Last month, the UK and Germany reached an agreement on a joint proposal to put forward to the Organisation for Economic Co-operation and Development (OECD) Forum on Harmful Tax Practices (FHTP). This is intended to further the negotiations on new rules for preferential Intellectual Property (IP) tax regimes.
The OECD proposes to implement a set of rules that require any tax benefits to be directly linked to Research and Development (R&D) expenditure in a particular country. Following bilateral discussions, the UK and Germany have built on this proposal to address the potentially difficult aspects of how to calculate and track qualifying expenditure, as well as providing transitional arrangements to accommodate existing schemes.
Since the UK Patent Box scheme was introduced in April 2013, it, along with similar schemes elsewhere, has attracted a measure of controversy. Some believed that schemes like Patent Box could lead to artificial shifting of profits from countries with less preferential IP tax regimes. The German finance minister, Wolfgang Schäuble, has previously been heavily critical of the Patent Box regime, indicating that he believed such schemes go against the spirit of EU anti-discriminatory rules.
Under the existing scheme in the UK, a company can benefit from a reduced rate of corporation tax on profits generated from a product covered by a UK patent. Sales of patented products, licensing and/or sale of patent rights can all constitute profits that can benefit from the reduced rate of tax. To qualify for the current scheme, a company must simply own or exclusively license a UK patent and have made a significant contribution to the creation or development of the patented invention. The full benefit of the regime is still being phased in and by 2017 companies can expect to benefit from a reduced 10 per cent rate of corporation tax.
If the proposal put forward by the UK and Germany is accepted and implemented by the OECD, the existing Patent Box scheme will be phased out in the UK and in the future companies can only expect to receive tax benefits from patents directly linked to R&D activity in the UK.
The proposal further emphasises the importance of developing practical and proportionate methodologies that can be followed by companies and tax authorities in order to track and trace R&D expenditure. Additionally, whilst related party outsourcing or acquisition costs would not appear to directly qualify as R&D expenditure, the UK and Germany propose that companies should be able to obtain a maximum 30 per cent uplift of qualifying expenditure (subject to a cap based on actual expenditure).
A key part of the joint statement relates to transitional arrangements that will see all existing regimes, including Patent Box, closed to new entrants in June 2016. However, under the proposals, Patent Box would not be finally abolished until June 2021. In anticipation of these changes, companies should consider enrolling into Patent Box before June 2016 if they wish to benefit from the more liberal qualifying criteria of the current regime.
At the outset, the stated aims of Patent Box were to foster innovation in the UK and to encourage companies to locate high-value jobs associated with the development, manufacture and exploitation of patents in the UK. Therefore, whilst the proposed changes may cause some financial uncertainty in the short-term, the linking of tax benefits to R&D expenditure in the UK would at least not appear to be detrimental to the original purpose of Patent Box.
Whatever the outcome of the joint proposal from the UK and Germany to the OECD’s FHTP in January next year, at the very least, it is clear that schemes like Patent Box have not only brought IP into the headlines but also propelled it higher up the priority list of many organisations. Often companies only seek to justify investment in patent protection retrospectively – for example, when using a patent to successfully block a competitor from entering the market or to obtain annual royalties from a highly profitable licence agreement. However, as a result of tax regimes like Patent Box, a company board can now see a direct financial benefit of obtaining patents for their innovations from the outset, providing further impetus for companies to ensure their innovations are both properly identified and protected.
• Mairi Rudkin is a chartered and European patent attorney with Marks & Clerk www.marks-clerk.com