Renewed federal investment in research welcome but Canada still lags far behind on R&D spending

Federal Budget 2024’s investment in research and innovation is welcome but falls far short of closing the gap on what Canada spends on R&D compared with other developed countries, Research Money’s conference heard.

Government R&D spending isn’t sufficient to address the “poly-crisis” of multiple major risks to the country, or counter the negative impact of the budget’s increase in the capital gains tax, panelists said at Research Money’s 23^rd annual conference in Ottawa.

Several panelists also underscored that Canadians shouldn’t wait for government to implement several changes announced in the budget – including a new national strategy for science, technology and innovation (STI), a single new capstone research funding organization, and a new advisory council on science and innovation.

“We need an effective STI ecosystem to be able to respond to the variety of issues in the poly-crisis,” said David  Watters (photo at left), founder of and strategic advisor at Ottawa-based Global Advantage Consulting Group.

“This [ecosystem] is a national asset, and we need to make sure we’re increasing the capacity, the muscle of the system, to be able to respond to these kinds of issues,” he said.

The most important aspect of the budget is the fact that the research and innovation investments were made – despite the economic, political, social and environmental challenges Canada is grappling with – and that government signalled the proposed governance changes in the STI ecosystem, said Alison Evans (photo at right), president and CEO of Research Canada.

“The door is open to be able to co-create some of this, to be willing and able partners in helping the government understand how to do this,” she said.

The next step required is to create practical, meaningful ways for stakeholders in the STI ecosystem and other Canadians to work with government in designing and implementing the governance changes, Evans said.

She said the aspect missing in the budget is the aspirational long-term vision and strategy to make Canada a global competitor in research and innovation.

When it comes to productivity, Canada is now on par with where it was during the Great Depression and the economic recession of the 1990s, Evans noted.

Research by the Ottawa Science Policy Network, led by Thomas Bailey, a PhD student at the University of Ottawa, shows that two-thirds of Canada’s graduates and post-docs say they intend to leave Canada for more attractive jobs and salaries elsewhere, she said.

“I believe at the end of the day our responsibility is not only to Canadians and ensuring that they are happy and flourishing, but also that this country is being aspirational, competitive and returns to punching above its weight on the global stage,” Evans said.

How to ensure Canada’s STI ecosystem can respond to major risks?

Budget 2024 provided a more than $4.6-billion package of measures to strengthen Canadian research and innovation, according to the government. This includes:

• $1.8 billion in core research grant funding for a 30-per-cent increase over five years of Canada’s research grant programs that support faculty-led research projects.
• $825 million over five years to Canada’s three research granting councils to increase the annual value of master’s and doctoral students’ scholarships to $27,000 and $40,000, respectively, and post-doctoral fellowships to $70,000. The new program will also increase the number of graduate students and post-doctoral fellows benefiting from research scholarships and fellowships by approximately 1,720 each year.
• $30 million over three years for Indigenous researchers and their communities, which would be distributed with $10 million each for First Nation, Métis, and Inuit partners.
• $734 million to support Canada’s research infrastructure and institutes, including:
• TRIUMF sub-atomic physics research laboratory in Vancouver
• CANARIE, which manages Canada’s ultra high-speed network to connect researchers educators and innovators
• Saskatoon-based Canadian Light Source synchrotron
• Arthur B. McDonald Canadian Astroparticle Physics Institute at Queen’s University
• University of Saskatchewan’s Centre for Pandemic Research.

In addition, Budget 2024 committed $2.4 billion in new funding for compute infrastructure aimed at strengthening Canada’s advantage in artificial intelligence.

Watters and Ömer Kaya (photo at right), CEO at Global Advantage Consulting, presented the firm’s analysis of Budget 2024, in a session moderated by science policy expert Paul Dufour, fellow and adjunct professor at the Institute for Science, Society and Policy at the University of Ottawa.

Kaya said the budget’s incentives related to enhancing productivity and innovation, by allowing businesses to immediately write off such expenses, is one of its best initiatives.

However, the fragmentation in Canada’s STI ecosystem and federal innovation programs remains a challenge he said. “The entire system needs to be better linked,” he added, including better connectivity among an often confusing plethora of federal programs.

Kaya said he also didn’t see much in the budget aimed at helping to increase business spending on R&D, incentives to scale up mid-sized companies, and support for international trade and exports of innovative Canadian products.

Watters pointed out that despite the long-awaited reinvestment in research and innovation, Canada’s current gap in GERD (Gross domestic expenditure on research and development) as a percentage of national GDP, compared with other OECD countries, is $28.7 billion per year.

OECD countries spend on average 2.73 per cent of their GDP on R&D. Canada, in contrast, is spending 1.55 per cent in Budget 2024.

Watters said that Canada is facing 10 major and entangled risks, including:

• affordability and persistent inflation, which impacts supply chains.
• increasing geopolitical conflict.
• erosion of social cohesion and trust, with democracy under attack.
• social media creating a “Tower of Babel.”
• accelerating global competition for talent and investment.
• urgent global energy transition to net-zero greenhouse gas emissions by 2050.
• uncertain human rights and safety in the digital world.
• increasing extreme weather events.
• declining economic prosperity.

Governments will increasingly not be able to protect Canadians from the impact of these risks, Watters said.

“These risks are now becoming interrelated and more significant,” he said. “It changes the game in how we need to use the science, technology and innovation system to be able to try to respond to these.”

Given Canada’s continuing decline in government and business investment in R&D, “We’re certainly, in my view, on the wrong path,” Watters said. “I think we’re grossly underestimating the magnitude of the problem and what we need to do to solve it.”

Evans pointed out that in the health areas, companies are doing innovative, ground-breaking work in Canada, “but they face incredible regulatory and other obstacles.”

These companies “share a collective desire to see the Canadian government ensure that we are making decisions that keep Canada as a destination of choice” for entrepreneurs, innovative companies and investors in them, she said.

A Research Money conference participant pointed out that the budget didn’t address the issue of colleges receiving only about three per cent of federal research funding, even though colleges’ projects with industry return at least a dollar from industry for every dollar a college invests.

Budget sends “wrong message” to young innovators

Laurent Carbonneau (photo at right), director of policy and research at the Council of Canadian Innovators, said while the budget has some “good stuff” for research, it sends the wrong message for young Canadian entrepreneurs and startup founders.

For example, he said, a graduate who launches a startup and hires other students but can’t afford to yet pay them competitive salaries might give them stock options in the fledgling company.

By increasing the tax on capital gains, “I think the message that the budget this year sent to that person is: Don’t do that here,” Carbonneau said.

“When the government casts this kind of person [e.g. a young entrepreneur and founder] as what’s wrong with Canada and a problem with what’s happening in Canada, I think that really does send the wrong message.”

“Investing in youth is broader than just research,” he added. “It’s giving them a future to believe in.”

Budget 2024 increased the capital gains tax rate to 66.7 per cent, which takes effect in June, from the current 50 per cent, for individuals who realize more than $250,000 in gains in a year or on any gains realized by a corporation or trust.

 “It was a lot of surprise and shock that a budget on the one hand that was really taking steps in the right direction on the research front was closing to door to innovations and saying, ‘Maybe next time,’” Carbonneau said.

Watters noted he lives in a small community where the owner of the local grocery store is now worried about the impact of the capital gains tax on him and his family.

The government needs to work with STI stakeholders and clarify very quickly what the intent of the capital gains tax increase was, and exactly how it will affect people, he said.

For example, Budget 2024 announced a new Canadian Entrepreneurs’ Incentive to reduce the inclusion rate to 33.3 per cent on a lifetime maximum of $2 million in eligible capital gains.

The incentive is for founding investors in certain sectors who own at least 10 per cent of shares in their business, and where the company has been their principal employment for at least five years, the government said.

“The Canadian Entrepreneurs’ Incentive is designed to encourage innovative entrepreneurs in research and start-up phases to scale-up their businesses, especially in the technology and manufacturing sectors,” according to the government.

An entrepreneur, for example, who sold their company and earned $2 million in capital gains on the sale would pay tax on $1 million – or 50 per cent of their $2 million in capital gains.

When the Canadian Entrepreneurs’ Incentive is fully implemented, such entrepreneurs would pay tax only on 33 per cent of the $2 million, or $667,000, the government said. “This will encourage innovators to keep innovating in Canada by providing entrepreneurs with more capital from selling their business to invest in their next great idea.”

But the new Canadian Entrepreneurs Incentive is restrictive in that it doesn’t apply to professional corporations, or companies in the financial, insurance, real estate, food and accommodation, arts, recreation, entertainment, consulting or personal care services sector. Also, an individual has to be a founder of the business and have actively worked in the company for five years.

Carbonneau told Research Money after the budget panel session that the Canadian Entrepreneurs’ Incentive could help reduce the pain of the capital gains tax increase, but only if the incentive has more flexible provisions like a similar but more generous tax break in the U.S.

More than 1,900 Canadian tech CEOs, financiers and other leaders have signed an open letter published by the Council of Canadian Innovators opposing the tax hike.

However, Communitech, MaRS Discovery District and Invest Ottawa won’t join the campaign to press Ottawa to reverse the tax hike, according to a story by The Globe and Mail.

Instead, those federally supported innovation organizations are trying to convince Finance Minister Chrystia Freeland to harmonize the new capital gains tax with the Qualified Small Business Stock Inclusion used in the U.S. It offers a US$10-million lifetime capital gains exemption and sets no ownership threshold.

One positive in Budget 2024 for entrepreneurs is that those who sell shares of a company to an employee ownership trust – a trust that holds shares of a corporation for employees to help facilitate the sale of that business to its staff – can receive a $10-million capital gains exemption when those shares are sold to the trust.

The exemption is per business rather than per individual, however, so a group of owners would get only a collective $10 million in tax exemption when selling shares to the trust.

In terms of implementing the changes in Budget 2024, Watters advised against depending on government to be able to strengthen Canada’s science, technology and innovation ecosystem. “The leadership has to come from the variety of organizations in this room, to take the initiative and design the system we want.”

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