Ascertaining the existence of intellectual property (IP) has become increasingly relevant for many businesses today in light of the concessions and allowances available. Coupled with the Tax Laws Amendment (2006 Measures No 1) Bill 2006 (TLAB 1) now law (section 40-880 ITAA 1997), which attempts to expand deductions for blackhole expenditure, it is essential for businesses to identify these assets in order to reap any tax benefits.
The term IP describes the rights available at law for those who engage or invest in creative effort. The term, however, differs in a taxation context. For tax purposes, IPO is defined in s995-1(1) of the Income TaxAssessmentAct 1997 (ITAA 1997)as the rights possessed by a person under a Commonwealth law (or equivalent rights held under a foreign law) as:
- the patentee of a patent
- the owner of a registered design
- the owner of a copyright; or
- a licensee of a patent, registered design or copyright.
The tax law definition therefore has a much narrower meaning, as it does not encompass any other form of IF besides patents, copyright and registered designs. It is important to note that the tax law definition does not cover trademarks, customer lists, trade secrets and confidential information, which is particularly relevant when applying the capital allowance and capital gains tax regimes.
There are various tax benefits available to taxpayers who create or acquire IF, namely (from most-favourable to least-favourable) the Research & Development (R&D) provisions, the General Deductibility provisions, the Uniform Capital Allowance regime under Division 40 of the ITAA 1997 the capital gains tax provisions and finally, the new and expanded blackhole expenditure rules. Generally, expenditure incurred that satisfies the R&D provisions or the General Deductibility provisions will be deductible in full in the year in which it is incurred. Otherwise, it will There are various tax benefits available to taxpayers who create or acquire IF, namely (from most-favourable to least-favourable) the Research & Development (R&D) provisions, the General Deductibility provisions, the Uniform Capital Allowance regime be deductible over its effective life or form part of the cost base.
The most favourable concession available is the R&D provision, which provides financial assistance to companies to assist in IP development. In general, it enables companies (subject to certain criteria) to deduct up to 125 per cent of eligible expenditure incurred on R&D activities to develop IP and a 100 per cent deduction for expenditure incurred in acquiring core technology for R&D activities, subject to an annual limit of one-third of the R&D expenditure incurred. For expenditure that qualifies for the 125 percent concession, an additional 50 per cent deduction may also be available (the premium 175 per cent R&D tax concession). It is important to note that not all companies will have access to the additional premium rate, as a certain eligibility criteria must be reached. One limitation of the R&D tax concession is it does not provide a cash benefit unless the company has taxable income.
Additional to the concession, the R&D rebate is available to companies with an annual turnover less than $5 million and whose aggregate R&D amount is more than $20,000 and less than $1 million per year. The R&D rebate will be the cash equivalent of the 125 per cent R&D tax deductions and eligible companies can elect to receive the offset.
General deductibility provision
The second most favourable concession is the general deductibility provision. Generally, expenditure incurred will be deductible under Section 8-1 of the ITAA 1997 if it is incurred in gaining or producing assessable income. However, where the costs are capital in nature, it will not be deductible under section 8-1, but rather deducted over its effective life under the capital allowance regime. In general, costs incurred to create IP may be deductible if it satisfies section 8-1. Costs incurred in acquiring intellectual property will generally be capital in nature.
Capital allowance regime
Expenditure that is not eligible for deduction under the R&D provisions or general deductibility provisions may still be deducted under the capital allowance regime. Division 40 allows a tax deduction to the 'holder' of a 'depreciating asset', to the extent that the holder uses the asset for a taxable purpose.
The deduction must be claimed over the depreciating asset's effective life using the prime cost method. Under these provisions, a depreciating asset is defined to include certain intangible assets, including IF. This is where the tax definition of IP becomes important. Based on this tax definition, only patents, registered designs and copyright can be depreciating assets and deducted under the capital allowance regime. Accordingly, if expenditure incurred on trademarks, customer lists, trade secrets and confidential information do not satisfy the R&D concessions nor section 8-1, no deduction will be available for these items of IF. Rather, the expenditure incurred will be caught by the capital gains tax (CGT) rules and be included in the cost base of those assets as the tax definition of IP does not apply to the CGT regime. All items that do not satisfy the R&D provisions, General Deductibility provisions or Capital Allowance regime will be caught by the CGT provisions.
Under the new blackhole expenditure rule (section 40-880 ITAA 1997), certain blackhole expenditure can be deducted over five years provided:
- expenditure is capital in nature
- not deductible as a depreciating asset
- not included in the cost base of a CGT; and
- not deductible under a specific provision.
It is arguable that the new provisions will cover expenditure incurred in obtaining trade secrets or confidential information for use in a business. It is important to note that the deduction allowed under the blackhole expenditure rules (ie over five years) may be at a faster rate than the rate allowed under the capital allowance regime.
Looking at the above provisions, it is therefore essential for a business to identify its IP assets. This will enable the business to determine what concessions and allowances will be available and thereby maximise the tax benefits of the business.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.