Gabelle Tax Analysis: HMRC publish new guidance on the Patent Box regime
On 30 October, HMRC published new guidance in their manuals covering the Patent Box regime.
From 1 April 2013, companies of any size can elect into the Patent Box regime. This allows qualifying companies to be taxed at a reduced rate of 10% on profits from patents and other intellectual property, referred to in the legislation as “relevant IP profits”. The full Patent Box benefits are being phased in over five years up to 2017.
To be eligible to make the election, the company must have undertaken qualifying development by making a significant contribution to the creation or development of a patented invention, or a product incorporating the item.
The company then has to identify the profits that can benefit from the Patent Box regime. The first step is to identify how much of the company’s total gross income includes “relevant IP income” (RIPI), which is income derived from its qualifying patents.
- income from sales of patented items
- licence fees from rights granted by the company out of its qualifying patents
- amounts received from the sale of rights; and,
- compensation, damages, insurance proceeds in respect of qualifying patents.
A company can choose one of two routes to calculate how much of its profits derive from qualifying income. It can (1) apportion its total profits according to the ratio of RIPI to total gross income, or (2) apportion expenses between streams of income to arrive at a profit derived from its RIPI stream.
Having calculated this profit – which should exclude any additional deduction for R&D expenditure – there are two further stages before completing the calculation.
The first is to remove a routine return on certain specified expenses, leaving “Qualifying Residual Profit” (“QRP”). The purpose of this deduction is to eliminate the return on certain items that might be expected if there were no special IP related to the products. This adjustment is calculated as 10% of
capital allowances, premises costs, personnel costs, professional services, and certain other services costs which are set out in CTA 2010, s 357CJ.
Finally, a notional marketing royalty for use of the assets is removed from the QRP. For companies with QRP of less than £3m, a small claims treatment reduces QRP by 25%. The resulting profit is called Relevant IP Profits (RP) which can then benefit from the Patent Box.
The Patent Box RP is taxed at 10%, which is achieved by including a further deduction before applying the company’s normal corporation tax rate.
If the Patent Box RP produces a negative figure there is no change to the company’s normal corporation tax computation. However, the negative RP must reduce other RP of the company derived from a different trade, of other group companies, or future RP of the company or other group companies.
The legislation includes anti-avoidance provisions to stop commercially irrelevant patented items being included in a product to enable income to qualify under the Patent Box regime. Also, in certain circumstances RP in the first four years for which the company qualifies may be reduced by additional deemed R&D expenditure where the actual R&D expenditure is less than 75% of the average R&D expenditure over the four years immediately prior to electing into the Patent Box.
The new Patent Box regime will be very attractive to any company which is actively involved in developing or producing patented products; however, these companies will need to ensure that they have appropriate accounting records to extract the data necessary to carry out the required calculations.