Today, 20 February 2017, a law introducing a new tax incentive for “innovation income” is published in the Belgian Official Gazette. The new incentive replaces the former Belgian patent income deduction, that was abolished as from 1 July 2016 due to not being fully compliant with the OECD BEPS recommendations.
The main characteristics of this new deduction for innovation income are broadly in line with the ones we already described in our previous newsletter on this topic, but there are also a number of important differences.
Deduction rate set at 85%
The basic principle remains that Belgian companies (and Belgian establishments of foreign companies) are entitled to deduct a certain percentage of the net income they derive from qualifying IP assets from their Belgian corporate tax base.
The law introducing the deduction for innovation income has set the applicable percentage at 85%.
Qualifying IP assets: scope substantially broadened to now also cover data exclusivity for pharmaceuticals
Besides patents and supplementary protection certificates (that were already in scope of the old patent income deduction), plant breeder’s rights, orphan drug designations and income derived from copyrighted software will now also be eligible for the new tax deduction (provided that such software results from a qualifying R&D project or program).
The same goes for income derived from data and market exclusivity for pharmaceutical, veterinary and agro-chemical products. This comprises data exclusivity related to studies included in the registration file of a medicinal product for human use, of a veterinary product, of an agro-chemical as well as for studies submitted for the registration of a new indication in relation to an existing medicinal product and for the change of classification of an existing medicinal product (a prescription product reclassified as OTC) and market exclusivity for orphan drugs.
Qualifying IP income: scope widened, but with netting and ‘nexus approach’
In order for the new incentive to be compliant with OECD recommendations, the amount of IP income that serves as the basis for computing the deductible amount should be determined on the basis of the following formula (which embodies the so-called ‘modified nexus approach’ favoured by the OECD):
Apart from (actual and embedded) royalties, the qualifying net income now also includes process innovation income, indemnity payments and capital gains (subject to a reinvestment obligation) realized in relation to a specific IP asset. As opposed to the old patent box regime, only the net income (i.e. after deduction of related expenses) is eligible to benefit from the new tax incentive.
The qualifying R&D expenses include all expenses that are directly related to the relevant IP asset and that are either incurred by the relevant group company itself or that are outsourced to unrelated parties. The law provides for the possibility to increase this amount by 30% (‘uplift’) with a maximum of the amount of the overall R&D expenses. The purpose of this uplift is to ensure that the nexus approach does not penalize enterprises excessively for acquiring IP or outsourcing R&D activities to related parties, because such enterprises may themselves still be responsible for much of the value creation that contributed to IP income.
The overall R&D expenses on the other hand are the qualifying R&D expenses plus any costs related to the acquisition of the relevant IP asset and any costs related to intragroup outsourcing.
It is worth noting that in exceptional circumstances, the above-mentioned formula can be deviated from (e.g. where it can be demonstrated that an application of this formula does not accurately reflect the value that is being added by the relevant Belgian entity). Such deviations can however only be obtained by way of an advance tax ruling.
Other noteworthy elements
Unlike the former patent income deduction, excess innovation deduction amounts can be carried forward to later taxable periods;
The benefit of the innovation deduction will be available for the period during which an application for IP protection has been applied for, but not yet obtained. A claw-black procedure will apply if no IP protection has actually been granted;
The application of the new tax incentive is subject to very broad documentation and “tracking and tracing” requirements, which are likely to result in a substantial administrative burden for entities wanting to apply that incentive.
Entry into force
The new regime has entered into force on 1 July 2016. Companies that, prior to that date, benefitted from the old patent income deduction will have to consider whether they will continue to apply the old rules (under the grandfathering regime that ends on 30 June 2021) or rather the new rules in relation to the relevant IP assets.
Actions to be taken
The introduction of the new innovation deduction creates both risks and opportunities for all technology-driven enterprises in Belgium.
Since the scope of the new incentive is broader than just patents, enterprises should identify and map all relevant intellectual property rights to assess the possible impact on their tax situation.
On the other hand, taking into account the new ‘modified nexus approach’, companies should also screen their operational and business models and, depending on the outcome, consider a restructuring (e.g. a re-insourcing of intragroup R&D activities) in order to maximize the benefit of the new tax incentive.
Another important point is that companies that can opt for either the new innovation deduction or for the old patent income deduction (under the grandfathering rules) should carefully analyze which regime would be the most advantageous to them since the differences between these two regimes can, depending on the circumstances, lead to major consequences in terms of exempt amounts.
Finally, one may consider applying for an advance tax ruling in order to obtain absolute certainty as to if and how the new innovation deduction will apply in relation to certain IP assets.