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The R&D Tax Incentive is a broad-based, market driven program accessible to all industry sectors. It provides a targeted tax offset to encourage more companies to engage in research and development (R&D).

The R&D Tax Incentive aims to boost competitiveness and improve productivity across the Australian economy by:

  • Encouraging industry to conduct R&D that may not otherwise have been conducted;

  • Providing business with more predictable, less complex support; and

  • Improving the incentive for smaller firms to engage in R&D.

The R&D Tax Incentive replaces the R&D Tax Concession for R&D in income years commencing on or after 1 July 2011. The R&D Tax Concession continues to be administered for R&D in income years commencing prior to 1 July 2011.

What benefit does the R&D Tax Incentive provide?

The R&D Tax Incentive has two core components:

  • A 45 per cent refundable tax offset (equivalent to a 150 per cent deduction) for eligible entities with a turnover of less than $20 million per annum, provided they are not controlled by income tax exempt entities.

  • A non-refundable 40 per cent tax offset (equivalent to 133 per cent deduction) for all other eligible entities(1). Unused non-refundable offset amounts may be able to be carried forward to future income years.

(1) The Australian Government has announced its intention to change the rates of assistance to 43.5 and 38.5 per cent respectively.

The Government has also committed to target access to the R&D Tax Incentive to entities with aggregated assessable income of less than $20 billion. Both changes require legislation. More information is available from AusIndustry.

Who can apply?

The types of entities eligible for the R&D Tax Incentive are corporations (called ‘R&D entities’) that are:

  • incorporated under an Australian law; or

  • incorporated under foreign law but are Australian residents for income tax purposes; or

  • incorporated under foreign law, and

    • are residents of a country with which Australia has a double tax agreement, including a definition of ‘permanent establishment’; and

    • Carry on business in Australia through a permanent establishment as defined in the double tax agreement.

Generally trusts are not R&D entities. The definition of R&D entities extends to body corporates in the capacity of trustees of public trading trusts, but not to trustees of any other sort of trusts.

Eligibility Criteria

R&D activities must meet certain criteria to be eligible for the R&D Tax Incentive. Eligible activities are categorized as either core R&D activities or supporting R&D activities.

What are core R&D activities?

Core R&D activities are experimental activities:

  • whose outcome cannot be known or determined in advance on the basis of current knowledge, information or experience, but can only be determined by applying a systematic progression of work that:

    • is based on principles of established science; and

    • proceeds from hypothesis to experiment, observation and evaluation, and leads to logical conclusions; and

      • Those are conducted for the purpose of generating new knowledge (including new knowledge in the form of improved materials, products, devices, processes or services).

      What are supporting R&D activities?

      An activity is eligible as a supporting R&D activity where:

      • it is directly related to a core R&D activity; and

      • in some scenarios, it has been undertaken for the dominant purpose of supporting core R&D activities

      • What is directly related?

      • For an activity to be ‘directly related’, the activity needs to have a direct, close and relatively immediate relationship with the core R&D activities. Supporting R&D activities are usually required in order for the core R&D activities to take place. They can occur at a different location or time to the core R&D activities so long as they maintain the required relationship

      What activities are subject to the dominant purpose requirement?

      Activities that must satisfy the dominant purpose requirement in order to be a supporting R&D activity are those that:

      • Are excluded from being core R&D activities (listed earlier); or

      • Produce, or are directly related to producing, goods or services (production activities).

      Production activities can range from a once-off activity to mass production.

      What is the dominant purpose requirement and how is it determined?

      ‘Dominant purpose’ means the prevailing or most influential purpose of an activity. In determining the dominant purpose, consideration is given to the overall circumstances within which the activities are conducted. It is possible that similar activities may be eligible in one context, but not in another. Companies need to consider:

      • The extent to which the supporting R&D activities also achieve commercial or production outcomes in addition to assisting the conduct of the core R&D activities; and

      • The importance of those non-R&D outcomes.

      Software Development

      • Software is subject to the same eligibility tests as other forms of R&D, with the exception of certain software activities which are excluded from being a core R&D activity. This exclusion covers activities related to the development, modification or customization of software where the software is for the dominant purpose of internal administration by the entity (or connected entities or affiliates) for which it was developed, modified or customized.

      • Software for ‘internal administration’ includes management information systems and enterprise resource planning software that is for use in the day-to-day administration of a business.

      • The software exclusion does not apply to software developed in-house that is of an applied nature, forming an integral part of an electrical or mechanical device (such as home appliances or industrial equipment).

      Where can the R&D activities be conducted?

      Generally only R&D activities conducted in Australia or the external Territories2 qualify for the R&D Tax Incentive. However in certain circumstances, R&D activities conducted overseas may also qualify.

      A company intending to claim a tax offset for R&D activities conducted overseas must apply to Innovation Australia for a decision (called a ‘finding’) about the eligibility of these overseas activities. Innovation Australia can issue a finding that overseas activities are eligible for the R&D Tax Incentive where it is satisfied that:

      1. The activities are eligible as core or supporting R&D activities. Innovation Australia will be satisfied of this if the company has obtained an advance finding stating that the activities are eligible. Advance findings are discussed under Part D.

      2. the activities to be conducted overseas have a significant scientific link to core R&D activities conducted in Australia that are registered or reasonably likely to be conducted and registered;

      1. the activities cannot be conducted in Australia due to one of the following reasons:

        1. conducting it requires access to a facility, expertise, or equipment not available in Australia;

        2. conducting it in Australia would contravene a law relating to quarantine;

        3. conducting it requires access to a population (of living things) not available in Australia; or

        4. Conducting it requires access to a geographical or geological feature not available in Australia.

      2. The total expenditure on the activities conducted or to be conducted overseas in all income years is less than the total expenditure on certain R&D activities conducted or to be conducted in Australia in all income years.

      The application should be made in the first income year that the overseas activities are conducted as it comes into force at the start of that income year. The application can also be made in advance of the company conducting the activity outside Australia. The application cannot relate to activities conducted in previous income years.  

    • For whom are the R&D activities conducted?

      A company is only entitled to a tax offset for R&D activities conducted ‘for’ itself. There are some exceptions to this, where the activities are conducted for associated foreign corporations.

    • Who is entitled to claim the expenditure?

      Generally, expenditure on R&D activities conducted to a significant extent for another entity will not be eligible for a notional deduction. A notional deduction is an amount that a company can take into account in calculating their tax offset.

      The requirement that a company’s eligible expenditure be on R&D activities conducted for it, and not to a significant extent for some other entity, is intended to limit claims to cases where the company is the major benefactor from its expenditure on those activities. In some cases it will also prevent duplication of claims by different entities where essentially the same activities are involved.

      Determining who the major benefactor is

      The major benefactor of expenditure on R&D activities is determined by examining the extent to which R&D activities are conducted for the R&D entity compared to the extent to which they are conducted for any other entity.

      This is tested by weighing up three key criteria concerning who:

      • ‘effectively owns’ the know-how, intellectual property, or other results arising from the R&D entity’s expenditure on the R&D activities;

      • has appropriate control over the conduct of the R&D activities; and

      • Bears the financial burden of carrying out the R&D activities.

      Exceptions to the rule

      There are some exceptions where an entity may be able to claim a tax offset for activities conducted on behalf of other entities. For example, an offset can be claimed where R&D activities are conducted:

      on behalf of one or more foreign residents provided that the foreign resident is from a country with which Australia has a comprehensive double taxation agreement; or for the body corporate carrying on business through a permanent establishment for the body corporate (rather than for that permanent establishment) and the activities are conducted under a written agreement between the entities.

      There are strict conditions regarding when these exceptions may apply. If this applies to you, further information is available on the ATO website, including in the ATO Research and development tax incentive – for whom are the R&D activities conducted?