Expert panel debates effectiveness of direct R&D funding vs. SRED tax credits

The number of direct government funding programs in Canada aimed at increasing private sector R&D and innovation has tripled during the last three years, despite a lack of scientific evidence showing such support is effective.

In the same period, indirect funding provided through Canada Revenue Agency’s Scientific Research and Experimental Development (SRED) tax incentive program has declined, while the program has become more complex to apply for and administer.

Those are two key observations made by a panel of experts at a Calgary event presented on September 20 by The School of Public Policy at the University of Calgary.

“There is a huge shift away from the indirect funding to the direct funding mechanism,” said panelist David Van Den Beld, partner, national SRED funding initiatives, at PwC. Federal and provincial direct funding programs, such as grants and forgivable loans, have tripled to more than 4,500 programs now from about 1,600 programs three years ago, he said. “It’s pretty much seven times the amount that SRED gives out annually.” Yet there is no empirical evidence that direct funding actually increases R&D and innovation, he and other panelists said.

During the past four years, first the Stephen Harper government and then the Justin Trudeau government have reduced the federal funds available for SRED-related tax incentives to $1.8 billion in 2017, down from $2.3 billion in SRED tax credits awarded in 2013. Most provincial R&D tax credit programs followed suit.

A recent study by panelist Kenneth J. McKenzie, professor of economics at the University of Calgary and Distinguished Fellow at The School of Public Policy, and Daria Crisan, research associate at The School of Public Policy, looked at the evolution of SRED programs. Their study, “Tax Subsidies for R&D in Canada: 1981-2016,” found the combined federal and provincial SRED programs provided a 28%-reduction in after-tax R&D costs in 2013, but declined to 19% in 2014 to 2016. “There’s definitely been a bit of a retrenchment, a pullback, on the size of this subsidy,” McKenzie said.

At the same time, continual changes in the SRED program are making it “harder and harder” to administer, said panelist Jim Simpson, Canada Revenue Agency’s assistant director for the SRED program for the prairie region. For example, there is a lot of uncertainty about whether certain types of IT, such as software, qualify for the R&D tax credit, he said. “We really need to get around this technical uncertainty issue.”

Canada lags in research spending

McKenzie said Canada actually has “very high subsidy rates” to support R&D. Private sector spending is sensitive to these rates, so R&D in Canada consequently should be “quite high,” yet Canada lags other OECD countries in research spending, he said. The issue of how government can best support R&D and innovation “is a long-standing Canadian concern. We haven’t seem to gotten a handle on this yet,” McKenzie said.

Van Den Beld said Canadian government programs to support R&D are recognized internationally for their benefits, especially social impact benefits such as job retention. But while the U.S. and many other countries are ramping up their R&D funding, “quickly Canada is falling off that pedestal,” he said. “We are perhaps losing our R&D incentive here to other countries.”

Panelist Joy Romero, vice-president of technology and innovation at Canadian Natural Resources Limited, said the federal SRED program “makes a big difference” to the oil and gas company in helping to financially “de-risk” R&D projects. Up until recent changes to the SRED program, it has been fairly easy to predict which projects would qualify for the SRED tax credit, and this predictability “is extremely important,” she added.

Smaller companies, however, don’t have the capacity to go through the complex SRED application process, Romero said. Also, the turnaround time to when they obtain the funding is too long, she said, calling for the process to be simplified. Van Den Beld said SRED funding is “retroactive” after the R&D has been completed, and that small firms somehow have to find the money to fund their R&D as it is being done.

Since 2008, economic restraints have driven the need for more and more R&D across all industries in Canada, the panelists said. Romero said the Canadian oil and gas industry increased R&D investment by 1,400% between 2009 and 2016, and now spends $1.4 billion just in Canada. Canadian Natural Resources Limited is ranked No.4 in overall R&D spending among all industries, she noted.

Panelists also pointed to problems with how the amount of R&D being done in Canada is measured. Companies have tended to measure their R&D by tying it to SR&ED programs, using tax administrative data, McKenzie said, adding: “Measurement is a huge problem here.” Romero noted that the amount of R&D being done by companies with fewer than 20 employees isn’t counted at all, yet 80% of Canadian companies are in this category. “We are vastly under-reporting the R&D that’s done in the country,” Romero said.

R$