Scientific Research & Experimental Development Audit


Executive Summary

Background: The Scientific Research and Experimental Development (SR&ED) program, is a federal tax incentive program to encourage Canadian businesses to conduct research and development in Canada that will lead to new, improved, or technologically advanced products or processes. The SR&ED program is the largest single source of federal funding for Canadian Industrial Research & Development. The purpose of the program is to deliver, to all eligible claimants, the tax based incentive while encouraging compliance with legislation. In 1999, approximately $1.8 billion in SR&ED tax credits were refunded to, or applied against taxes of, about 11,000 claimants.

The Government of Canada has been issuing tax credits for research and development activities since 1977. The present version of the federal program, providing cash refunds for Canadian-controlled private corporations, was put in place in 1985. In November 1998, the Canada Revenue Agency (CRA) created the SR&ED Directorate within the Compliance Programs Branch (CPB), to manage the program. In 2001, the Directorate was restructured, which included creating the National Technology Sector Specialist Section at Headquarters to help meet the unique needs of individual industries.

The SR&ED Directorate at Headquarters, provides support to 10 coordinating tax services offices (CTSO), located across Canada, that process claims, perform reviews and provide client service. The program is administered by approximately 50 full time equivalents (FTE's) in Headquarters (HQ) with a budget of $5 million and approximately 475 FTE's in the CTSO's with a budget of $36 million.

Objective: The main objective of this audit was to provide assurance that the management framework in place for the SR&ED program supports the achievement of the program goals and objectives.

The audit was conducted in two separate phases. Phase 1 was performed by CRA's Regional Internal Audit and involved selected sites within the Atlantic, Southern Ontario, Prairie, and Pacific regions. This phase identified national issues that were addressed as part of Phase 2.

Phase 1 was conducted between August 2003 and December 2003, while Phase 2 was conducted between April 2004 and December 2004.

Conclusion: The audit found the management framework in place for SR&ED supports the achievement of its goals and objectives. In fact, results of a client survey indicated that overall program delivery had been improved since restructuring procedures had been implemented. The audit did identify some areas that require improvement.

At the time the audit started, the Statistics Division within the Policy and Planning Branch, manually collected SR&ED data on Investment Tax Credits (ITC) and as a result there was a risk of error in the amounts reported to the Department of Finance. Internal Audit was advised that as of early 2005, the Statistics Division collects the ITC data from CRA's corporate tax system.

Although not a policy, some offices conduct coordinated reviews, where both Research and Technology Advisor and Financial Reviewer staff visit clients to discuss their eligibility and entitlement portions at the same time. The SR&ED function should monitor these coordinated reviews to determine the efficiency and effectiveness of the approach. If it is determined that efficiency and effectiveness are improved, the coordinated reviews should be conducted on all files.

The audit identified opportunities to improve program reporting by developing a reporting framework between the Regions and HQ. Also, an effective file review process should be put in place to ensure that the legislation and policies are consistently applied across Canada.

Communication between the Regions and HQ needs to be re-evaluated to ensure that it is effective and allows information to exchange in a timely manner.

Action Plan: The SR&ED Directorate has taken action or plans to address the recommendations of the Internal Audit Division.

SR&ED conducted a review of policies, directives and practices in the Tax Services Offices relating to coordinated reviews and completed a status report in June 2005. National guidelines and a monitoring strategy will be completed and ready for consultation by December 2005 with national implementation of these guidelines and strategy by March 2006.

In consultation with the Regions, a reporting framework will be developed by March 2006. Also, an internal sub-committee has been created to address the management framework priority of “Ensuring Quality Processes”. These two actions will assist in ensuring the program is being consistently applied across Canada.

SR&ED will be evaluating the various communication channels between the regions and HQ and, if necessary, will issue revised communication guidelines in fall 2005.

Introduction

The Scientific Research and Experimental Development (SR&ED) program is a federal tax incentive to encourage Canadian businesses to conduct research and development in Canada that will lead to new, improved, or technologically advanced products or processes. The SR&ED program is the largest single source of federal funding for Canadian Industrial Research & Development.

The program is a major element in the Government's strategy to improve competitiveness given the strong link between investments in science and technology and economic growth. In 1999, approximately $1.8 billion in SR&ED tax credits were refunded to, or applied against taxes of, about 11,000 claimants.

The Government of Canada has been issuing tax credits for research and development activities since 1977. The present version of the Federal program, providing cash refunds for Canadian-controlled private corporations, was put in place in 1985. In November 1998, the Canada Revenue Agency created the SR&ED Directorate within the Compliance Programs Branch (CPB), to manage the program. In 2001, the Directorate was restructured, which included creating the National Technology Sector Specialist Section at Headquarters to help meet the unique needs of individual industries.

The SR&ED Directorate within Headquarters has approximately 50 full time employees (FTE) with a budget of $5 million. The program is delivered through 10 coordinating tax services offices (CTSO) and has approximately 475 FTE's with a budget of approximately $36 million.

Focus of the audit

With the restructuring of the Directorate, the management framework was identified askey for this program and was the main focus of the audit.

This audit was conducted in two phases. In the first phase, regional auditors conducted interviews in the Atlantic, Southern Ontario, Prairie and Pacific Regions and provided HQ Internal Audit with potential national issues.

In the second phase of the audit, the objective was to provide assurance that the management framework in place for the SR&ED program supports the achievement of the program goals and objectives. Also, further review was conducted on the issues identified in the first phase.

Phase 1 was conducted between August 2003 and December 2003 while Phase 2 was conducted between April 2004 and December 2004.

Findings, recommendations and action plans

The audit confirmed positive aspects of the management of the SR&ED program such as comprehensive planning with clearly defined goals and objectives. Results of a client survey also indicated that overall program delivery had been improved since restructuring procedures had been implemented. However, the audit did identify some areas that require improvement.

Statistical Data to Stakeholders

The Statistics Division in the Policy and Planning Branch provides a statistical summary of the SR&ED Investment Tax Credits (ITCs) to the Department of Finance which then present the results in its annual Tax Expenditures and Evaluations Report.

Prior to the implementation of CRA's corporate tax system, in 2000, the Statistics Division obtained ITC information from photocopies of SR&ED claim forms received from the Tax Centres, Appeals and SR&ED Audit. The information from the claim forms was entered into the Statistics Division computer validation system.

With the implementation of the corporate tax system, the Statistics Division continued to receive photocopies of SR&ED claim forms. This enabled the Statistics Division to compare the photocopied claim forms with the information on the system. However, this process had a high risk of error because photocopied claim forms may have been unaccounted for or misplaced.

In the Fall of 2005, the Statistics Division advised Internal Audit that they had changed the process for collecting SR&ED data. They now obtain data primarily from the system, thus reducing the risk of error when compiling the data.

Coordinated Reviews

The SR&ED program relies on both a scientific review to establish the eligibility of the investment and a financial review to establish the eligible expenditure amount. These reviews are conducted separately by the Research and Technology Advisors (RTA's) and the Financial Reviewers (FR's) or in some instances, at the same time through coordinated reviews.

Currently, there is no SR&ED policy for offices to conduct coordinated reviews, although some offices conduct them. Employees have indicated that there are benefits to conducting coordinated reviews, such as better client service.

SR&ED is not monitoring coordinated reviews and there are no statistics to determine the full effectiveness of these types of reviews and what efficiencies are gained.

Some SR&ED employees have stated that claimants are sometimes inconvenienced with separate visits from the RTA and FR and have on occasion been confused as to the difference between what they are eligible for and what they are entitled to. However, staff in some of the field offices stated that coordinated reviews are not always possible due to scheduling conflicts between the RTA and the FR.

Recommendation

SR&ED should promote and monitor coordinated reviews of claimants. Reviews, such as file completion time and client satisfaction, should be analyzed in order to determine the respective effectiveness and efficiency. If, after this analysis, it is determined to be more effective and efficient, coordinated reviews should become mandatory.

Action Plan

Coordinated reviews have been encouraged for several years and are being actively promoted since the implementation of the SR&ED management framework in November 2004.

The SR&ED Directorate agrees that while a number of offices are actively conducting coordinated reviews successfully, further coordination and promotion is warranted to ensure that a consistent approach is being used nationwide.

SR&ED will be conducting a complete review of policies, directives and current Tax Service Office (TSO) practices related to coordinated reviews, including best practices and impediments. A status report on coordinated reviews was completed in June 2005. A monitoring strategy and national guidelines will be ready for consultation with the regions in December 2005 with national implementation to take place March 2006.

Quality Assurance

Two types of reviews are conducted on SR&ED files. The SR&ED Directorate of CPB conducts internal monitoring of files, which includes reviewing intake, workload, and inventory management. The Quality Assurance Division, within the Compliance Programs Branch, also conducts reviews for consistency with legislation and policy.

The scope and timing of the respective Quality Assurance reviews results in gaps in the information provided to management. The process often takes a year and a half before a report is produced. At the time of the audit, there have not been any action plans for any of the reports that have been produced. As a result, the risk of inconsistency in the application of SR&ED legislation and policy within the field offices from one region to another is not being adequately monitored and possibly mitigated.

Recommendations

SR&ED should coordinate, document and report on a file review process that effectively measures consistency with legislation and policies and provide detailed reports on operations to the field office being reviewed.

HQ should require field offices to develop action plans addressing any deficiencies for either Quality Assurance and/or SR&ED file review and then follow-up on these action plans within a reasonable timeframe.

Action Plan

The SR&ED Directorate has taken many steps in recent years to enhance program consistency. The National Technology Sector Specialists (NTSS) section was specifically created to assist in the conduct of file reviews to ensure consistency within and across sectors. These individuals report directly to the Director, Technical Guidance Division in HQ where national consistency is examined.

SR&ED agrees that all types of program/file reviews and their results should be conducted in a coordinated fashion, documented and followed-up. This will be addressed in part by the actions related to the finding on reporting.

In addition, an internal sub-committee has recently been created to address the Management Framework priority of “Ensuring Quality Processes”, which will in turn address the quality assurance. The sub-committee developed an action plan in April 2005 and a follow-up report on Program Monitoring and Quality Assurance reviews was completed in June 2005. The notion of the "length of time it takes to do the reviews" in addition to the coordination of the Quality Assurance Division's work with the SR&ED file review process are also being considered as part of the integral mandate of the sub-committee and are being addressed in their recommendation and action plan.

Reporting

The reporting and accountability framework between field offices and HQ should be enhanced; there is currently no requirement for the field offices to produce reports for HQ. Reports would include periodic reporting on priorities, inventory levels, recent trends, current issues, and other relevant statistics.

Improved reporting would better equip HQ to manage the SR&ED program nationally and improve HQ's ability to offer effective and efficient services that meets the needs of the regional offices.

Recommendation

SR&ED should develop a standard periodic reporting framework which would require field offices to report on operations and results to the Director General.

Action Plan

The SR&ED Directorate produces its internal statistics on a monthly basis, which provide a regular snapshot of key information on program delivery, which is reviewed by the Director General and any discrepancies are raised with the Assistant Directors (AD). AD meetings are held on a regular basis to discuss trends, issues and concerns.

While SR&ED Directorate believes that current methods of reporting ensure a satisfactory understanding of what is going on in the program, it agrees that the development of a reporting framework would be a worthwhile exercise to address its accountabilities.

A review of the current statistics, systems, and measures in place that contribute to program reporting will be conducted to assist in determining whether more or different reporting is necessary. A status report on program reporting will be issued in December 2005. Based on this report a reporting framework for the program will be developed by March 2006. SR&ED will also ensure that Business Integration Systems Support Infrastructure (BISSI), which is currently on-going, will address program reporting needs.

Communication

The current internal procedures require all communication between HQ and the field offices to be directed through the Assistant Director in the respective Tax Services Office (TSO). Interviews with staff in HQ and in the field offices indicated the flow of information and requests for technical assistance is slowed and does not always reach the appropriate employees at HQ, leading to employees making decisions without relying on HQ technical advice. It was also noted that the contact lists on the SR&ED intranet site were outdated and/or incomplete.

Recommendation

SR&ED should re-examine the communication procedures to determine if they are understood and effective and ensure HQ contact lists are kept current.

Action Plan

SR&ED indicates that several years ago, the interactions within the program were such that Assistant Directors and HQ managers were unaware of the issues being discussed and thus were not always cognizant of trends, sensitive cases, emerging issues and staff training needs. Therefore, two years ago, HQ and the regions established a more standardized approach to communication that is based on the Agency's functional model.

Although some believe that communication should be more open between HQ and the field, others believe the current approach is appropriate. The SR&ED Directorate agrees that internal communications are important for a well-functioning program and will undertake a review to verify whether the current approach is well understood and, if necessary, look at ways of further facilitating communication. Communication guidelines will be issued in Fall 2005, if necessary.

An overhaul of the SR&ED InfoZone site was completed in June 2005.

Resource Allocation Model

In 2003, Assistant Directors in each of the regions were involved in the development of the new budget allocation model, which was designed to assist HQ in allocating resources to the field offices across Canada. The expectation is to have it fully implemented over a 3-year period. Also, due to the new model, some regions were uncertain regarding the priorities based on the allocated resources.

Offices in some regions reported that during the initial year of implementation, the resource allocation model did not sufficiently reflect workload disparities, such as the amount of intake of new files. It also did not account for the greater amount of travel required in different geographical regions. While HQ provided some offices with additional hours per file for completion, at the time of the audit, there were still concerns that were not addressed.

Internal Audit was advised that, as was intended, SR&ED revisited the model at the March 2005 Assistant Directors meeting and the 2005/2006 allocations were adjusted accordingly.

Conclusion

The audit found the management framework in place for SR&ED supports the achievement of its goals and objectives. In fact, results of a client survey indicated that overall program delivery had been improved since restructuring procedures had been implemented. The audit did identify some areas that require improvement.

At the time the audit started, the Statistics Division within the Policy and Planning Branch, manually collected SR&ED data on Investment Tax Credits (ITC) and as a result there was a risk of error in the amounts reported to the Department of Finance. Internal Audit was advised that as of early 2005, the Statistics Division collects the ITC data from CRA's corporate tax system.

Although not a policy, some offices conduct coordinated reviews, where both Research and Technology Advisor and Financial Reviewer staff visit clients to discuss their eligibility and entitlement portions at the same time. The SR&ED function should monitor these coordinated reviews to determine the efficiency and effectiveness of the approach. If it is determined that efficiency and effectiveness are improved, the coordinated reviews should be conducted on all files.

The audit identified opportunities to improve program reporting by developing a reporting framework between the Regions and HQ. Also, an effective file review process should be put in place to ensure that the legislation and policies are consistently applied across Canada.

Communication between the Regions and HQ needs to be re-evaluated to ensure that it is effective and allows information to exchange in a timely manner.

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