ED

Determining if there is SR&ED means showing that there is a:

“systematic investigation or search that is carried out in a field of science or technology by means of experiment or analysis and that is

(a) basic research, namely, work undertaken for the advancement of scientific knowledge without a specific practical application in view,

(b) applied research, namely, work undertaken for the advancement of scientific knowledge with a specific practical application in view, or

(c) experimental development, namely, work undertaken for the purpose of achieving technological advancement for the purpose of creating new, or improving existing, materials, devices, products or processes, including incremental improvements thereto,”

The approach to establish this involves answering the following five questions:

1. Was there a scientific or a technological uncertainty—an uncertainty that could not be removed by standard practice?
2. Did the effort involve formulating hypotheses specifically aimed at reducing or eliminating that uncertainty?
3. Was the adopted procedure consistent with the total discipline of the scientific method, including formulating, testing, and modifying the hypotheses?
4. Did the process result in a scientific or a technological advancement?
5. Was a record of the hypotheses tested and the results kept as the work progressed?

These questions follow the progression of SR&ED work from identifying the uncertainty, through carrying out the work for its resolution, to the resulting advancement. Following the progression of the work is a logical approach to assessing whether SR&ED has taken place.

There is SR&ED if the answer to all of the above questions is yes.

The technological uncertainties encountered by one company may well be looked upon as facts easily gathered by another. With respect to the five preceding questions, consideration must be given to the technology base or level and the business environment of the individual company. Business environment characteristics include business size, competition, area of industry, and access to technical resources. However, it is expected that any company making a claim for SR&ED will have or will access the expertise necessary to carry out that work.

In 1986, Revenue Canada described three criteria that had to be satisfied for work to be considered SR&ED:

• the criterion of scientific or technological advancement;
• the criterion of scientific or technological uncertainty; and
• the criterion of scientific and technical content.

The approach described in this document, established by the courts, is based on the three criteria and supplements their application by providing a logical order for their assessment. The relationship between these five questions and the three criteria is easily established—question 1 relates to the criterion of scientific or technological uncertainty; question 4 relates to the criterion of scientific or technological advancement; and questions 2, 3, and 5 relate to information that was originally considered under the criterion of scientific and technical content.

Both approaches (the three criteria and the five questions above) are equivalent and acceptable and will provide the same eligibility assessment of the work.

The following sections provide additional details to the five questions in order to determine if there is SR&ED.

2.1.1 Was there a scientific or a technological uncertainty—an uncertainty that could not be removed by standard practice?

Scientific or technological uncertainty means whether a given result or objective can be achieved or how to achieve it, is not known or determined on the basis of generally available scientific or technological knowledge or experience. Specifically, it is uncertain if the goals can be achieved at all or what alternatives (for example, paths, routes, approaches, equipment configurations, system architectures, or circuit techniques) will enable the goals to be met based on the existing technology base or level. There is scientific uncertainty in basic research or applied research. There is technological uncertainty in experimental development. Recognition of the uncertainty is an integral step in the systematic investigation or search and implies recognition of the need for advancement.

Technological uncertainties may arise from shortcomings or limitations of the current state of technology that prevent a new or improved capability from being developed. In other words, the current state of technology may be insufficient to resolve a problem.

Whenever a problem is identified in creating new or improving existing materials, devices, products, or processes, there may be some doubt concerning the way in which it will be solved. This doubt can arise from a technical problem or from a technological uncertainty, so it is important to make a clear distinction between the two. A technical problem is resolved by applying practices, techniques, or methodologies that are known by the company or available in the public domain. In other words, the existing technology base or level is sufficient to resolve technical problems. Overcoming a technical problem will not lead to a technological advancement, although it may lead to the creation of a new or improved product or process. On the other hand, a technological uncertainty cannot be resolved using the existing technology base or level and requires experimental development to resolve the problem.

It is important to be able to differentiate experimental development to resolve a technological uncertainty from the use of known tools and techniques to solve a technical problem. To this end, it is helpful to describe the work leading up to the identification of the uncertainty faced. This will help establish (a) why the uncertainty faced could not be resolved on the basis of generally available scientific or technological knowledge or experience and (b) the technology base or level of the company.

Sometimes there is little doubt that a product or process can be developed when cost targets are no barrier. In commercial reality, however, a reasonable cost target is always an objective. Although such cost targets on their own do not create scientific or technological uncertainty, trying to meet them might. For example, cost targets may require that technologically uncertain paths be attempted, although more costly and proven alternatives exist. A technological uncertainty may thus arise that is imposed by economic considerations. Hence the existence of a costly technologically certain alternative does not negate the possibility that SR&ED work was performed.

Doubt about the business or commercial success of the material, device, product, or process being developed is not a scientific or technological uncertainty.

Furthermore, complexity does not necessarily mean the existence of technological uncertainty. The size and complexity of a project by itself does not justify that the work performed in that project falls within the definition of SR&ED. Likewise, the fact that a large and complex system was developed cannot support the inference that an uncertainty existed. However, a form of technological uncertainty called system uncertainty can arise from or during the integration of technologies, the components of which are generally well known. This is due to unpredictable interactions between the individual components or sub-systems. It may be difficult or impossible to predict how the integrated system will perform due to unforeseeable adverse interactions. The uncertainty here is not in the individual modules or components, but in the modules or components acting as an integrated system. The attempt to resolve these uncertainties by a systematic investigation or search can lead to technological advancement.

By its nature, system uncertainty requires that the technological specifications or objectives are such that the basic design of the underlying technologies has to be changed to achieve integration. It is important to be able to distinguish between the work that is done to change the basic design of the underlying technology and the work that does not require the underlying technology to be changed.

There is a difference between experimental development work and development work based on standard practice in established fields of engineering or technology.

Standard practice is the application of techniques, procedures and data that are generally accessible to competent professionals in the field. In terms of development work, standard practice refers to directly adapting a known engineering or technological practice to a new situation when it is reasonably certain that the known technology or practice will achieve the desired objective of the project. Under these circumstances, there is no technological uncertainty. Also, although development usually involves carrying out work in a systematic manner, what sets SR&ED apart is adopting the scientific method to reduce or resolve technological uncertainty. Development by standard practice is therefore not SR&ED. However, departing from standard practice does not necessarily mean the work is SR&ED. The work must also meet the definition of SR&ED in the ITA. So even though work can be scientific or technological in nature, it may not necessarily be SR&ED.

In terms of SR&ED work, some elements of work may involve standard practice (for example, running an analytical test which follows standard protocols). When those elements of work are used to support SR&ED work, they may be eligible.

Trouble-shooting is routinely correcting equipment, software, or processes by identifying technical problems. The goals may be to resolve software problems, optimize a process both technically and economically, adjust equipment performance, evaluate it during breakdowns, improve working conditions, minimize production losses, or control the generation and/or disposal of waste. Trouble-shooting sometimes brings out the need for SR&ED, but more often it involves detecting faults in equipment or processes and results in changes to standard equipment and/or processes without seeking to resolve uncertainties in the underlying science or technology. This type of detection and modification, on its own, is not SR&ED, even though it is carried out systematically, because it does not seek to resolve scientific or technological uncertainty. On the other hand, trouble-shooting may be needed when SR&ED is carried out, in which case it could be part of the eligible work for the associated SR&ED project.

2.1.2 Did the effort involve formulating hypotheses specifically aimed at reducing or eliminating that uncertainty?

Formulating a hypothesis designed to resolve the scientific or technological uncertainty is an essential step and requires observing and understanding the subject matter of the problem. Here, “hypothesis” means an idea, consistent with known facts, that serves as a starting point for further investigation to prove or disprove that idea.

2.1.3 Was the adopted procedure consistent with the total discipline of the scientific method, including formulating, testing, and modifying the hypotheses?

In SR&ED, it is expected that a planned approach is formulated; that is:

• formulating one or more hypotheses designed to reduce or eliminate the uncertainties;
• planning and executing the testing of the hypotheses by experiment or analysis (may include work on the evolution of prototypes or models); and
• developing logical conclusions based on the results or findings of the experiment or analysis.

This means that the objectives of the SR&ED work, as well as the indicators and measures to be used to determine if those objectives have been met, must be clearly stated at an early stage in the work’s evolution. In addition, the method of experimentation or analysis by which the scientific or technological uncertainties are to be addressed must be clearly set out. Finally, the results of the SR&ED efforts that follow have to be properly identified. Often, this is an iterative process as new uncertainties are recognized and new or modified hypotheses are developed and tested based on the results of the prior iteration.

Experimentation and analysis are approaches used to investigate hypotheses. Experimentation involves structured and organized tests and studies to obtain information in order to address the hypotheses. Experimenting involves not only testing and analyzing but also exploring the relationships between tests, explaining the results as they relate to the hypothesis, drawing conclusions, proposing a new hypothesis, or conducting additional tests. Such experimentation can include work on the evolution of prototypes or models.

Analysis is the detailed examination of information to differentiate the various parts of a whole, determine their attributes, or explain their relationships. It is performed against the background of available knowledge and experience and it involves using tools such as models, graphs, statistics, tables, diagrams, mathematical formulas, and computer programs to express this knowledge or experience. Analysis is an integral part of the scientific method and it can be used to generate or test a hypothesis.

It is expected that the work will be performed or directed by qualified individuals who are knowledgeable in the field and have relevant experience in science, technology, or engineering. Note that qualification is not necessarily limited to formal training, but includes skills and knowledge gained through experience.

The need for a systematic investigation does not preclude ideas that result from intuitive processes. Intuitive creativity can give rise to ideas without evident, ordered, rational thought or inference. These ideas can lead to hypotheses for testing that are part of experimental development.

Sometimes problems are solved by trial and error. Trial and error involves executing a series of tests in no particular order and not part of a systematic plan. The objective in such a case is to resolve a functional problem (that is, a problem in how something operates or works) rather than to address a problem in the underlying technology that may have caused this functional problem. The lesson learned in each attempt of trial and error is simply that “an option did not work.” There is no further analysis of the reason why it did not work to make the lesson applicable in a broader sense. The test conditions that are judged to be the most effective in resolving the immediate problem are chosen for the next attempt. The process simply moves from attempt to attempt without trying to understand or address the problem associated with the underlying technology. Solving problems by trial and error is not experiment or analysis within the framework of a systematic investigation or search.

2.1.4 Did the process result in a scientific or a technological advancement?

Scientific or technological advancement is the generation of information or the discovery of knowledge that advances the understanding of scientific relations or technology. One implication of advancement is that the new knowledge is applicable in a broader sense. That is, the new knowledge could be useful to other situations or circumstances beyond the current project in which the advance was made.

The rejection of a hypothesis is advancement because it eliminates a possible solution. By showing why a possible solution will not succeed or will not meet the desired objectives, advancement in science or technology is still possible. In some instances, the project's objectives might not have been achieved but, in the process, SR&ED was carried out to understand the reasons for the failure. Hence, scientific or technological advancement can be achieved even if the project’s objectives are not met.

In experimental development, the work is carried out for the purpose of achieving technological advancement that, in turn, is for the purpose of creating new, or improving existing, materials, devices, products, or processes. This means that when a new or improved material, device, product, or process is created as a result of SR&ED, it must embody a technological advancement. Hence, the advances in technology that are being sought should be distinguishable from the benefits of the new or improved material, device, product, or process. Technological advancement moves the technology base or level of a company to a higher level through an increase in the understanding of technology. In other words, it is a discovery or gain in understanding of technological principles, techniques, and concepts beyond the existing technology base or level.

The creation of new, or improvement of existing, materials, devices, products, or processes can be achieved without technological advancement. Also, novelty, innovation, uniqueness, feature enhancement, or increased functionality alone does not represent or establish technological advancement. Instead, it is how these attributes or features arise (that is, whether or not they arise through technological advancement) that is important.

The success, failure, marketability, or commercial significance of work is not relevant to its eligibility.

Process optimization and cost reduction are examples of process development efforts with the objectives of improved efficiencies, better output quality, or financial or strategic advantages. These developments are represented, for example, by the functions of industrial engineering, time and motion analysis, methods engineering, value analysis and engineering, and tool and machine design. When standard practice in these fields is used in any situation that requires an improvement, a trend toward optimal conditions will usually result. Competent management of a commercial operation usually reflects the skills and knowledge necessary for greater efficiency, and lowers the unit costs of production. If such process optimization efforts do not face and address one or more clearly articulated technological uncertainties, then they are not experimental development.

2.1.5 Was a record of the hypotheses tested and the results kept as the work progressed?

It is expected that the work be documented, clearly showing why each major element is required and how each fits into the project as a whole. It is also expected that the indicators or measures that will be used to determine if the goals of the work are met will be identified and documented at an early stage of the work. In adopting the scientific method, the progression of work is built on analyzing results from step to step. To build on the results of testing in a systematic way requires the organized documentation of the work undertaken during experimentation or analysis. This is a basis for being able to capture, communicate, and, if necessary, repeat the work leading to the advancement of scientific knowledge or the technological advancement. It is important to note that this question pertains only to documentation that is naturally produced during the performance of SR&ED. Please refer to Appendix 2 of the latest version of the T4088 Guide to Form T661 Scientific Research and Experimental Development (SR&ED) Expenditure Claim for information on documentation and other evidence to support an SR&ED claim.

2.2 Step 2: Determine the extent of eligible work

The approach used to assess whether there is SR&ED is described in section 2.1. This approach, however, does not identify the extent of the SR&ED work.

The definition of SR&ED in the ITA helps determine the extent of the SR&ED work by including support work and excluding some other types of work.

Specifically, the definition of SR&ED states:

“and, in applying this definition in respect of a taxpayer, includes

(d) work undertaken by or on behalf of the taxpayer with respect to engineering, design, operations research, mathematical analysis, computer programming, data collection, testing or psychological research, where the work is commensurate with the needs, and directly in support, of work described in paragraph (a), (b), or (c) that is undertaken in Canada by or on behalf of the taxpayer,

but does not include work with respect to

(e) market research or sales promotion,

(f) quality control or routine testing of materials, devices, products or processes,

(g) research in the social sciences or the humanities,

(h) prospecting, exploring or drilling for, or producing, minerals, petroleum or natural gas,

(i) the commercial production of a new or improved material, device or product or the commercial use of a new or improved process,

(j) style changes, or

(k) routine data collection;”

The following sections provide additional details on how to determine the extent of SR&ED work based on the definition of SR&ED in the ITA.

2.2.1 Support work

The work identified in paragraph (d) of the definition of SR&ED is usually referred to as support work. Work with respect to the eight categories listed in paragraph (d) does not constitute SR&ED on its own. However, if it is commensurate with the needs and directly in support of basic research, applied research or experimental development work undertaken in Canada, it falls within the meaning of SR&ED.

Support work must be the following:

• It must be commensurate with the needs of the basic research, applied research, or experimental development work undertaken in Canada. In other words, it must be corresponding in the amount, size, extent, or duration of work that is necessary to carry out basic research, applied research, or experimental development work undertaken in Canada.
• It must be directly in support of the basic research, applied research, or experimental development work undertaken in Canada. That is to say, the work was carried out specifically to perform the related basic research, applied research, or experimental development work undertaken in Canada.
• It must be with respect to one of the eight categories of work listed below:
  • engineering;
  • design;
  • operations research;
  • mathematical analysis;
  • computer programming;
  • data collection;
  • testing; or
  • psychological research.

2.2.2 Excluded work

The work identified in paragraphs (e) to (k) of the definition of SR&ED is typically referred to as excluded work and, collectively, these paragraphs are referred to as the exclusions. This work is not SR&ED. These exclusions identify work that, although might be seen as enabling an SR&ED project to be carried out in some manner, represents work that cannot be claimed for SR&ED tax credits.

It is important to realize that consideration is given to the exclusions only after it has been determined that there is SR&ED. The exclusions generally do not apply to the overall SR&ED. Rather, only after it has been determined that there is SR&ED; the exclusions help to delineate work that is included in the meaning of SR&ED, and work that is not. For example, a project is not excluded because it involves prospecting for minerals. However, if SR&ED is identified, the work with respect to prospecting for minerals is not included in the SR&ED.

It can be difficult to differentiate between the SR&ED work that is carried out in conjunction with non-SR&ED work. Where paragraphs (d) and (e) through (k) are particularly helpful is in defining the boundary (or to differentiate) between SR&ED work and that other work.

The key feature that distinguishes between support work and excluded work is purpose. Why was the work done—was it done to support basic research, applied research or experimental development, or was it done for some other reason?

3 SR&ED project

Form T661, Scientific Research and Experimental Development (SR&ED) Expenditures Claim, requires SR&ED work to be claimed as SR&ED projects. As a result, claimants should be aware of the meaning of “project” in the context of SR&ED.

3.1 Characteristics of an SR&ED project

Every project claimed must fall within the definition of SR&ED in subsection 248(1) of the ITA. An SR&ED project is defined as a project comprising a set of interrelated activities that:

• collectively are necessary in attempting to achieve the specific scientific or technological advancement defined for the project by overcoming scientific or technological uncertainty; and
• are pursued through a systematic investigation or search in a field of science or technology by means of experiment or analysis performed by qualified individuals.

Whether the work claimed meets the definition of SR&ED in subsection 248(1) of the ITA is determined solely by examining the nature and characteristics of the work itself. In other words, it is not the overall commercial objective but rather what is actually occurring at a technical level that is relevant. The key point is whether the work has the characteristics to meet the definition of SR&ED, and not the overall goals in a commercial sense. The SR&ED project's success or failure in terms of meeting its overall commercial goals is not a factor in determining its eligibility for investment tax credits.

It must first be determined whether there is SR&ED within the project (section 2.1). If there is SR&ED, the next step is to assess the extent of the work (section 2.2) and the associated expenditures against the objectives of the SR&ED project.

The SR&ED project definition is not intended to support dividing a correctly identified SR&ED project into smaller, and possibly ineligible, activities. At a detailed level and by itself, the work may appear routine. Projects should be identified at a level where all the effort captured by the project falls within the definition of SR&ED. This requires that appropriate internal procedures and accounting methods are in place and sufficient to link the work and associated expenditures to the project.

3.2 Company project versus SR&ED project

A distinction must be drawn between a company project and an SR&ED project. “Company project” is a generic term referring to undertakings by a company to have an impact on its business; for example, building new facilities or expanding facilities, developing new products and product lines, changing business practices, upgrading processes and facilities, and engineering projects. A company project is a project with a commercial purpose, whereas the purpose of an SR&ED project is for the advancement of scientific knowledge or for achieving technological advancement. Paragraph (c) of the definition of SR&ED recognizes, and in fact requires, that the experimental development be done for the purpose of achieving technological advancement in the context of creating new or improved materials, devices, products or processes.

An SR&ED project usually occurs as a subset of a company project. Therefore, not all of the work performed within a company project will necessarily fall within the scope of the SR&ED project. Also, it is possible that the same company project contains one or more SR&ED projects, some of which may involve experimental development and some of which may involve basic research or applied research.

3.3 Duration of an SR&ED project

The start of the SR&ED project is identified as the point at which the scientific or technological uncertainties are identified, resulting in the definition of scientific or technological objectives, as opposed to business or commercial objectives. Work that is conducted as part of standard business practice and is not needed to define the scientific or technological objectives is not part of the SR&ED project.

It is recognized that once a scientific or technological uncertainty is identified, work may be required before the hypothesis is tested (that is, before experimentation begins). Such work may fall within the meaning of SR&ED. For example, a technical feasibility study could be eligible only if followed-up with experimentation or analysis to test a hypothesis. This type of study must be distinguished from all other types of studies (marketing, commercial, and financial), which are not eligible as SR&ED.

The duration of an SR&ED project is not a factor in determining whether the work performed meets the definition of SR&ED . Some projects are short—carried out fully within the tax year—while other projects extend over several tax years. As an SR&ED project can span a number of years, a snapshot of the work in a given year may not reflect the overall effort to achieve the advancement of scientific knowledge or technological advancement. Once an SR&ED project has started, work in any year that is commensurate with the needs of and directly in support of the attempt to achieve a scientific or technological advancement is considered part of the SR&ED project.

The SR&ED project is complete when either the advancement has been achieved and the associated uncertainty resolved or when it is determined that the uncertainty cannot be resolved. Commercialization or certification may not necessarily mean that the SR&ED project is complete. Neither financial indicators (such as first sale) nor issuing warranties alone are enough to mark the end of an SR&ED project.

However, work generally associated with trouble-shooting, debugging, and fine-tuning when there is no need to resolve technological uncertainties, is not SR&ED work. Furthermore, work carried out when the product or process is installed or implemented at the customer’s facility or testing in an end-user’s environment (beta site testing) to ensure that all technical specifications agreed upon with the customer have been met is also not SR&ED work. Whether or not SR&ED work continues into these stages of a project depends on the continued presence of a technological uncertainty (or a new uncertainty arising) and the systematic investigation or search undertaken to resolve it.

4 SR&ED in a production or manufacturing environment

SR&ED in a production or manufacturing environment is referred to as “shop floor SR&ED.” It occurs in a variety of industry sectors and is mostly experimental development in nature. However, basic research and applied research can also occur in a shop floor environment.

SR&ED, especially experimental development, in a shop floor environment is generally not carried out in isolation. Rather, it is performed with other non-SR&ED work. For example, SR&ED can be carried out:

• at the same location where other work is being performed;
• by staff performing their regular duties; or
• while building or operating commercial equipment or facilities.

Shop floor SR&ED usually occurs when SR&ED is carried out in conjunction or simultaneously with excluded commercial work. Paragraph (i) of the definition of SR&ED specifically excludes work with respect to the commercial production of a new or improved material, device, or product or the commercial use of a new or improved process. Therefore, it is important to be able to distinguish between the SR&ED work and other non-SR&ED work so that the project costs can be allocated accordingly.

There are two situations that are commonly encountered that may involve both SR&ED and non-SR&ED work—(1) SR&ED while developing an asset and (2) SR&ED during production runs. The following two documents explain how to isolate SR&ED work and the associated expenditures in these two situations:

1. SR&ED while Developing an Asset Policy—An asset is a thing or item that has some value to the company. When an asset (a material, device, product, or process facility) results from, or is developed for, SR&ED work; consideration must be given to what aspects of the development of the asset to include as SR&ED work.
2. SR&ED During Production Runs Policy—When SR&ED is conducted while operating a commercial process facility; consideration must be given to how much of the facility’s operation should be included as SR&ED work.

Date modified:

2015-04-24