Is your new software eligible for Patent Box tax relief?

Innovation in digital technology is increasingly seen as a vital driver of business growth, and investment in developing software and digital solutions has never been higher. Governments also recognise the economic importance of these investments by offering tax incentives: a claim for UK Patent Box tax relief can give an effective 10% rate of corporation tax for patent-related profits. However, historically, there has been a perception that the Patent Box does not apply to software, as patenting software within the UK or Europe is “notoriously difficult”.

Patenting software – the truth behind the myth

Although the UK Patents Act (UKPA) and European Patent Convention (EPC) specifically exclude programs for computers, discoveries, scientific theories and mathematical methods, the exclusions are limited. Provided computer-implemented inventions broadly have technical character and are novel and inventive (note that only features which contribute to the technical character can support an inventive step), the two hurdles outlined by the EPC are met.

Whilst not identical, practice in the UK and Europe is very similar – provided the invention solves a technical problem or improves a technical process, ie where a process improves the memory or speed of a machine, it could be patentable. For example, a computer-implemented method for time stamping a transaction, wherein an application documents a time of payment to authenticate a user would be providing a technical solution to a technical problem, and therefore would meet the hurdles outlined.

In recent years, companies are increasingly successful in applying for patents over their software platforms, thereby enabling them to access to the UK Patent Box regime.

Financing cutting edge technology

Businesses often need to develop bespoke software in order to expand, integrate internal systems, improve sales and services, and increase customer engagement. In many cases, it is possible to patent software needed for this expansion. Increasingly, software development is often a large but essential investment for many companies, and the resulting software may be widely used across a group, with costs being shared, for example, by way of intra-group licensing fees.

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 can qualify. Licence fee or royalty income arising from the licence of any right which is licensed for the same purpose as a patented right can also fall within the Patent Box, even if the income arises from a company in the same group. Although not as beneficial, it is also possible to include a notional royalty (e.g. a percentage equivalent to a royalty of any income) if the company receives income that isn’t directly from the sale of a product incorporating the patent, or a licence fee or royalty income.

Tax relief to support software developments

Of course, Patent Box is not the only tax incentive available for innovative companies - companies will be claiming R&D tax credits in addition to Patent Box. The European Patent Office’s requirement for a software invention to provide a technical contribution or a technical solution to a technical problem is remarkably similar to the requirement for R&D activities to qualify for R&D tax credits – to seek an advance in science or technology through the resolution of scientific or technological uncertainty.

Since 1 July 2021, all Patent Box claims must follow the ‘modified nexus’ approach linking relevant R&D expenditure to the patent or patented item. This links R&D spend with each type of IP (assets, products, or product families) to which relevant patent derived income is attributable.

For Patent Box claims, the number of patents is not important, and nor is their value. What is important is how the rights are put to use by the company or group. Depending on how the patented element is used, a single patent within a product or software can enable all profits derived from that product (whether directly or indirectly) to qualify for the patent box.

Patent applications within the computer technology field have been steadily increasing, and in 2020, this was the third biggest field of technology in terms of patent applications*. This trend is expected to accelerate in future, not least because, with corporation tax due to rise from 19% to 25% from 1 April 2023, Patent Box tax relief will become much more beneficial – effectively giving a 60% reduction in the tax liability on income that qualifies for relief.

*Statistics provided by the European Patent Office