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Budget 2016: key IP and R&D announcements
Practical Law UK Legal Update 7-625-0126 (Approx. 5 pages)
Budget 2016: key IP and R&D announcements
by Practical Law IP&IT
| Published on 17 Mar 2016 • United Kingdom |
A summary of the intellectual property and research and development implications of the March 2016 Budget.
Speedread
The March 2016 Budget contained a number of announcements relating to intellectual property and research and development (R&D).
In particular, these concerned withholding income tax on royalties, the patent box and compliance with base erosion and profit shifting, vaccine research relief expiry and the calculation of the small and medium size enterprises state aid cap that applies to R&D expenditure.
Facts
The key intellectual property (IP) and research and development (R&D) announcements of the March 2016 Budget are summarised below.
(For more comprehensive coverage of the budget as a whole, see 2016 Budget.)
Withholding income tax on royalties
The Finance Bill 2016 will contain legislation providing additional obligations to deduct income tax at source from royalties paid to non-resident persons in the following circumstances:
- Arrangements have been entered into that exploit the UK's double taxation agreements (tax treaties) to ensure that little or no tax is paid on royalties either in the UK or anywhere in the world. This measure will have effect for payments made under tax avoidance arrangements from 17 March 2016.
- The category of royalty is not currently one for which there is an obligation to deduct tax under UK law. This will have effect for payments made on or after the date of Royal Assent to the Bill.
- Royalties that do not otherwise have a source in the UK are connected with the business that a non-UK resident person carries on in the UK through a permanent establishment (PE) in the UK. This will have effect for payments made on or after the date Royal Assent to the Bill.
The measures will align the UK deduction of tax at source regime for royalties with the UK taxing rights over such income and counteract contrived arrangements that are used typically by large multi-national enterprises that result in the erosion of the UK tax base. The government has published draft legislation, a draft explanatory note and a technical note on the measures.
For a discussion of the UK's withholding tax regime, see Practice note, Withholding tax. For an introduction to the purpose and interpretation of double tax treaties, see Practice note, Double tax treaties: an introduction.
Taking each circumstance outlined above in turn:
- A new section 917A of the Income Tax Act 2007 (ITA 2007) will apply if a royalty payment is made to a connected person as part of arrangements the purpose of which is to obtain a tax advantage by virtue of a provision of a tax treaty, except if obtaining that benefit in those circumstances accords with the object and purpose of that treaty. If new section 917A of ITA 2007 applies, the payment must be made under deduction of income tax regardless of any treaty which would otherwise restrict the UK's taxing rights.
- Legislation will be introduced at a later stage of the Finance Bill 2016 process to amend the definition in section 907 of ITA 2007 of IP rights for which the duty to deduct income tax from royalties applies. This will ensure that it is consistent with the definition of rights in respect of which income is chargeable to tax in the Income Tax Acts.
- Legislation will also be introduced at a later stage of the Finance Bill 2016 process to add a new provision to the Tax Acts providing that royalties connected with a PE that a non-UK resident person has in the UK will be considered to come from a UK source. Consequential changes will also be made to the diverted profits tax to ensure that no advantages accrue if royalties are connected with avoided PEs (see Practice note, Diverted profits tax: Avoidance of UK permanent establishment) as compared to actual PEs.
(See HM Treasury: Budget 2016, paragraphs 1.211 and 2.96, Overview, paragraph 1.30, HM Treasury: Business tax road map, paragraph 2.40, HM Government: Budget 2016: policy costings, page 18 and HMRC: Income Tax: royalty withholding tax: TIIN.)
Patent box: compliance with base erosion and profit shifting (BEPS)
The government has confirmed that it will make the patent box compliant with base erosion and profit shifting (BEPS), making the lower tax rate dependant on and proportional to the extent of R&D expenditure incurred by the company claiming the relief. This will come into effect on 1 July 2016.
The government published draft Finance Bill 2016 legislation to this effect in December 2015. For a detailed examination of the patent box as modified by the draft Finance Bill 2016, see Practice note, Patent box.
(See HM Treasury: Budget 2016, paragraph 2.99, HM Treasury: Business tax road map, paragraph 2.29 and HM Government: Budget 2016: policy costings, page 22.)
Vaccine research relief expiry in 2017
Vaccine research relief, which entitles large companies to corporation tax relief for spending on R&D relating to vaccines and medicines for the prevention and treatment of certain diseases, will cease to apply to expenditure incurred on or after 1 April 2017. The relief will be abolished due to a low take-up and the expiry of state aid approval on 31 March 2017.
For more details on the relief, see Practice note, R&D tax reliefs: practical aspects: Vaccine research relief.
(See HM Treasury: Budget 2016, paragraph 2.85 and HMRC: Vaccine research relief: expiry in 2017.)
SME R&D relief: state aid cap calculation
The Finance Bill 2016 will implement changes that amend the calculation of the small and medium size enterprises (SMEs) state aid cap that applies to R&D expenditure. The changes will mean that SMEs' entitlement will not be adversely affected by the expiry of Large Company relief on 31 March 2016. State aid is capped at €7.5 million for any one project but, currently, SMEs do not have to include in the calculation expenditure that would qualify for Large Company Relief as this is not a state aid. The amendments to the legislation will create a notional credit for such expenditure when the Large Company regime is replaced by the R&D Expenditure Credit on 1 April 2016.
SMEs are entitled to claim an enhanced deduction for R&D expenditure which reduces the tax payable and increases tax losses. Under certain circumstances they can surrender their losses. For more information, see Practice note, R&D tax reliefs: practical aspects: SME relief.
(See HMRC: Update to the Small and Medium-Sized Enterprises Research and Development relief: state aid cap calculation, HM Treasury: Budget 2016, paragraph 2.86, Overview, paragraph 1.33 and Annex A (at page 95).)