By Sam Bassingthwaighte, Associate and Lucy Burke, Paralegal
Over the past 18 months Australia has been positioning itself as the “Innovation Nation”. A key component of this strategy is increased investment in research and development (R&D), or more importantly, convincing businesses to invest in R&D. While it is true that tax incentives for R&D have been available in Australia, in some form or another, since 1985, the application and availability of today’s concessions are, by nature of the advancement of technology and business practices, on a much broader basis under the current scheme.
Despite this, Mills Oakley appreciates that for many businesses, the commitment of any capital, particularly in a tough economic environment, towards R&D might seem a somewhat secondary venture behind more traditional methods of attempting to increase efficiency and profit.
It is also a prevailing belief that R&D tax incentives are reserved only for tech companies and think tanks in laboratories. It is this belief that, and lack of understanding of the broad nature of what constitutes R&D under the current scheme, that prevents many businesses from claiming entitlements, or undertaking activities that would give them access to these entitlements.
It is our hope that the following summary will provide some clarity surrounding the R&D tax incentive scheme and, ultimately, increase your businesses’ bottom line.
1. The R&D Tax Offset: overview
The R&D tax incentive is an entitlement designed to help businesses offset some of the costs of conducting R&D activities.
Jointly administered by the ATO and AusIndustry, the scheme encourages companies to undertake R&D that will benefit the wider economy through new or improved products, processes and services.
The scheme applies to money spent on eligible R&D activity, and the decline in the value of tangible depreciating assets used for that R&D activity.
While many believe that the offset is only directed towards lab-based research facilities or cutting-edge technological organisations, the eligibility criteria for the scheme has the potential for a much broader application, and the provision of significant tax benefits for even commercially-focused operations.
The R&D Tax Incentive scheme is based on taxpayer self-assessment, so it is advisable to have a good grasp of whether your business is eligible in order to maximise your claimable benefits.
2. What is it worth?
The size and nature of the offset will be determined by the company’s turnover and the degree of R&D expenditure incurred in a given year:
- There is a higher refundable offset for smaller companies, with an aggregated turnover of less than $20 million. Recent changes to the R&D scheme reduced the offset by 1.5%, meaning the entitlement now sits at 43.5% of R&D expenditure.
- For aggregate turnover above that threshold, there is a smaller non-refundable offset worth 38.5% of R&D expenditure.
Notably, a company must have notional R&D deductions for an income year of at least $20,000 in order to claim an offset, although you are able to carry forward any unused offset for use in another income year.
3. Is my business eligible?
As noted above, eligibility of this offset is based on self-assessment. A company is generally entitled to claim if it can satisfy the following requirements:
- The company is an eligible R&D entity. This includes any company incorporated under Australian law, or a foreign company that is an Australian resident for tax purposes.
- The company undertakes eligible experimental ‘R&D activities’ over the income year. R&D activities can be either ‘core’ or ‘supporting’ activities. Supporting activities are directly related to core R&D activities, and are usually required in order for the core activities to take place.
The R&D activity should generally take on the nature of an experiment. The following should also be considered:
- Was the outcome of the experiment not known or determined in advance on the basis of current knowledge, information or experience?
- Was the experimental activity employed with scientific method?
- Was the purpose of the experiment to generate new knowledge or information?
- The R&D activities are conducted by the company, or by another company on its behalf. If the activity is conducted by someone else, the claiming company must demonstrate that it effectively owns the results, has appropriate control over performance of the R&D activities, and that it bears the financial risk of any activities.
- The company’s R&D deductions for the income year are at least $20,000.
- The company’s R&D activities are registered with AusIndustry within 10 months of the end of the income year.
Even if your company does not meet the criteria for an offset, you may still be able to claim a simple deduction for expenditure on R&D activities.
4. R&D activities: not just for lab coats
Importantly, the R&D Tax Incentive is open to companies from any industry in Australia.
While R&D activity must be undertaken for the substantial purpose of ‘generating new knowledge’, it does not need to be the activity’s dominant purpose. This means that activities with other substantial purposes, such as fulfilment of contractual obligations or making a financial return, may still qualify as supporting R&D activities.
For example, it has been suggested that software development for external purposes such as sales or customer service can qualify as an R&D activity. Production trialling activities for the purpose of improving the performance of a product, or for developing new or improved materials or processes, are also potentially R&D activities.
Note however that express exclusions apply for activities such as market research, customer or management surveys, mining exploration, any activity directed to complying with statutory requirements, or research in the area of arts, humanities or social sciences.
5. Claiming tips
Besides ensuring that eligibility requirements apply to your company, a number of things should be kept in mind to ensure that your company has the best chance of qualifying for an offset.
- Record-keeping: Good record-keeping is essential. Besides being vital for proving eligibility, AusIndustry and the ATO will, in most cases, conduct investigations to ensure that the activity and expenditure of a company is appropriate. As a consequence, there must be accurate and complete activity-based and expenditure-based record-keeping.
These records may include such things as meeting notes, business plans and approvals, background research and scoping, technical project documents, proof of experiments, observations and evaluations, timesheets, ledger entries and invoices, financial documents relating to records of expenditure and all relevant agreements and contracts.
- AusIndustry registration: One of the key conditions for eligibility is registration of a company’s R&D activity with AusIndustry. Companies with income years ending 30 June must ensure that registration has occurred by 30 April the following year.
In our experience, the R&D offset is often an essential method of assisting fund operations for early stage companies engaging in innovative activities, which includes, but is not limited to, the development of software and new methods of doing business.
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