Startup Cfo + Flow Sred Presentation 032409

Montreal Startup Tax Credit Workshop March 24, 2009 Tax Credits for Startups www.startupcfo.ca www.flowventures.com

AGENDA

Part I:

Money

Red Tape

Pitfalls

How the Government Sees It

Part II:

Being Eligible

Financial Strategies

Bad Behaviours

Good Behaviours

The Facts…

Raised $ 500K

Spent $ 200K on “eligible salaries”

$100K of salaries are for founders / specified employees

$ 40K of salaries for front end (not “eligible”)

$20K subcontractors

$ 10K capital expenditures

$ 5K materials consumed

No IRAP or other grants

Our filing strategy

1 st claim, so go for maximum (assuming real advancement taking place)

Claim SRED for everyone except front end developer

Claim proxy method

Claim E-biz tax credit for the front end guy

The Maximum Refund

Summary:

Bottom Line: Spent $225k, refunded $186,583 (68%)

QC E-Biz Tax Credit

E-biz credit: 1/3 salary up to $20K

$ 40K * 1/3 = $ 13.3K

Red Tape

And lots of it…

SRED: Project description

Technical description

Factual, non-salesy, jargon-free description of

Goals for your experimental development, applied research, etc – what technological advancements were you trying to achieve?

Obstacles you had to overcome to achieve those advancements?

Work performed – “ how ” did you overcome…

Results: Advancements in technical knowledge, functionality, etc ( don’t need positive results in order to claim credits )

Do these for each project

New simplified T661

SRED: Forms to fill out

Federal

T2 (Federal Income tax return for corporations)

T 661 – Claim for SRED, with Schedules

Schedule 31 – Investment Tax Credits

Quebec

CO-17 (Quebec tax return)

RD-222V (SRED claim)

RD-1029.7-V (tax credit on salaries)

SRED: Back-up documentation

Technical :

Project descriptions and plans

Timeline and/or timesheets

Test results, QA logs, source code

Detailed records of problems encountered (should be compiled throughout the year)

Financial

Detailed records of money spent (in Canada) on salaries, subcontractors, materials, capital equipment and eligible support expenses

Timeline….

CRA service standard :

120 days from filing to refund

Reality:

Filed - Month 1

Selected for an audit – 4 months later

Financial audit – - 2 months later

Technical audit – same

Asked for backup

Write new report – 2 months later

9 months from filing: Still waiting…

QC E-Biz Tax Credit

Annual application for eligibility

Corporate

Employees

Includes:

Financial statements

Org chart & job descriptions

Breakdown of revenues

Timing: TBD

You can’t double dip!

Pitfalls

Why you might not get the refund you deserve

Basic SRED Eligibility

systematic investigation or search carried out in a field of science or technology by means of experiment or analysis . . . to advance scientific knowledge or to achieve technological advancement

Experimental development to achieve technological advancement to create new materials, devices, products, or processes, or improve existing ones;

applied research to advance scientific knowledge with a specific practical application in view;

basic research to advance scientific knowledge without a specific practical application in view; and

support work in engineering, design, operations research, mathematical analysis, computer programming, data collection, testing, etc that directly supports , the eligible experimental development, or applied or basic research.

SRED in Real Life

You have to have legitimate R&D according to their rules

You have to speak their language

Yes, there is a grey area

SRED is Getting Tougher

Your claim is competing with all other claims they’ve seen (now and in the past)

Standard for “innovation” – Could you present your R&D at a conference of industry peers?

What did you learn (that wasn’t obvious)?

Can you describe (in detail) the activities you did to support your R&D? Do they make sense?

Auditors are starting to reject claims or offer only 50%

SRED: What you can do

Have excellent backup documentation

Write the claim throughout the year, not at year-end

Be very careful with how the claim is written

Be prepared for an audit

Don’t be too greedy

Do not have amounts you owe to the gov’t (e.g. GST/QST)

QC E-Biz Tax Credit

75% of revenues have to be in an eligible industry:

Computer Systems Design and Related Services (NAICS 541510)

Software Publishers (NAICS 511210)

Data Processing, Hosting and Related Services (NAICS 51821)

You have to re-apply each year

This is a new program so expect the unexpected

What the gov’t cares about

Job creation is the #1 priority

They care that your projects “fit” not that they’re “good”

Once your file is on their desk their priority is to get it OFF their desk

They want to give you the money

Who are these people?

Technical auditors (CRA)

Fiscal reviewers (CRA, Revenu Quebec)

Investissement Quebec

Good SRED Projects

Advancements from an established baseline :

Applying new linguistic research into software that improves search results

Creating a new architecture that solves security & synch problems in AJAX

Creating a faster, smaller runtime environment for interpreted applications on mobile device

We took the current state of technology (X) and advanced it (Y) by doing (Z)

Bad SRED Projects

Building features, doing “routine” development

I built a content management system

We fixed bugs and improved the speed of our Web site

Twitter doesn’t work on my TV remote, so I built an app

We made our application multi-lingual

How bad projects can become good Copyright © 2009 – StartupCFO Enterprises Inc., Flow Ventures Bad Good We built a Twitter client for my TV remote We discovered a method for bi-directional communication via infrared to allow remote control devices to communicate with Web services via the Internet We implemented Soundex to improve search results We improved the efficacy of Soundex by extending it to include semantically similar concepts We built a MMORPG We solved a major problem in distributed computing by creating a new predictive algorithm for minimizing out-of-synch errors among clients

SRED Eligibility: Bottom Line

Nothing qualifies “automatically”, everything has to be documented and defended

Auditor subjectivity plays a big role (unfortunately)

The rules change

Monthly internal R&D audits ensure you don’t forget what you did which = better backup and bigger claims

Financial Eligibility

Specified vs Regular employees

Cdn (eligible) vs foreign contractors (ineligible)

Only one person can claim (i.e. you or your sub-contractor)

Double-dipping: effect of other tax credits on SRED

What if I’m profitable? When do I love CCPC status?

Optimizing your claim…

How aggressive should you be?

Early years – claim 100% salaries (assuming all of those salaries are being spent on real advancements)

Later on – lower the % (because the work mix changes, less real ED)

Can shift staff from claiming as SRED to e-biz over time

Remember – the program is being strictly enforced (especially for web software)

Optimizing your claim…(cont.)

What records do I need?

See the list from our financial audit (above)

Timesheets or loose time records

ADP, payroll register

SIN #s & addresses for all subcontractors

Description of work with above credentials on all subcontractor invoices

Optimizing your claim… (cont.)

Hiring vs. outsourcing?

Hiring Considerations:

Pros:

Full time committed team member

Advance skill set & capabilities of your company

Should be core to your biz

Fully eligible for SRED

Cons:

More expensive (full time cost, benefits, severance, computers, etc)

Don’t hire in non-core areas

Optimizing your claim… (cont.)

Hiring vs. outsourcing?

Outsourcing Considerations:

Pros:

Cheaper – pay only for what you need, when you need it

1/2 eligible for SRED

Cons:

Lose knowledge and skills

Can loose time coordinating

From a SRED perspective: Goal is to promote employment. Salaries 2x more eligible than subcontractor $.

Optimizing your claim… (Cont).

Financing your credits

Options to finance both filed & accrued credits

Bank (RBC, Banque Nationale) with Investissement Qc guarantee

Several private sources (RD Cap, Accorn, Stanley Finance, Lawrence Group…)

Finance up to 75% of filed. Lower % on accrued (usually)

All in cost – about 10% (interest & fees)

Banks – focus on balance sheet, covenants, history

Private – focus on claim quality. More flexible on financial position

Bad behaviours

Hiring too many people / overspending / high salaries:

Don’t assume you will get the credits

Don’t forget it takes a long time to get your refund

Never spend $1 just to get 60 – 75 cents in credits

Hire based on clear, strategic need

Doing too much :

This issue is way beyond tax credits

In most markets winner takes all (or most)

Best solution does not always win

Speed matters. Get into market as early as possible

Good behaviours

SRED encourages you to…

Have disciplined development practices

Have good documentation (Wiki, specs, requirements etc)

Understand where you need real R&D and where you can be “good enough”

SRED allows you to…

Invest in better quality

Rewards people via SRED bonuses

http://www.cra-arc.gc.ca/sred/ (The Feds)

http://www.revenu.gouv.qc.ca/eng/entreprise/impot/societes/credits/rd/ (Quebec)

http://irap-pari.nrc-cnrc.gc.ca/main_e.html

(Grants)

http://www.cra-arc.gc.ca/E/pub/tg/rc4472/rc4472-e.html

(program overview)

http://www.cra-arc.gc.ca/E/pub/tg/t4088/README.html

(guide to filling out the T661)

http://www.investquebec.com/en/index.aspx?page=1281

Startup Cfo + Flow Sred Presentation 032409

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