Keltie LLP was pleased to welcome David Clift of Hazelwoods recently to give a presentation on the issue of Patent Box that highlighted practical experience of the regime along with some hints and tips and areas to be wary of. In this post we’ll briefly recap the scheme before focussing on the practical advice provided in the presentation.
The Patent Box scheme – a quick recap
The patent box is, of course, a preferential tax regime that can reduce the amount of UK corporation tax that a qualifying company will be liable for on qualifying IP profits. As David pointed out, the scheme is a bit convoluted but in broad terms involves a qualifying company identifying their qualifying IP profits either by apportionment to turnover or by streaming, deducting their routine return (i.e. normal profit at normal tax rate) and deducting marketing assets and taxable trading profits. What’s left as the qualifying profits attracts a lower tax rate, with the rate of 10% being the one that grabs all the headlines despite the fact that the low rate is still being phased in.
Working out whether a company qualifies involves determining if the company holds (or has exclusively licensed) relevant patent rights (granted UK or EP patent), if they’ve developed the IP and if there is active ownership of the IP (mere passive IP holding companies need not apply!).
Income includes worldwide income from items protected by a relevant patent right, items incorporating a qualifying item, spares to be incorporated into a qualifying item, licence fees, receipts from infringements and notional royalties for patent processes.
The Patent Box scheme – practical experiences
The following issues and areas were flagged up during the presentation as things to be aware of:
- Record keeping. It is very important to keep good records, not just of a patent portfolio but also copies of licence agreements and copies of IP valuations.
- For audit purposes, companies should keep details of products that incorporate patented items and the income from those products should be separated from the nominal ledger accounts. Where possible the costs relating to those products should also be recorded.
- Determining if a company meets the development conditions is very important. Merely owning IP is not enough and a patent box return needs to be able to show that there has been development of that IP.
- The development conditions can be further complicated when considering a group of companies. The definition of a “group” is drawn very broadly in the patent box regime and even ownership of two companies via a common individual can be enough to confer group status.
- Although only a theoretical issue as far as David was aware the wide group definition could cause problems if a company submitting a return is unaware of a loss making company within the group.
- An actual issue that has arisen however is that of traceability – where there has been historical development of a product then the identification of a company that developed the IP and which was under common control can be hard.
- Although it is not possible to control how wide a group is, it is possible to control who elects into the patent box. In other words, it is possible to keep loss making companies out of the scheme.
- Development outside the company structure (e.g. development before incorporation of the company) will not count for patent box.
- As far as the patent box perspective is concerned it is better to pursue product-by-process claims (=normal product profit) rather than a notional royalty calculation.
- It is important to map products to sales. While this may require an investment of time up front in setting up an appropriate methodology, this is likely to be time well spent.
- It is possible to involve HMRC in the process.
- It can be difficult to work out what an item incorporated into a patented product covers (the item should be functionally incorporated but there’s conflicting advice from HMRC on this point) and what spare parts are eligible.
- There can be a positive interaction between the R&D and patent box schemes but it is important to exercise care in the interaction between the two schemes. In particular, the bigger picture of the R&D and the patent box schemes needs to be considered. Problems can arise if an IP holding company contracts out its R&D. From the IP company’s point of view it needs to be ascertained if there is any trading occurring and from the R&D company’s point of view it needs to be determined if SME status is going to be lost.
Changes to the Patent Box Scheme
As previously reported on IPcopy the patent box scheme will be changing in the future following a challenge to the existing scheme from Germany.
Under the revised scheme it is likely that the patent box scheme will need to be tied to UK development activity but how this will work in practice is still not known. Companies based within the UK should not be affected too much but group structures may be impacted.
The current scheme will be honoured until 2021 though it will close to new entrants next year. There will also be anti-avoidance issues to bear in mind to stop companies trying to enter the existing scheme before it closes (this may be relevant to companies that are currently experiencing a patent box loss).
Is it worth it?
In a summary of the patent box scheme David suggested that software based companies can potentially benefit from patent box. Although it can be tricky to secure the patent rights, the financial side of the equation can work out. Manufacturing and engineering companies can see quite variable scenarios.
Mark Richardson 4 June 2015