This month saw the introduction of the “patent box” by the UK Government, which is an initiative to drive down corporation tax for innovative and high tech companies in the UK. The regime is set to see a phased reduction of UK corporation tax on profits earned from patents and other related forms of IP to as low as 10% with effect from April 2017. The regime should be of interest to companies and multinationals with, or considering acquiring, significant UK R&D and other technology-focused development operations. Coupled with the government’s additional announcement in the recent Budget to reduce corporation tax generally from a current headline rate of 28% to 20% by 2015 (one of the lowest rates of any major economy in the world), the combined intent is to bring about a significant boost to the level of investment and interest in R&D activity in the UK.
How Does the Patent Box Apply?
There are various elements to the patent box regime, which are supported by a raft of legislation and Revenue guidance, but in essence there are three aspects that would need to be satisfied for a company to be entitled to relief:
- Qualifying Applicants: the relief is available to companies that (i) own or exclusively licence the relevant patent, and (ii) have been properly involved in the development or application of the relevant patent or invention (the “development condition”). The ownership and development of a patent need not necessarily lie in one company if the development has been carried out by another group company, though where that is the case then in order for the ownership company to qualify it would also need to satisfy the “active ownership” test by having an active role in managing the qualifying IP rights that it holds (which would usually be shown by being involved in the planning and decision-making activities associated with developing or exploiting the relevant IP). The intent behind the “active ownership” test is to essentially prevent passive IP holding companies from qualifying for the regime.
- Qualifying Patents: all UK and European patents, as well as patents granted by a specified list of EEA countries would be eligible for the relief. In addition various other intellectual property rights, such as supplementary protection certificates and marketing authorisations, may also be eligible. Notably, income derived from patents from other significant global R&D centres, such as the U.S. and Japan, will not qualify.
- Qualifying IP profits: profits derived from sales of patented products or rights, as well as licensing royalties from patented rights would be eligible for the relief. Profits derived from the use of a patented product or tool would also be eligible, as would income (such as damages) arising out of any infringement of patented rights.
The patent box regime is optional and the company would need to notify the Revenue that it wishes to pay a reduced corporate tax rate on its relevant IP profits for the relevant period.
What Should Companies Be Doing Now?
Many companies and multinationals have already started to review the way in which their IP is managed in order to maximise the benefits from the patent box regime. For example, companies may:
- consider whether there is any additional IP that they should be patenting (rather than relying on the protection of, say, trade secrets or confidential information);
- consider whether there is any merit in moving ownership of the relevant patents to the UK or applying for patent protection in eligible jurisdictions;
- assess which income is eligible for patent box relief and determining which eligible IP is used in which product so that it can ensure that the relevant income can be traced accordingly;
- review their IP licences to ensure they are compliant with the relevant tests where the patent is held as exclusive licensee and not owned; and
- decide against offering any exclusive licence arrangements as part of any IP litigation settlement where it might impact on their own “ownership condition”.
Implications for M&A
There will no doubt be an increasing focus on M&A deals involving qualifying patents. Furthermore, structuring relevant to the “development condition” will be key and, if the buyer is intending to buy the relevant company itself (by way of share acquisition), then the rules state that the target would need to meet the development condition for a further twelve months following the change of ownership before being eligible for the relief. Similarly, in the event the buyer acquired the relevant patent directly, then it would need to undertake further development of the patented invention in order to be able to take advantage of the relief. If qualification for relief is a significant consideration, then this will be a factor in determining whether or not a share or asset acquisition is most appropriate.
In relation to due diligence, where the on-going applicability of the patent box reliefs will be of importance, buyers will need to undertake a thorough analysis of where the ownership (whether directly or through a qualifying exclusive licence), management and development of the patent lies.
Will the Changes Be Enough?
The patent box regime is intended to encourage R&D and provide incentives for companies to retain intellectual property in the UK. The government has deliberately focused on patents as the principal form of IP that will boost high-growth, R&D intensive businesses and technological developments. There is evidence from other jurisdictions, for example, Luxembourg, which has a similar regime, that the introduction of a patent box regime can indeed increase the level of IP-related activities by companies. Inevitably there are discrepancies with other regimes and in many respects the UK is playing catch-up in a bid to retain the level of activity in the life sciences industry in particular in the UK; for example, the decision to phase in the level of reliefs over a four year period is in itself curious and even after the full 10% rate is reached this will still not be as low as some other traditional IP holding hubs (again such as Luxembourg).
However, that said, this is a nevertheless a welcome development for enterprises operating in this environment, including those considering investing or acquiring such companies. Indeed, when coupled with the UK government’s recent announcement to bring in a phased reduction in corporation tax from its current rate of 28% to 20% in 2015, the UK clearly becomes an increasingly attractive place to invest.