The newly enacted Patent Box Regime (Deduction) Rules (‘the Rules’) which came into effect on the 13 August 2019, clarify and expand upon Article 14(1)(p) of the Income Tax Act (‘ITA’), Chapter 123 of the Laws of Malta.
A qualifying income derived from a qualifying intellectual property (‘qualifying IP’) may be claimed by any beneficiary whose income arises in the course of a trade, business, profession, vocation or otherwise.
For an ITA deduction to be claimed, the IP in question must fall within the parameters of what is referred to as ‘qualifying IP’, which for the purposes of the Rules refers to three main categories:
- The first category covers patent applications and registrations. Refused patent applications are deemed as not qualifying IP ab initio.
- The second category includes assets relating to plants and genetic material or; assets relating to plant or crop products or; assets relating to orphan drug designations or; utility models or software protected by copyright under national or international legislation.
- The third category covers IP assets of ‘small entities’, which IP assets are non-obvious, useful, novel and have features similar to patents. Furthermore, such IP assets must pass through a transparent certification process to the satisfaction of the Malta Enterprise
For the purposes of the Rules, a small entity is an entity which either has a turnover on a group basis of not more than fifty million Euros (€50,000,000) or does not itself earn more than seven million and five hundred thousand Euros (€7,500,000) in gross revenue from the IP assets.
Entitlement to Deduction
In order for the Patent Box Regime’s Deduction to apply, a number of cumulative requisites need to be satisfied:
- The research, planning, processing, development or similar activity leading to the creation, development, improvement or protection of the qualifying IP, must be carried out, whether wholly or in part by the beneficiary, solely or together with other persons, even in terms of cost sharing arrangement. In accordance with the Rules, the beneficiary may carry out such activities through employees of other enterprises acting under specific directions of the beneficiary. Functions related to such activities may also be carried out through a permanent establishment (including a branch) which is situated in a jurisdiction other than the jurisdiction of residence of the beneficiary, as long as the permanent establishment derives income subject to tax in the jurisdiction of residence of the beneficiary; and
- The beneficiary must be the owner or co-owner of the qualifying IP, or the holder of an exclusive license to use such IP. Should other persons also be involved with the creation or protection of this IP and with any cost-sharing arrangements, the beneficiary would still be entitled to the deduction set out under the Rules as long as the beneficiary has a share in the ownership of the qualifying IP or holds an exclusive license of use; and
- The qualifying IP is granted legal protection in a minimum of one jurisdiction; and
- The beneficiary must maintain sufficient physical presence, personnel, assets, or other relevant indicators corresponding to the form and degree of activity carried out in the relevant jurisdiction in respect of the qualifying IP; and
- When the beneficiary is a body of persons, such beneficiary is specifically empowered to receive such income; and
- The beneficiary must request the Patent Box Regime deduction in computing his income or capital gains in the return.
Calculation of the Deduction
The Rules set out a formula which must be followed when calculating such tax deduction, by dividing the qualifying IP Expenditure by the Total IP Expenditure, following which such figure is multiplied by the income or capital gains derived from the qualifying IP, and multiplied again by 95 percent. Namely, the following formula applies:
95% x (‘Qualifying IP Expenditure’ divided by ‘Total IP Expenditure’ x ‘Income or Gains derived from Qualifying IP’)
The income or gains derived from the qualifying IP must fall under the categories stipulated for in Articles 4 and 5 of the ITA. Such income or gains must be derived from the use, enjoyment and employment of such qualifying IP, royalty or similar income.
In the case of ‘Total IP Expenditure’, this constitutes expenditure which is directly incurred in the acquisition, creation, development, improvement or protection of the qualifying IP. Such qualifying IP expenditure must be actually incurred by the beneficiary. It may also cover expenses incurred by any other persons which the beneficiary would have had to incur himself and acquisition costs and expenditure for outsourcing activities made to related parties.
The costs taken into account for the purposes of quantifying the ‘Qualifying IP Expenditure’ shall be established at the time when they are incurred. Such Qualifying IP Expenditure is expenditure incurred:
- directly by the beneficiary for, or in the creation, development, improvement or protection of, the qualifying IP; or
- by the beneficiary for activities related to the creation, develop, improvement and protection of the qualifying IP subcontracted to persons which are not related to the beneficiary; or
- which doesn’t fall within the first two categories, but is an amount equivalent to the lower of the costs actually incurred, and is thirty percent (30%) of the total of the amounts referred to in A and B.
Should a beneficiary, in respect of the qualifying IP, incur a loss which he is entitled to set-off against his income or capital gains, he may elect one of the following benefits:
- A deduction of five percent (5%) of the loss which would otherwise be available for deduction.
- A deduction corresponding to the full amount of the loss which would be available for deduction, as long as the beneficiary is not entitled to claim the tax treatment in the previous benefit, and the amount of loss claimed shall be set-off against any ‘Income or Gains Derived from Qualifying IP’ in subsequent years..