Late last week, the Treasury Laws Amendment R&D Tax Incentives (Research and Development Tax Incentive) Bill 2019 (the revised bill) was introduced to the House of Representatives.
The revised bill contains proposed changes to the R&D Tax Incentive. The history of the revised bill stems from a 2016 review of the R&D Tax Incentive report and proposals announced in the May 2018 Federal Budget.
Unfortunately, the revised bill does not appear to have taken into consideration guidance issued by tax practitioners, industry bodies, and Australian companies that rely on the R&D Tax Incentive.
The proposed changes are set to take place retrospectively from 1 July 2019. Key impacts on your business are outlined below.
Key Proposed Change 1: Reducing the tax refund available for SMEs
Currently, the R&D Tax Incentive provides a 43.5% refundable tax offset for claimants. What this means is that for every $1 of R&D expenditure, a company receives a 43.5c tax offset. This tax offset is first used to pay any tax owing to the ATO, with the remaining offset being cashed out as a refund. As such, for companies that are pre-revenue, they can receive the full 43.5% of R&D expenditure as a cash refund.
Under the proposed changes, the Federal Government wants to peg the offset rate to the corporate tax rate. Basically, the Federal Government wants the refundable offset rate to be the company tax rate plus 13.5%. In theory, this means that a small company with a 27.5% corporate tax rate, will only receive a refundable offset rate of 41% (i.e. 27.5% + 13.5%).
This is a 2.5% decrease from what is currently available. In future financial years, where the corporate tax rate is set to drop to 25%, the refundable offset rate will, in turn, diminish to 38.5%. This is a reduction of 5% is quite substantial. For example, in FY22 where a company would spend $100k on R&D, where they may once have received a cash refund of $43.5k, they will instead receive $38.5k.
Proposed Change 2: Application of Complex R&D Premiums
The proposed changes are set to not only impact the SME community, but also the big end of town.
Currently, companies with turnover greater than $20m receive a 38.5% non-refundable tax offset. This means that for every $1 of R&D spend, 38.5c is used to offset any tax owing, with any excess tax offset being carried to future financial years (similar to ordinary tax losses).
What are the changes?
Under the proposed changes, the Federal Government wants to introduce an R&D intensity threshold, calculated by dividing R&D spend by total expenses.
Leaving aside the administrative burden and technical ramifications associated with such a loosely defined formula, the proposed R&D intensity threshold is set to tier R&D offset rates so as to minimise the R&D benefit available for large companies. The R&D intensity tiers are as follows:
- An R&D intensity rate of less than 4% receives a tax offset equivalent to the company tax rate plus 4.5%.
- The R&D intensity rate between 4% to 9% receives a tax offset equivalent to the company tax rate plus 4.5% for R&D expenditure between 0% to 4% R&D intensity, and a tax offset equivalent to the company tax rate plus 8.5% for R&D expenditure between 4% to 9% R&D intensity.
- R&D intensity rate greater than 9% receives a tax offset equivalent to the company tax rate plus 4.5% for R&D expenditure between 0% to 4% R&D intensity, a tax offset equivalent to the company tax rate plus 8.5% for R&D expenditure between 4% to 9% R&D intensity, and a tax offset equivalent to the company tax rate plus 12.5% for R&D expenditure above 9% R&D intensity.
The majority of large companies would have an R&D intensity of less than 4%. As such, the R&D offset rate available to them would be 34.5% (i.e. 30% corporate tax rate plus 4.5% R&D tax offset). This equates to a 4% difference between the current offset rate available (38.5%) and the new rate (34.5%).
Key Proposed Change 3: Cap on R&D Refunds
The revised bill continues to implement an annual cap on R&D tax offset refunds of $4m per year, with any remaining R&D tax offsets being treated as a non-refundable tax offset that can be carried forward to future financial years.
Many readers out there will think that this $4m is fair game. After all, do companies really need more than a $4m cash injection from the Federal Government?
Well, Australia’s life sciences community is growing and Australia has become a premium destination for multinational firms that want to set up a company and hire Australian research organisations to conduct R&D onshore. The economic flow-on effects of this are enormous.
Although the proposed changes do not apply to clinical trials, this $4m refund cap could be quite detrimental, especially when you consider the impact of proposed change #4…
Key Proposed Change 4: Clinical Trials Defined
As outlined above, eligible expenditure on clinical trials will be scoped out of the refundable cap. The definition of clinical trials, given by the Federal Government, is written in a very narrow manner. One cannot help assume that activities the life sciences community would consider part of an ordinary clinical trial, will not be included.
The definition of a clinical trial as given by the revised bill is as follows:
(1C) A clinical trial is a planned study of the safety or efficacy in humans of an intervention (including a medicine, vaccine, treatment, diagnostic procedure or medical device) with the aim of achieving at least one of the following:
(a) the discovery, or verification, of clinical, pharmacological or pharmacodynamic effects;
(b) the identification of adverse reactions or adverse effects;
(c) the study of absorption, distribution, metabolism or excretion.
The complete lack of amendments in response to the bipartisan Senate Committee’s recommendations, tax practitioners’ advice, letters from industry bodies and Australian companies is extremely discouraging.
Looking forward, the revised bill will now be debated in early 2020. If enacted, there is the potential that many Australian companies will opt out of the R&D Tax Incentive altogether and offshore their operations to nearby countries, such as New Zealand, which recently introduced a 15% R&D tax credit.
If you have any concerns over the proposed changes or would like to discuss and plan for the proposed changes should they occur, please contact BridgePoint Group on 1300 656 141. Our Innovation Advisory and consultancy team is based in North Sydney.