The five year transition into the UK’s updated patent box regime comes to an end on 30 June 2021 and companies that have ongoing claims under the pre-1 July 2016 rules will now have to apply the updated rules to all claims.
Companies that have not already reviewed the way they hold IP that generates patent box income should do so now as claims from 1 July 2021 onwards will be significantly reduced if the company holding the IP does not directly undertake the research and development.
Linking patent box relief to ongoing R&D
Under the UK patent box rules, as long as a UK company owns a UK or European patent (or exclusive rights to that patent), all worldwide sales derived from that patent going into the UK company may be included in the four stage patent box calculation:
1. Allocate taxable profits to either a patent box stream or a non-patent box stream
2. Reduce this by an element of normal profit (known as the routine return deduction)
3. Reduce this for an element of profits relating to brand (known as the marketing asset return).
4. Apply the R&D fraction to the figure calculated after stages 1 to 3.
How the R&D fraction works
From 1 July 2021, all patent box claims follow the ‘modified nexus’ approach linking relevant R&D expenditure to the patent or patented item.
This requires an R&D fraction to be calculated for each type of IP (assets, products, or product families) to which relevant income is attributable. The calculation is based on the attributable R&D expenditure by the company in the accounting period of the patent box claim.
The new calculation is given as:
the lesser of 1 and (D+S1) x 1.3
D = In-house qualifying relevant expenditure on R&D
S1 = Qualifying relevant expenditure on R&D subcontracted to third parties
S2 = Qualifying relevant expenditure on R&D subcontracted to connected persons
A = Expenditure on acquisition of qualifying IP.
The result is known as Relevant Intellectual Property (IP) Profits to which the reduced patent box tax rate (10%) applies once a company-wide election has been made.
While on the face of it , the effort required to track profits derived from qualifying IP (in management time and cost) may outweigh the benefit of making patent box claims, with UK corporation tax rates set to increase from 19% to 25%, there is no better time to revisit this presumption. Our experience is that whilst there is effort in the first year of a patent box claim, with appropriate planning of the design of processes and methodologies, subsequent year claims should be less complex. We believe that all companies that undertake R&D should actively consider how they can benefit from the patent box as well as R&D tax credits.
Businesses that make patent box claims do not necessarily have to develop sophisticated systems to identify the qualifying profit streams that flow from their IP. However, where the group and IP ownership structure is complex, more detailed analysis of how to track and trace the relevant expenditure may be required.
How we can help
The patent box rules can seem complex, particularly with the introduction of mandatory streaming and the Nexus fraction.
However, BDO has a multi-disciplinary team of experts including Patent Box, R&D and transfer pricing specialists, to assist you at all stages to cut through the complexity. We can help you put appropriate systems to capture qualifying income and expenditure in place and make successful elections to make the most of this valuable Government incentive.
If you would like to discuss any aspect of the patent box, please do not hesitate to contact Carrie Rutland or Ross Robertson.