A common stumbling point when completing the T661 SR&ED tax form is what method to choose for calculating overhead expenditures: traditional or proxy? This choice must be selected in Part 3 Section A of the T661 (lines 160 (proxy) or 162 (traditional)).

While a full discussion of the intricacies of both should be done with your accountant / tax specialist, it’s important to understand the high-level differences. For most early-stage companies, you’ll be filing under the proxy method because it’s easier and requires less documentation to back it up.

Let’s look at what each of these methods are, and when you should choose traditional or proxy.

What is the Proxy Method?

The proxy method simplifies the way to calculate overhead and other expenditures (known as the Prescribed Proxy Amount or PPA) by estimating these costs based on your eligible employee salaries. It’s calculated by taking 65% of the eligible portion of salaries of both regular and specified employees.

The proxy method is simple to use because you don’t have to track your SR&ED overhead during the tax year and simple to file because you don’t have to itemize all of your expenditures. Due to this simplicity and the generous calculation, it’s the most popular method used.

When Should You Choose Proxy Method?

• When your salaries/wages are high
• When you don’t have a lot of overhead expenditures

What is the Traditional Method?

By contrast, the traditional method requires that you identify each of your overhead expenditures to calculate the true amount (not an estimate). As well, you must track your overhead expenditures throughout your tax year. You will need to have detailed documentation and be able to prove that the expenditures you are claiming can be directly attributable to SR&ED work. This can get tricky and require some adjustments in your calculations. For example, if you are claiming only 50% of an employee’s salary for SR&ED, then you wouldn’t be able to claim the purchase of their computer at 100%.

When Should You Choose the Traditional Method?

• When your salaries/wages are low
• When your overhead expenditures are high

Even though the proxy method is the most popular method for filing SR&ED claims, it’s worth the time to evaluate which method is best suited for your situation in a particular tax year so that you can maximize your claim.

In the previous post, we discussed the average amount of time it takes to process and receive your SR&ED refund.

Most companies can receive their SRED refund much faster by optimizing their SRED processes before and after the claim gets into the hands of Revenue Canada. Here are some recommended strategies for getting your refund faster:

1. Document during the year, not after – Most companies scramble after their fiscal year-end to find supporting documentation that will allow them to make a SRED claim. This is the worst time to do it because people are busy closing the year for tax purposes, and much of the collected knowledge about R&D has been forgotten. Keeping good documents throughout the year will allow you to have all the documentation on hand before your year end. A side benefit to keeping good documentation is the possibility that you’ll be able to make a larger claim.
2. Properly document sub-contracts – If you’re audited, a lot of time is wasted trying to chase down sub-contractors who are missing a Business Number (or their SIN), or because of missing contracts and invoices. Make sure you have all of this paperwork on hand before you file your claim. This way you can produce the documentation if you’re asked.
3. Don’t have GST/HST balances – Don’t be the company that had their $75,000 refund cheque held because they owed $400 in outstanding GST payments. Don’t assume the various government departments will work everything out between them. Make sure you are up to date on all government fees (both federally and provincially) and you’ll get your refund sooner.
4. Triple check your claim – Minor errors (like improperly accruing salaries that cross the fiscal year, or forgetting to attach your project descriptions) can add up to much more processing time. Revenue Canada service standards do not necessarily apply when re-opening and adjusting claims. Be careful.
5. Make SRED part of your daily business processes – The best thing you can do to speed up your refund is to integrate SRED into your daily business practice. This ensures that the year-end is not a huge hassle that takes 6 months. There’s no reason you shouldn’t be able to file as quickly as the rest of your corporate income tax return is prepared, and perhaps sooner. After all, that big refund cheque is a big incentive. Monthly R&D review meetings, document archiving and expenditure capturing are all tasks probably best left to an external SRED consultant. They can not only save you time but they can educate you about SRED best practices.

Time is money, and one of the most important questions about SR&ED is how long it takes before getting a refund cheque. To set expectations: it takes awhile. Furthermore, there’s not much you can do once your claim is filed and Revenue Canada is processing it.

CRA’s SRE&D Service Standards are to process your (refundable) SRED claim within 120 days of receiving it. They claim that they’ve met this standard 98% of the time. Generally speaking, 90-120 days seems to be the time it takes to get a letter from Revenue Canada saying your claim has been accepted, or an audit will be scheduled.

If your claim is accepted, you will generally receive a Notice of Assessment within 2 weeks, followed by your refund cheque a week after. So you should estimate around 4-5 months to get your federal refund.

On top of that, provincial governments like Quebec have their own requirements. While they piggyback on the scientific review done by CRA, they are increasingly demanding more information about expenditures. This can add to the time it takes to process. Even without this additional time, it may take 1-2 months or more to receive the provincial refund cheque.

So overall, if your claim is accepted, it may take 6 months before you have your full refund. If you’re lucky, you can receive your refund much faster. Some claims have been processed in under 30 days. But for cash flow planning purposes, it’s best to be conservative.

We’ll be covering how to speed up your claim in future posts.

Timesheets are always a contentious subject especially when it comes to smaller businesses who do not have the same documentation resources of larger enterprises. Companies often ask if having timesheets will significantly bolster their chances of passing a SRED audit.

First of all, you do not need to submit timesheets with your T661 form. If you are not audited, no one will look at your record keeping. However, there is a new checklist (currently lines 270 – lines 282) that asks you to check off all the evidence you have to support your claim. Many unwary companies check all of the boxes in an effort to make their claim look better. This immediately sets off a red flag to reviewers and may result in an audit. If there is an audit and you are unable to produce the evidence, eg timesheets, you will have a problem.

The bottom line is: don’t check off items unless you are prepared to back it up.

With respect to timesheets, where they can help is proving that the employees you are claiming for R&D tax credits actually worked on the projects you claimed. This is especially important when the employees were not 100% dedicated to R&D. You need to show that you had a method of tracking their R&D and non-R&D time.

There are many commercial, Open Source and Web-based timesheet systems out there. Whichever one you choose, make sure that the time of each employee is properly categorized and labelled so it’s easy to tell which R&D project they worked on. The more detail you have the better, so breakdowns of work within a project are even better, eg analysis, architecture design, testing. There is no particular timesheet format that is SRED eligible so use your judgement. Auditors understand that smaller companies will not have the same level of documentation as larger companies (though don’t use this as an excuse to present shoddy documentation).