Ireland's New Knowledge Development Box
“Ireland...will become recognised as a place where good ideas can be transformed into excellent businesses and new jobs will be created as international investors and mobile entrepreneurs seek Ireland out as a location of choice. “
Minister Richard Bruton – National Policy Statement on Entrepreneurship in Ireland
The Irish Finance Act 2015 (the "Finance Act") introduced a 'knowledge development box' or "KDB", which brings in an effective reduced rate of corporation tax of 6.25% for qualifying income derived from 'qualifying expenditure' in the EU by an Irish tax resident company.
The KDB is described as the first OECD-compliant KDB in the world, which means that it is in line with international guidelines, the OECD Action 5 Report published on 5 October 2015 and specifically the OECD's ‘Modified Nexus Approach’.
The Modified Nexus Approach links relief under the KDB to the proportion of qualifying research and development ("R&D") expenditure being carried on by the Irish trading company in the EU, as a percentage of overall expenditure, including acquisition costs. Under this approach, only the expenditure incurred developing the intellectual property asset after it was acquired should qualify as qualifying expenditure.
Together with the existing 12.5% corporation tax rate, R&D tax credit and depreciation allowances for capital expenditure on intangibles, Ireland provides a hugely competitive offering to international business who are 'on-shoring' their intellectual property in light of international tax developments and, in particular, the OECD BEPS project.
Qualifying Assets for the KDB
The Finance Act provides that certain patented inventions and copyrighted software will be 'intellectual property' for the purposes of the definition of 'qualifying asset'. The definition also includes supplementary protection certificates for medicinal products, supplementary protection certificates for plant protection products and plant breeders’ rights. The intellectual property must be the result of R&D activities.
The KDB therefore rewards companies who invest in protecting and developing their intellectual property and in particular, those companies who originate intellectual property.
Qualifying Income for the KDB
Income derived directly from the qualifying asset will qualify for the reduced KDB tax rate.
The qualifying profit will be determined by reference to a formula, set out below. The provisions of the Finance Act provide that a deduction of 50% of the qualifying profit from the specified trade will be allowable, resulting in an effective KDB tax rate of 6.25%.
The greater amount of R&D that takes place by the Irish entity, the greater the proportion of income that may qualify for the KDB tax rate.
Qualifying expenditure on the qualifying assets, for the purposes of the KDB, means bona fide expenditure incurred by a company wholly and exclusively in the carrying on by it of R&D activities, where such activities lead to the development, improvement or creation of the "qualifying asset" (i.e. "intellectual property" for the purposes of the Finance Act).
Where expenditure on qualifying assets, carried out by a group company, will not be qualifying expenditure for the purposes of the Finance Act, it may be deemed as uplift and qualify as 'uplift expenditure', up to 30% of the qualifying expenditure.
A key factor for companies seeking to take advantage of the KDB will be determining if their intellectual property comes within the definition of a qualifying asset, once that is finalised and legal advice may be needed in this regard. Also, when licensing out their products either bundled with, incorporated in, or incorporating other products, they will need to carefully consider exactly what income from such sales will constitute 'qualifying income'.
When will the relief be available?
Relief under the KDB is available to companies for accounting periods which commence on or after 1 January 2016 and before 1 January 2021.
A claim must be made within 12 months of the end of the relevant accounting period. The claim should be made in the corporation tax return of the claimant company for the period
The KDB is available where the qualifying assets are the result of qualifying R&D activities that have been carried out by the entity claiming the R&D tax benefit. As set out, Ireland already provides a competitive offering to international businesses that are on-shoring their intellectual property. The KDB seeks to further encourage innovation, and it should be a welcome addition, particularly to those availing of R&D tax benefits.