Letting the innovation genie out of the Patent Box
As evidenced by the well-established R & D tax legislation, the UK government looks to support innovation through the tax system, writes Tim Shaw, associate partner with Ensors Chartered Accountants.
Following this theme, the patent box legislation was introduced with effect from 1 April 2013 although the effect of the legislation was phased in and full relief was not available until 1 April 2017.
The relief looks to extend support through the tax system to the point in a company’s lifecycle where intellectual property is not just being developed but is actually being exploited for commercial gain.
Notwithstanding this, it is common for companies which are still undertaking R & D activities, and claiming R & D tax relief, to also claim relief under the patent box legislation and the patent box is designed to encourage ongoing R & D.
The intention of the legislation is for qualifying companies to pay tax (by 2017) at an effective rate of 10 per cent on patent-related profits, as opposed to the standard rate of corporation tax of 19 per cent.
Slightly confusingly, the relief is not actually achieved by taxing profits at this lower rate; rather the relief is given by reducing the amount that is subject to tax at the 19 per cent rate.
Profits potentially qualifying for the lower effective rate of corporation tax include those arising from the sales of patented items, licence fees, proceeds from the sale of the patent itself and infringement income.
The benefit of the patent box legislation is available only to companies. Consequently, where an individual inventor has applied for or obtained a patent, relief will not be available unless the patent is first sold to, or licensed to, a company. Before doing so, the inventor should consider any commercial issues and personal taxation exposures that could arise from this.
The relief extends to patents granted by the UK Intellectual Property Office and the European Patent Convention and to certain patents granted by specified EEA states. Importantly, US registered patents do not qualify for relief (unless the patents have also been registered with the above bodies).
It should be noted that the legislation does not apply to profits arising from other intellectual property such as copyright or trademarks. Relief is also available in respect of the patent pending period provided that the company has elected into the patent box, although the tax savings are only crystallised when the patent is actually granted.
Computing tax relief under the legislation requires a complex eight-step calculation (not set out here for brevity) with income and costs being streamed into patented product or process streams – this must be done separately for each patent.
Further adjustments have to be made for ‘routine’ and marketing returns and various other steps before finally reaching an amount to be deducted from taxable profit so as to give the required relief. Claims under the legislation are restricted to ensure that the claimant only benefits for patents developed in-house or by the use of unconnected subcontractors.
The benefit of the patent box legislation is not automatic, and companies must elect to make use of the scheme. The election must be made within two years from the end of the accounting period for which it will first apply, which need not be the period in which the patent is applied for or granted.
The patent box legislation is well intentioned and can deliver substantial tax savings to companies which fall into it. However, it is clear that it has not been utilised by taxpayers in the same way as the R & D tax regime (patent box claimants number approximately five per cent of those claiming R & D tax relief).
The latest available statistics (albeit that these are for the 2014/2015 year where full relief was not yet available) show 1,135 companies claimed patent box relief totalling £651.9m. Of this amount, almost 95 per cent was claimed by ‘large’ companies.
The relative complexity of the legislation has undoubtedly contributed to the low take up of available relief. In addition, the phased in nature of the relief has also not helped as the value of the relief available in 2013 was relatively low.
There is a perception amongst smaller companies, and often their advisers, that patent box relief is excessively complex and geared to larger companies with greater resources (and budgets) for compliance matters. However, this should not be the case as well-advised SMEs making profits that qualify for relief can often obtain substantial benefits even when compliance costs are taken into account.
It should be noted that the European Commission ruled that the original patent box legislation was anti-competitive, and the UK rules were amended with effect from 1 July 2016.
The above has set out the position under these updated rules but it is therefore possible that patent box may be an area of legislation that is reconsidered subsequent to Brexit.
The patent box legislation is complex and professional advice should always be taken before any claims are made under the legislation or any relief is assumed. Nevertheless, it is a valuable tax relief for companies of all sizes that make appropriate qualifying profits.
• You can call Tim Shaw on 01223 428314 or email: tim.shaw [at] ensors.co.uk