Ottawa’s review of the Scientific Research and Experimental Development (SR&ED) program is welcome news, but bolder thinking is needed to substantially improve the effectiveness of the tax credit, according to a new report from the C.D. Howe Institute. In “Tax Support for R&D and Intellectual Property: Time for Some Bold Moves,” author John Lester says the review, announced in federal budget 2022, risks being focussed on issues that will have, at best, a minor impact on the net social benefit of the program.
The SR&ED investment tax credit is a large program, costing approximately $3.5 billion in 2022. In contrast to government spending programs, which must be evaluated every five years with the results made public, there is no requirement to assess tax-based spending programs. Formal periodic reviews are needed to ensure that taxpayers are getting value for money.
The announced review has two general objectives: to assess whether the SR&ED program is effective in encouraging R&D that benefits Canada, and to explore opportunities to modernize and simplify the SR&ED program. The budget announcement included a commitment to assess the merits of implementing a special low rate of taxation on profits from intellectual property (IP), also known as a Patent or IP Box.
Simplification is a worthy goal, but Lester cautions that before embarking on another round of simplification, the Canada Revenue Agency should gather evidence on the costs firms incur in applying for a SR&ED tax credit. The resulting information could help focus efforts to simplify the program.
According to the author, the following bold changes are needed to improve the effectiveness of the SR&ED investment tax credit:
- Support for R&D performed by large firms should be increased and support for smaller firms should be reduced. This rebalancing would leave smaller firms with substantial subsidies while increasing support where the social benefits from R&D are greater.
- The social benefits from basic and applied R&D are higher than the social benefits from experimental development. The credit rates should vary to reflect this difference.
- Implementation of an IP Box would complete the policy package.
Overall, these recommendations would result in more R&D, a higher success rate for R&D that is performed, and more commercialization activity undertaken in Canada. “Canadian taxpayers would receive a much better return on their investment in a more innovative economy.”
“The ultimate objective of the SR&ED program is to raise the economic well-being of Canadians. The program is achieving this objective, but its effectiveness could be improved,” concludes Lester.