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Companies to be tested on Research and Development spending

Research and Development intensity test

Ramanie Naidoo and Liz Dallimore look at proposed changes to the Research and Development Tax Incentive.

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Companies with an annual turnover greater than $20 million may soon be placed on a tiered scale for the tax offset for research and development (R&D) spending, if new legislation is passed.

The proposed changes to the Federal Government’s Research and Development Tax Incentive (R&DTI) will have businesses closely examining their expenditure.

The exposure draft of the Treasury Laws Amendment (Research & Development Incentive) Bill 2018, which was foreshadowed in May’s Budget, reveals a new intensity test for business. With the proposed intensity threshold test, the more a company spends on R&D as a proportion of its total expenditure, the greater the tax offset for that incremental expenditure. The non-refundable R&D tax offset calculation for these companies is outlined by Treasury as follows:

The claimant's tax rate for the year, plus:

  • 4 percentage points for R&D expenditure between 0 percent and 2 percent R&D intensity (inclusive)
  • 6.5 percentage points for the R&D expenditure above 2 percent and up to 5 percent R&D intensity (i.e. not including R&D expenditure falling within the first 2 percent of the claimant's total expenses for the year)
  • 9 percentage points for the incremental R&D expenditure above 5 percent and up to 10 percent R&D intensity
  • 12.5 percentage points for the incremental R&D expenditure above 10 percent R&D intensity.

Defining R&D expenditure

A crucial element of the proposed legislation is how to calculate the total expenditure for the denominator of the intensity fraction, as it is proposed that this would be defined as per accounting principles. But there is no accounting standard definition of 'expenditure', which may leave room for confusion and misstated claims.

For example, the expenditure definition could potentially include financing costs. If a company borrows funds for its R&D program, the interest costs may mean it has a lower R&D intensity spend than a company which self-financed its R&D program. Excluding financing expenditure from the expenditure calculation would provide a more genuine measure of intensity, in terms of R&D expenditure as a percentage of operating and capital expenditure.

Cost of calculating tax offets

When it comes to calculating tax offsets under the proposed legislation, there could be considerable additional costs involved for some private companies (more likely those with a turnover between $20 million and $25 million), which may not currently be required to prepare audited accounts or apply Australian accounting standards in maintaining their financial records.

Separately, companies with an annual turnover of less than $20 million that claim the refundable R&D tax offsets will have cash refunds capped at $4 million per year (this is excluding claims for clinical trials, which are exempt from the cap, although the extent to which expenditure is incurred on eligible clinical trial activities still requires some clarification). The refundable R&D tax offset will be set at 13.5 percentage points above the company’s tax rate.

The legislation also proposes to publish the names of companies that are claiming R&D tax offsets, and the amount of R&D expenditure they have claimed, in an attempt to increase transparency. However, commercial confidentiality should be a consideration for the Federal Government in deciding how soon after the financial year that data should be released.

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