Tax Relief for Innovation: Patent Box and R & D Credits Regime by Dan Brookes of BDO

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This is Dan Brookes's presentation to Leeds Inventors Group on 8 May 2013. Dan Brookes is a tax director of the Leeds office of BDO. The presentation is an introduction to the patent box, a tax …

This is Dan Brookes's presentation to Leeds Inventors Group on 8 May 2013. Dan Brookes is a tax director of the Leeds office of BDO. The presentation is an introduction to the patent box, a tax concession for companies with qualifying patents which came into force on 1 April 2013. It introduces the regime, sets out the conditions and contains a worked example. There is also an introduction to the existing R & D credits scheme

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  • 1. TAX RELIEFS FOR INNOVATIONPATENT BOX & RESEARCH & DEVELOPMENT TAXCREDITS REGIMESummary of the regimesDan Brookes8 May 2013Copyright © May 13 BDO LLP. All rights reserved.INVENTORS CLUB
  • 2. PATENT BOX
  • 3. THE BASICS OF THE NEW REGIME• 10% tax rate on patent profits• Applies to new and existing patents – granted by HMRC approvedpatent offices – UK, European and some EEA.• From the effective date – income on or after 1 April 2013• Split year treatment for 2013 year ends• Phase in over a five year period (60%, 70%, 80%, 90%, 100%)3Inventors Club
  • 4. PATENT BOXPhasing in the 10% rateFinancial Year 2013-14 2014-15 2015-16 2016-17 2017–18% of reduced tax rate inforce60% 70% 80% 90% 100%Main rate of CT(proposed)23% 21% 20% 20% 20%Small companies rate ofCT20% 20% 20% 20% 20%Effective patent box tax rates:Large companies: 15.2% 13.3% 12% 11% 10%Small companies: 14% 13% 12% 11% 10%* Assumes all sales qualify for patent box benefits4Inventors Club
  • 5. THE BASICS OF THE NEW REGIMEConditions and computation• Must be a ‗qualifying company‘• Computation of income in the box = three stage process5Inventors Club
  • 6. WHAT IS A QUALIFYING COMPANY?• Must hold relevant IP• Qualifying IP rights, or• Exclusive licence in respect of qualifying IP rights• Qualifying IP right• Patent granted by UK or European Patent Office (plus certain other patent offices)• Must meet the ―development criteria‖6Inventors Club
  • 7. INTRODUCTION TO PATENTSIPO definition (paraphrase s1 Patent Act 1977)• Invention must be- New, include an inventive step- Be capable of being made or used in some kind of industry• Invention must not be- Scientific or mathematical discovery, theory or method- Literary, dramatic, musical or artistic work- Way of performing a mental act, playing a game or doing business- Presentation of information or some computer programmes- Animal or plant variety- Method of medical treatment or diagnosis- Against public policy or morality7Inventors Club
  • 8. INTRODUCTION TO PATENTS• Traditionally a form of IP protection granted for up to 20 years- Maximise the breadth of the monopoly protection (‗broad claim‘)- Subject to ‗opposition‘ and challenge• (i) scepticism about value for smaller companies (ii) not traditional insome industries (iii) concern about public disclosure8Inventors Club
  • 9. PATENT BOX REGIMECalculation - Follow the Steps…Step 1Determine the part of company‘s taxable trading profit that isattributable to qualifying RIPI income• Excluding any R+D tax credit enhancement, but not R+D costs themselves• Exclude interest receipts and financing expenses• Allocate this adjusted amount between qualifying/non qualifying income— Turnover from sale of qualifying patents (see example)— Turnover from other activities• Allocate expenses on a pro-rata basis between qualifying/non qualifying.9Inventors Club
  • 10. PATENT BOX EXAMPLESale of a carPatentedsteering wheelWhole of profits from sale of car qualify10Inventors Club
  • 11. PATENT BOX REGIMECompany has trading turnover of £1,000 of which 70% is from the sale of qualifying patentproducts. Its tax deductible expenses of £775 include R+D, none of which qualifies for R+Dtax credits, and £75 for marketing.Step 1 Calculation: Divide taxable profit between qualifying and non qualifying income(split on a pro-rata basis though actual apportionment can also be used)Qualifying Non Qualifying TotalIncome 700 300 1,000Expenses- R+D (£100)- Marketing (£75)- Other (£600)(70)(52)(420)(30)(23)(180)(100)(75)(600)(542) (233) (775)Taxable trading profit 158 67 22511Inventors Club
  • 12. PATENT BOX REGIMECalculation - Follow the Steps…Step 2 Identify Qualifying Residual Profits (QRP)• Take out ―routine‖ profit that has not arisen from the ownership of the IP• Routine profit calculated using a cost plus methodology by taking 10% of the aggregateof the following costs— Capital allowances— Premises costs (deductible rent, rates, repairs, power etc)— Personnel costs— Plant & machinery costs (deductible leasing / servicing etc)— Miscellaneous services• Material content in product is the main excluded element of cost which is not subject tothe 10% adjustment12Inventors Club
  • 13. PATENT BOX REGIMEQualifying Non Qualifying TotalFrom Step 1:Income 700 300 1000Expense (542) (233) (775)Taxable profit 158 67 225Remove ‗Routine Profit‘-10% of expenses (54) 54 -Residual profit attributable to qualifying income 104 121 22513Inventors Club
  • 14. PATENT BOX REGIMECalculation - Follow the Steps…Step 3 Identify patent box profits by removing ‘Marketing Assets Return’• Determine how much of residual profit is attributable to the patent and how much is dueto non-patent IP assets – i.e. The awareness of the brand name in the marketplace• May require a brand valuation to be performed or evaluation of what a company wouldpay as a ‗notional marketing royalty‘ to a third party to exploit the assets• Any actual marketing royalty paid can be deducted from the notional marketing royaltyto arrive the relevant deduction from Qualifying Residual Profits• Alternative is to elect for small claims treatment which removes 25% of QualifyingResidual Profit as a Marketing Assets Return.• Small claims treatment places a ceiling on the profits subject to Patent Box benefits of£3million.14Inventors Club
  • 15. PATENT BOX REGIMEQualifying Non Qualifying TotalFrom Step 1:Income 700 300 1000Expense (542) (233) (775)Taxable profit 158 67 225Remove ‗Routine Profit‘- 10% of expenses (54) 54 -Residual profit attributable to qualifying income 104 121 225Remove ‗Marketing Assets Return‘- Assume 5% of sales (35) 35 -69 156 225Total tax at 10%/23% 7 36 43Total tax under old rules at 23% 5215Inventors Club
  • 16. PATENT BOX REGIMEPatent Box Losses• Losses in early stages of IP development could derive a ‗Relevant IP loss‘• In the event of a relevant IP loss, the loss must first be offset against any other PatentBox trades of the same company with Relevant IP Profits• After any reduction for the above, any remaining loss must be set off against Relevant IPProfits of other relevant group companies for the relevant accounting period• If, after the application of both of the above offsets, the company has a remaining set-off amount, this is carried forward against any Relevant IP profit arising in the followingaccounting period16Inventors Club
  • 17. PATENT BOX REGIMEOther considerations• A separate calculation must be carried out for each company holding a qualifying patent• As patent profits may be generated between application and grant, there is a look backperiod between application and grant of the patent. These profits can qualify for PatentBox benefits• Patent Box benefits can be utilised in addition to claiming R&D tax credits17Inventors Club
  • 18. PATENT BOX REGIMEPotential Action Points• Confirm first accounting period when Patent Box applies (profits arising post 1 April2013)• Confirm history of patents – date of grant or application and country of registration• Extrapolation of underlying income streams• Preliminary feasibility – decision as to whether to opt into the regime18Inventors Club
  • 19. RESEARCH AND DEVELOPMENT TAX CREDITS
  • 20. RESEARCH AND DEVELOPMENTBENEFITSInventors Club20• Monetary benefitsSmall companies (less than 500 employees and either turnover less than €100million or assets of less than €86 million).- For every £100 of qualifying expenditure, the company is entitled to an additional £125deduction for tax purposes- At a tax rate of 23% this equates to a benefit of £28.75 for every £100 of qualifying expenditureLarge companies (more than 500 employees)- For every £100 of qualifying expenditure, the company is entitled to an additional £30 deductionfor tax purposes- At a tax rate of 23% this equates to a benefit of £6.90 for every £100 of qualifying expenditure• Cash repayment – available from 1 April 2013 for large companies• Tax R&D is different to accounting R&D
  • 21. Inventors Club21RESEARCH AND DEVELOPMENTWHICH PROJECTS QUALIFY?Per DTI Guidelines• The Project must be seeking to obtain an advance in science or technology.• Activities that are qualifying R&D are those that directly contribute to theadvance, through the resolution of scientific or technological uncertainty (seeexamples)• Does it qualify – it is considered from the viewpoint of a ‗competentprofessional in the field‘
  • 22. Inventors Club22RESEARCH AND DEVELOPMENTTYPICAL QUALIFYING EXPENDITURE• Wages and salary costs• Consumable materials• Utilities• Software• Qualifying indirect overheads
  • 23. BDO LLP, a UK limited liability partnership registered in England and Wales under number OC305127, is a member ofBDO International Limited, a UK company limited by guarantee, and forms part of the international BDO network ofindependent member firms. A list of members names is open to inspection at our registered office, 55 Baker Street,London W1U 7EU. BDO LLP is authorised and regulated by the Financial Services Authority to conduct investmentbusiness.BDO is the brand name of the BDO network and for each of the BDO Member Firms.BDO Northern Ireland, a partnership formed in and under the laws of Northern Ireland, is licensed to operate within theinternational BDO network of independent member firms.Copyright ©2013 BDO LLP. All rights reserved.www.bdo.co.uk