Patent Box Regime: Lower Rates for Corporation Tax
The UK Government provides tax reliefs to incentivise and encourage companies who are entrepreneurial and come up with innovative ways to progress and develop technological advancements, especially tax reliefs for Corporation Tax. This article discusses the Patent Box regime which benefits companies who exploit intellectual property (“IP”) rights, and will be particularly useful for companies with the rise of Corporation Tax to up to 25% from 01 April 2023.
The Patent Box: A Brief Introduction
The UK Patent Box tax regime operates by applying a deduction to the Corporation Tax bill, effectively reducing the tax rate on profits from the use of patents or other similar IP rights to 10%. This is compared to the current Corporation Tax rate of 19%.
Therefore, this will benefit companies earning profits through exploiting patent inventions and owning or having exclusive licenced patents.
What Patents or IP Rights Qualify?
For the patent or IP right to qualify, the company will need to legally own or have an exclusive licence in any of the following:
- Patents granted by the UK Intellectual Property Office (IPO);
- Patents granted under the European Patent Convention;
- Patents granted under the laws of specified EEA states (which includes countries such as Austria, Denmark, Finland, Germany, Portugal and Sweden);
- A supplementary protection certificate;
- An EU supplementary protection certificate;
- Plant breeders’ rights granted under Plant Varieties Act 1997 and Community planet variety rights granted under Council Regulation (EC) No 2100/94; and
- Where a product benefits from marketing protection or data protection or EU marketing protection or EU data protection.
In addition to this requirement, the company must meet one of the ‘development’ conditions set out in CTA 2010, S.357BC. Where the company is a part of a group of companies, the company will need to be meet the ‘active ownership condition’ set out in CTA 2010, S.357BE.
What would be considered relevant IP income?
The relevant IP income that can be included in a Patent Box election is the income that arises from the exploitation of qualifying IP rights and includes:
- Selling patented products (including the patented product and products incorporating the patent invention);
- Income consisting of a licence fee or royalty under an agreement granting another person a right in respect of any qualifying IP right;
- Income arising from the sale or other disposal of a qualifying IP right or an exclusive licence in respect of such a right;
- Amount received by the company in respect of an infringement or alleged infringement of a qualifying IP held by the company at the time of the infringement or alleged infringement; and
- Damages, proceeds of insurance or other compensation related to the patent and IP rights.
Patent Box Rules – What are they?
Amended rules on the Patent Box were introduced in July 2016 through the Finance Act 2016 following the OECD’s BEPS project.
The calculation for the relevant IP profits which can benefit from the Patent Box is contained in legislation and is complex, but typically the company will divide its income into two ‘streams’: relevant IP income, and non-relevant IP income. Where applicable, you may also need to divide the income into relevant IP sub-streams.
From this income, an apportionment of certain company expenses should be deducted on a just and reasonable basis to each sub-stream and further deductions also be made when calculating the relevant IP profits to strip out profits from the routine return figure and marketing assets return figure.
The company will then apply an ‘R&D Fraction’ to account for qualifying R&D expenditure and then adding together the profits for each relevant IP income sub streams.
The company will then need to consider if they have made an election relating to profits arising before the grant of a right as this may need to be added into the calculation.
As the rules are complex, we have not detailed all of the requirements for the calculations above, nor discussed the alternative ‘formulaic’ approach.
The rules were different prior to 01 July 2016 and ‘grandfathering’ transitional provisions were in place for existing claimants to utilise the old Patent Box rules who qualified and elected for the Patent Box prior to 1 July 2016 until 30 June 2021.
What is the process for making a Patent Box claim?
The Patent Box claim must be made in writing to HMRC and the notice needs to specify the first accounting period of the company for which the election is to apply. In addition, the election should be made on or before the last day on which an amendment of the company’s tax return could be made. This will normally be within 12 months of the fixed filing date for the tax return relating to the first accounting period that the election is to have effect.
The Patent Box regime applies each subsequent tax year until you make a notice to revoke a Patent Box election to HMRC. This notice will need to specify the accounting period for which the election is to revoked from. Once you have revoked the Patent Box election, a new election does not have effect for 5 years beginning with the day after the last day of the accounting period stated in the notice. Therefore, it is important to receive expert tax advice before proceeding.
What happens if you make a loss?
If there is a loss incurred on the relevant IP right, the legislation provides that there is a “set-off amount” which will be equivalent to that loss amount that can be utilised in a variety of circumstances. This includes:
- Where the company is carrying on another Patent Box trade with relevant IP profits, then this set-off amount can be used against these profits of that other trade in the accounting period. These profits will then be excluded in the Patent Box calculation;
- Where the company is part of a group of companies, and this set-off amount has not been reduced to nil by the above, the set-off amount will be reduced by any relevant IP profits of a trade of a ‘relevant group member’ for the relevant accounting period. This ‘relevant group member’ is another member of the group of companies that has made a Patent Box election and if they are a qualifying company; and
- Where neither of the above have been used, then the set-off amount can be carried forward against the relevant IP profits in the following accounting period.
Please note that there are additional loss reliefs for these losses not discussed in this article.
There are a number of complexities and additional conditions with regards to making a Patent Box election and the calculations of the relevant IP profits, so independent tax advice should be sought before making a claim.