Innovation plays a major role in creating new or improved technologies. In this article we examine some of the tax incentives available for research and development (R&D) and other technology incentives in the UK, Australia, US and Singapore.
UK R&D tax incentives
R&D projects are defined as those that seek to achieve an advance in a field of science or technology through the resolution of scientific or technological uncertainty.
In the UK, small or medium-sized enterprises (SMEs) with qualifying R&D activities are entitled to a 230% enhanced deduction on qualifying expenditure when calculating UK taxable profits, thereby providing additional tax relief of 24.7% (based on the current rate of UK corporation tax of 19%). This relief will become more valuable, increasing to 32.5% of qualifying expenditure, when the main rate of corporation tax in the UK rises to 25% from 1 April 2023.
A favourable aspect of the SME regime for loss making entities in the UK, is the scope to claim a repayable R&D credit from HM Revenue & Customs (HMRC), for that particular period. Until recently, this repayable credit has simply been calculated as 14.5% of the surrenderable loss(a surrenderable loss refers to the amount of tax losses that can be surrendered for the R&D repayable credit. The surrenderable loss is calculated by taking the lesser of: the amount of the unrelieved trading loss sustained for that tax period, and 230% of the related qualifying R&D expenditure). However, from 1 April 2021, the repayable credit is restricted to £20,000 plus 300% of the PAYE/National Insurance liability of the claimant company (and connected companies in some circumstances).
Qualifying expenditure for SME R&D projects is capped at €7.5 million per project. Where a project may exceed this cap, it is worth considering whether it could qualify as multiple separate projects, or whether the excess expenditure could qualify for relief under the large company scheme.
Large companies can claim the R&D expenditure credit (RDEC) on their qualifying R&D spend (12% from 1 January 2018 and 13% from 1 April 2020). The RDEC is itself taxable, so the effective tax saving, based on the current rate of corporation tax, is up to 10.53%. From 1 April 2023, this effective tax saving will fall to 9.75% when then UK rate of corporation tax rises.
Under the RDEC, a company can claim the credit as a cash payment from HMRC. However, there are detailed offset provisions against corporation and other taxes before the credit can be converted into a cash payment. There is also a limit based on the payroll taxes paid in respect of the R&D workers.
UK Patent Box
The UK’s Patent Box regime is a complex but generous tax incentive introduced in 2013 to encourage innovation in the UK by helping to reduce the costs of patenting for companies. The regime broadly offers an additional deduction in calculating taxable profits, with the effect that the relevant intellectual property profits are taxed at a reduced corporation tax rate of 10%. The regime will clearly become more valuable when UK corporation tax rates increase to 25% from 1 April 2023.
To qualify for Patent Box, a company liable to UK corporation tax must make profits from exploiting qualifying patented inventions (or certain other medicinal or botanic innovation rights). The company must either own qualifying patents, or hold exclusive licences for the rights to those patents. A development condition must also be met, so that only those companies sufficiently involved in the development of the qualifying intellectual property rights or products incorporating the patented invention can benefit from the Patent Box.
From 1 July 2021, all companies that have elected into Patent Box are subject to the new Patent Box Regime. This means that the overall Patent Box benefit is aligned to the economic substance of the qualifying IP right, calculated on a cumulative basis.
Australia’s R&D tax incentives
Australian resident subsidiaries of multinationals and non-resident companies with a permanent establishment in Australia may be eligible for the R&D tax incentives (RDTI).
From 1 July 2021, the RDTI provides a tax credit pegged at either 18.5%, 16.5% or 8.5% above the company’s prevailing tax rate, depending on the company’s size and the intensity of its R&D expenditure. Broadly, after foregoing a general tax deduction for the same expenditure, this will provide a net tax saving of equivalent cents in the dollar on eligible expenditure.
The higher tax 18.5% premium credit is awarded to smaller companies and groups with turnover of less than AUD 20 million (includes the turnover of global associates) .
Whilst larger companies must carry forward unused tax credits, smaller companies’ unused credits are refundable in cash where the company is otherwise in a tax loss position. Therefore, AUD 100 of eligible expenditure may generate a AUD 43.50 cash refund.
For larger companies, the tax credit will be based on a two-tiered premium that is broadly based on the amount of eligible R&D expenditure as a proportion of total expenditure for the year. This non-refundable R&D tax offset will be at the taxpayer’s corporate tax rate (25% or 30%) with a premium of:
- 8.5% for R&D expenditure up to 2% of total expenses; or
- 16.5% for R&D expenditure above 2% of total expenses.
The definition of R&D activity focuses on experimental activity carried out in pursuit of new knowledge, where the outcome of such activity cannot be predetermined.
Whilst the project or activity must generally be carried out in Australia, in certain circumstances it is possible for the resultant intellectual property to be beneficially owned offshore. However, written agreements must be in place with appropriate transfer pricing adjustments and any mark-up is excluded from eligible expenditure.
Tax incentives in the United States
The US has many federal and state incentives to encourage economic activity and drive growth. Two incentives at the federal level include R&D tax credit and foreign derived intangible income (FDII). An eligible US corporation can claim both incentives, which when combined can result in a favourable effective tax rate well below the new 21% US corporate tax rate.
R&D tax credit
The R&D tax credit is an incentive available for companies that develop new or improved products, processes, software, techniques, and formulae in the US, and provides a dollar for dollar offset against a company’s tax liability. Eligibility for the credit largely depends on whether the work a company undertakes meets the criteria established by the IRS in its four-part test. If the activity meets all four parts, the company has qualified research activity and is one step closer to claiming the credit.
The second step is identifying the costs to calculate the credit, which consist of wages, supplies, and amounts paid to third-party contractors, commonly referred to as qualified research expenses (QRE). The credit is equal to 14% of a company’s QRE in excess of a base amount or 20% of either the company’s QRE in excess of a base amount or 50% of the company’s QRE.
Any amount generated by way of R&D tax credit can be used to offset a company’s federal tax liability and in certain instances payroll taxes. Individual states also have R&D incentives which can be equally valuable, but they need to be evaluated on a state-by-state basis.
Foreign derived intangible income (FDII)
The FDII deduction is an export incentive available to Domestic C corporations (companies with limited liability and taxed separately from their owners) that sell goods or provide services outside the US. Subject to certain limitations, a Domestic C corporation may deduct 37.5% of its FDII up to 2025. Thereafter the deduction is reduced to 21.875%. The deduction of FDII results in an effective US tax rate on such income equal to 13.125% and 16.4%, respectively.
One of the Singapore government’s enduring policy aims is to make the country a knowledge and innovation-driven economy. To this end, Singapore has several incentives, in the form of both direct funding and tax concessions, to encourage innovation and R&D investment in Singapore. These incentives are introduced with the intention to cover the entire R&D life cycle, starting from the initial R&D phases through to the commercialisation stage.
For the years of assessment 2019 to 2025 (eg financial years ending 2020 to 2024), companies conducting qualifying R&D projects in Singapore (in-house or outsourced) will be granted a total tax deduction of 250% on eligible expenditure incurred on their qualifying R&D projects. For R&D projects conducted outside of Singapore, the company will be granted a deduction of 100% on R&D expenses, to the extent that they were incurred in relation to the company’s trade or business.
Costs incurred to protect intellectual property
In order to encourage businesses to invest in innovation and facilitate the commercialisation of innovations, an enhanced tax deduction will be granted on costs incurred in registering, among other things, patents, trademarks, designs and plant varieties as follows:
- An enhanced tax deduction from 100% to 200% on the first SGD 100,000 of qualifying expenditure for each year of assessment; and
- Any amount in excess of the first SGD 100,000 may continue to qualify for a 100% tax deduction. This enhanced tax deduction will be available until the end of 2024.
Intellectual Property Development Incentive (IDI)
Companies taking advantage of the IDI (granted for an initial period not exceeding 10 years, but potentially to be extended) will be subject to a reduced corporate tax rate at either 5% or 10% on their income from a qualifying intellectual property right, as determined by the tax authority. The concessionary tax rate is subject to a minimum increase of 0.5% at regular intervals as prescribed in the Singapore Income Tax Act, depending on the tenure of the scheme granted.
We can assist in advising on particular R&D incentives, and how they may benefit you and your business. If you would like any advice on R&D opportunities in the UK or internationally, please speak to Justine Stalker.