On 11 November 2014, the UK and German governments issued a joint statement on proposals for new rules for preferential intellectual property (IP) regimes within the G20/OECD base erosion and profit shifting (BEPS) project.
Germany currently does not have a special regime for Patent Boxes, but suffers from structures that shift profits from Germany to low tax jurisdictions via royalties. The royalties are generally tax deductible in Germany and, very often, not subject to German taxation (normally 15% withholding tax) at the level of the non-German recipient. The recipient has to be resident in a jurisdiction with a favourable double tax treaty with Germany and, typically, German anti-treaty shopping rules can be sidestepped. Germany, therefore, shows great interest in finding acceptable solutions for the taxation of these structures.
The current UK Patent Box regime (see client alert of 8 April 2013 “The Patent Box Unlocking the Potential in UK R&D”), which is currently being phased in over five years from April 2013 to April 2017, will eventually offer an optional 10% corporation tax rate for companies exploiting patented inventions or certain other medicinal or botanical innovations. The Forum on Harmful Tax Practices (FHTP) has identified the UK Patent Box regime as potentially harmful, insufficiently targeted and having inadequate links with R&D activity; and Germany had been seeking a ban.
The details of the new UK Patent Box Regime are yet to be finalised, but the following proposals from the joint UK/German statement have been released:
- The current UK Patent Box system will be “grandfathered” into the new provisions. The current system will not close for new entrants until June 2016, and companies elected within the UK Patent Box system by that date will retain the current benefits until June 2021. The implication is that a reformed system based on the OECD’s ‘Modified Nexus Approach’, where tax incentives will only be offered where significant R&D is undertaken in the UK, will be in place by June 2016.
- A restriction on qualifying expenditure for the UK Patent Box where R&D work is not undertaken by the claimant. However, no clear details have yet been provided on the nature of the restriction.
- If companies incur non-qualifying related party outsourcing or acquisition expenditure, they will be able to obtain a maximum 30% uplift of their qualifying expenditure (subject to a cap based on actual expenditure).
- The OECD should provide guidelines on how to track and trace expenditures for Patent Box calculations by June 2015.
The new proposal is a significant step forward towards consensus among OECD and G20 members on IP box regimes. The joint UK/German proposals are unlikely to face any challenges, and can provide for increased certainty among companies looking to invest in the UK. Indeed, the joint proposal has been welcomed by the FHTP and the Code of Conduct Group. The UK Patent Box regime looks certain to continue in a modified format, with companies who have accessed the UK Patent Box by June 2016 able to remain with it for several years and plan ahead for changes.
There has also been no indication that the 10% rate of tax will change. The recent developments demonstrate the UK government’s continued commitment to offer tax incentives for companies to undertake R&D in the UK.