R&D tax regime should include broader range of projects

R&D tax regime should include broader range of projects

The article is published in The Business Times on 17 February 2015.

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To allow claims only when the projects are "revolutionary" breakthroughs is to set too high a bar for firms that are still new in their innovation endeavour.

In economic circles, it is taken as received wisdom that innovation - defined here as the application of knowledge in a novel way, primarily for economic benefit - is good. Faster innovation is even better. We can never have too much of it.

Businesses regard it as a sure-win way of beating their corporate competitors. Governments believe innovative environments are crucial for their economies to prosper.

So each year, we see rankings of the "research and development (R&D) intensity" of countries and companies - how much bang we get for each research buck that is spent. It is assumed that more spending leads to better economic or financial outcomes.

In 2014, the biggest R&D spenders were those that we're all familiar with. We encounter them when we drive (Volkswagen, Toyota), answer our phone (Samsung), log in to our computer (Intel, Microsoft, Google), and buy our medicine (Roche, Novartis).

But the relationship between R&D spending and financial performance may not be as strong as is commonly assumed. Instead, what matters most are the capabilities that successful companies line up to sharpen their innovative edge.

To be sure, all successful companies engage in a common core of innovation capabilities that define them. These include the ability to gain insights into customer needs and to understand the potential relevance of emerging technologies at the ideation stage, to engage customers to prove the validity of concepts during product development, and to work with pilot users to roll out products carefully during commercialisation.

Beyond this common core, a distinct set of capabilities sets apart top innovators which are aligned to their overall corporate strategy. For some, innovation is delivered by directly generating deep customer insights. For others, supplier-partner engagement is key to their value creation process. For yet others, market niche comes from a detailed understanding of emerging technologies and trends.

The most innovative companies are those that focus on a particular, narrow set of common and distinct capabilities that allow them to better deliver on their chosen strategy.

Equally, the strategy and capabilities that companies choose to develop often influence where their innovations will originate from. A recent global survey found that the best ideas of technology-driven companies may come from scientific breakthroughs or planned investment in innovation programmes. But for many others, changes in industry or market structure or shifts in consumer tastes or habits are what inspire new products or services. For yet others, innovation is found in developing solutions to rectify inadequacies in existing processes, products or services.

If the strategies, capabilities and origins of innovation are so rich and diverse across industries and companies, it would pass muster that to be effective, incentive schemes that aim to encourage innovation must be equally calibrated. Otherwise, we may find that the very schemes meant to foster innovation end up stifling it.

A recent KPMG Pre-Budget poll of 203 Singapore-based businesses suggests that our innovation incentive schemes need some finetuning.

One in three businesses wanted easier access to current innovation-related incentives and certainty in securing their claims. One in four thought it necessary to have a broader definition or interpretation of R&D for tax incentive purposes that includes innovations outside science and technology. In some ways, these businesses are calling out for both "revolutionary" and "evolutionary" developments in innovations to be recognised.

Our interactions with local firms bear out the poll results. A company that undertakes R&D to introduce the Radio Frequency Identification (RFID) technology to raise productivity in the construction industry should count as an evolutionary development of the RFID technology. Their work, and projects of similar nature, should be incentivised under the current R&D Tax Incentive scheme.

Developmental projects that, say, integrate existing technologies to deliver new applications, such as by combining available technologies to facilitate accurate tracking of vehicle movements or to prevent aircraft collisions, are further examples of projects that should fall within the scope of R&D for tax incentive purposes.

These "evolutionary" developments of existing technologies widen their applications across a broader spectrum of usage. They accrue benefits to the economy in the form of higher productivity and better safety standards, among others. For companies, being made to fly before learning to walk is a daunting task. To allow R&D tax claims only when the projects are "revolutionary" breakthroughs is to set too high a bar for our local companies that are still new in their innovation endeavour.

If innovation comes as much from sales, marketing and extension of existing technology as it does from breakthrough scientific discoveries, as studies have repeatedly shown, it only stands to reason that we recognise, support and incentivise companies accordingly.

Small-medium enterprises, in particular, can develop new ways to utilise and combine existing technologies to provide functionalities applicable to Singapore's environment. There are only a few equivalents of Google and Oracle in the world, but there are thousands upon thousands of companies that can generate large aggregate gains by using and extending the innovations from the pioneers. Standing a tip behind the frontier of innovation can still bring vast economic gains, both at the company and country level.

It's time our R&D tax structure reflected this, and recognised a broader range of projects under its umbrella of schemes.

The article is contributed by Tay Hong Beng , Head of Tax at KPMG in Singapore and Chiu Wu Hong, Head of Enterprise Incentive Advisory at KPMG in Singapore. The views expressed are their own.

 

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