Want to Boost Innovation in Canada? Try a Thicker Border

From:  John Lester 
To:  Innovation watchers 
Date: October 29, 2026 
Re: Want to Boost Innovation in Canada? Try a Thicker Border

As an economist, I frequently extol the benefits of international mobility of goods, services, and people. Trading with other nations allows each to specialize in areas where they have a comparative advantage, making all better off. However, fixing Canada’s innovation problem may require a thicker border to offset the pull of the huge American market.

There is growing recognition that the inability to retain innovative startups in Canada is hurting our productivity performance. Innovative firms implement new processes or bring new products to market, allowing them to earn above-normal profits that can be shared by investors, workers, and the broader economy through higher tax revenue. And the growth of small, innovative firms into successful multi-national enterprises creates a favourable environment for other innovative startups to commercialize their inventions.

There are many reasons why innovative startups sell rather than scale up in Canada. Perhaps the most important is the sheer size and attractiveness of the American market. If most of your customers are in the United States, it makes sense to locate production facilities there as well. This immutable effect of economic geography increases the importance of maintaining a business-friendly environment and justifies some measures to thicken the border by increasing the incentives to scale up in Canada.

Innovative startups receive very generous incentives to perform R&D. Considering both federal and provincial tax incentives, the subsidy rate is about 40 percent of R&D costs. Making this support repayable if the resulting intellectual property (IP) is sold to a foreign entity would reduce the pull of the US market. And its application to sales that persist would generate savings that could be used to support other initiatives to promote innovation.

Innovative startups that receive both tax incentives and the support from the Industrial Research Assistance Program (IRAP) receive a whopping 65-percent subsidy, on average. My analysis last year indicates that such high subsidies do not provide value for money. A better approach would be to use IRAP funding to support commercialization of Canadian inventions, giving innovative startups an incentive to scale up in Canada. The support would be repayable from the profits of commercialization. However, if the IP is subsequently sold to a foreign entity, the support would be repayable at the time of the sale, along with interest accruing on the assistance.

Canada taxes capital gains on the sale of small business shares more favourably than gains on other types of income, but not as favourably as in the United States, where sales are tax exempt for certain types of business. Canada should match the US treatment, with two important differences. Only shares in innovative startups – defined as firms receiving the enhanced Scientific Research and Experimental Development (SR&ED) tax incentive or applying for a patent – sold to Canadians would qualify for the exemption.

Canada would get a bigger benefit from its large-firm SR&ED tax credit if it was set at a higher rate when the resulting IP remains in Canada. More than 40 percent of Canadian inventions are owned by foreign firms. Few Canadian-developed inventions owned by these firms are commercialized in Canada, particularly when Canada supplies R&D services to foreign firms. For example, Canadian employees of internet giants perform R&D that generates IP owned by these multinational companies and used in their worldwide operations. If the IP remained in Canada there would be more commercialization activity here, and even if the IP were exploited abroad, Canada would benefit from higher tax revenue on the income generated by the IP.

The federal government committed to implementing an IP Box in the 2024 Fall Economic Statement. Taxing income from IP developed from R&D performed in Canada at a preferential rate is good public policy: it encourages both R&D and commercialization of the resulting IP in Canada. Although an IP Box would primarily benefit large firms, the anticipation of future benefits would encourage growth-oriented startups to remain in Canada.

As discussed in a recent C.D. Howe study, Canada could get more out of its academic research. Transforming our academic prowess into more patenting and commercialization success requires fundamental changes to the federal funding model. Federal funding should be conditional on a commitment by the recipient to retain ownership of the resulting IP and to attempt commercialization of the invention. If the recipient is unable or unwilling to attempt commercialization, ownership of the IP would be transferred to a federal agency tasked with commercializing these inventions.

Implementing carrots and sticks to keep more of our inventions in Canadian hands would make Canadians more prosperous.

John Lester is a Fellow-in-Residence at the C.D. Howe Institute. He previously served as Director of Research for the Expert Panel Review of Federal Support to Research and Development.

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The views expressed here are those of the author The C.D. Howe Institute does not take corporate positions on policy matters.