The first consultation paper on the 2009 Federal Budget R&D measures has been released. The intention is to fund the increase in R&D incentive by tightening the definition of R&D. This will have a profound impact across the board on the eligibility of companies to access the R&D tax incentives and the amount of expenditure upon which claims can be made.

The proposed measures are to be effective from 1 July 2010 and include:

• A 45% refundable credit (equivalent to a Tax Concession of 150%) for businesses with an annual turnover of less than $20 million, and
• A 40% non-refundable credit (equivalent to a tax concession of 133%) for companies with a turnover of more than $20 million and companies undertaking R&D in Australia where the intellectual property is held offshore.

The cost of these incentives is intended to be funded by a tighter definition of eligible R&D activities which will restrict its availability. The consultation paper seeks feed-back on the proposed changes.

Change in definition of R&D Activities

To achieve the above goal it is proposed to narrow the definition of eligible R&D activity to an activity that involves both innovation and high levels of technical risk and is for the purpose of producing new knowledge or improvements. Under the current rules, R&D activities only have to involve innovation or high levels of technical risk. This important change will rule out many activities currently treated as eligible R&D activities.

Restriction of incentive for supporting activities

The Government wants to limit the R&D tax incentive for expenditure on activities that support the core R&D activity, e.g. early production runs of a new product (developing the new product is core R&D, early production runs are supporting activities). The proposals to restrict the availability of the incentive on supporting activities include:

• limiting the expenditure to a percentage of core activities
• limit eligible expenditure to where the sole purpose is to support the core R&D activities. This will reduce the amount of eligible expenditure significantly for most taxpayers
• exclude supporting activities that are production activities or have a dual purpose
• Include the net expenditure only – ie the cost after recovering money from customers. E.g. if you sell a prototype it is the cost less what it was sold for
• have a lower rate of incentive than core R&D (i.e. 40% or 45%)

The Government is seeking direction on which alternative to include.

Restricting the incentive for software development R&D

The Government intends to tighten the eligibility of the incentive for software development R&D, partly because technology has advanced since the R&D incentive was last amended but also because it is impossible to split the R&D cost of designing software from the cost of what is actually sold. We recommend companies that develop software get involved with the consultation process, as the outcome is likely to be based on the type of software project undertaken. There will be winners & losers.

Making a contribution to the debate

For further details please click here.

Submissions are due by 26 October 2009. Please contact us if you would like assistance in making a submission. If you would like to discuss aspects of the Moore Stephens submission, please contact Howard Badger on 02 8236 7718.