Did you know there are two ways to claim SR&ED Overhead expenditures?
Most claimants use the proxy method to calculate SR&ED overhead expenditures since it is the simpler of the two methods. It is determined by multiplying your SR&ED labour expenditures by 55%. This is the default option for claiming overhead by most companies.
The second and less common method is the Traditional Method, which requires you to specifically identify overhead expenditures for SR&ED and report it on the SR&ED schedules similar to other direct expenditures such as labour and materials.
The proxy method is popular since it is easier to apply, however in some cases it may make sense to use the traditional method over the proxy method.
Eligibility of Overhead Expenditures
When determining the eligibility of overhead expenditures under the Traditional Method, each expenditure must satisfy the following two tests:
Directly Related Test
- Expenditure is associated with SR&ED performed without an intervening step or intermediary
- An expenditure must be related to one of the following 3 elements:
- The SR&ED work
- The SR&ED staff
- The machinery/equipment used by staff to perform SR&ED
- Expenditures would not have been incurred if the SR&ED had not been conducted
- e.: An expense that increased because of the SR&ED work or would have been less if the SR&ED were not performed
- A portion or a percentage of an expenditure may be Incremental as long as the portion or percentage is Directly Related to SR&ED
- Fixed costs are not eligible
The purpose of these two tests is to establish that the expenditure is Directly Attributable to SR&ED performed.
When to Choose Traditional Method over Proxy Method
There may be situations where the majority of the SR&ED performed is by outside contractors with very little performed by in-house staff. One example would be for Software Developer start-ups that outsource all their development activities. In such instances, the company is better off selecting the Traditional method instead of Proxy Method.
If a claim is highly overhead intensive such as in manufacturing and food sciences, calculate the overhead under both methods and select the method which generates the higher amount. If choosing the Traditional Method, the overhead expenditures generated must be significantly higher than the Proxy Method, due to the higher burden for proof under Traditional Method.
Traditional Method vs. Proxy Method
|Traditional Method||Proxy Method|
|The actual amount of overhead and other expenditures are added to the pool of deductible SR&ED expenditures||Overhead and other expenditures are estimated by the calculation of Prescribed Proxy Amount (PPA)|
|Overhead and other expenditures are deductible as SR&ED expenditure||Overhead and other expenditures are not deductible as SR&ED expenditure|
|Must explain how the amount was determined, and provide support for the determination||Not necessary to track overhead and other expenditures for SR&ED|
List of Common Overhead Expenditures
- Salary or wages of employees/contractors who directly undertake supervise, or support (clerical and administrative) the performance of SR&ED
- Employer’s share of related benefits
- Retirement Allowances
- The portion of salary or wages expenditures of human resources personnel for activities related to evaluating, recruiting, and hiring SR&ED personnel
- Moving expenses for selecting SR&ED candidates or relocating employees
- Taxable benefits to employees related to selecting and hiring SR&ED personnel
- Cost of telephone and internet
- Expenses for travel and lodging
- Cost of Training in Canada
- Cost of Utilities
- Cost of periodical subscriptions
- Cost of waste disposal
- Expenses related to health and safety
- Fees paid to volunteers to participate in clinical studies & liability insurance paid
- Support work performed outside Canada
- Cost of maintenance of premises, facilities, or equipment
Our Tax Team can help determine how to optimize your SR&ED refunds based on your specific case. Learn more about EVAMAX SRED Consulting Services.
For assistance in preparing your submission and to position your application for approval contact EVAMAX Group to help you with the process. You may also email us at email@example.com or call 1-877-711-7733.