Then there’s China, with its aim of more fully digitalizing its economy by 2025. In 2017, Beijing introduced a flat corporate income tax rate of 15% on any business formally designated as a “technologically advanced service company,” and raised the share of personal education expenses employees can deduct from annual income to 8% from 2.5%.
Singapore also extends favorable income tax treatment to corporations that retain key intellectual property onshore. The Lion City’s aim is to capture innovation and keep innovators in the city state. The broader goal is simple: by continuing to attract the right kind of value-added employment opportunities, it may continue to bolster its position as Southeast Asia’s primary digital and financial hub.
But member countries of the Organisation for Economic Co-operation and Development (OECD) regard some of these so-called preferential tax regimes with concern, especially those perceived as being designed to primarily to suck in R&D capital. Countries are increasingly revisiting and rethinking their offerings as a result. Last year, for example, the OECD’s Forum on Harmful Tax Practices put Curaçao’s innovation box scheme under review but cleared it as “not harmful” in January.1
The EY Tax Policy Outlook for 2019 (pdf) forecasts that this year will see a decline in the trend of countries offering R&D incentives. Just nine of the 48 jurisdictions tracked in the global tax policy report are expected to make their R&D incentives more favorable in 2019, compared to 17 in 2018. Some countries, including Italy and Costa Rica, are expected to make changes that make their R&D incentives less generous in 2019.
As corporate income tax rates converge, falling into a narrow band of 20%–25%, countries are exploring types of tax competition that will be acceptable to the OECD’s Harmful Tax Practices group and comply with the EU’s Code of Conduct Group. R&D incentive compliance issues are also starting to trigger tax audits. This underscores the need for businesses to be fully informed of the eligibility and compliance requirements surrounding various incentives.
It is also driving countries and companies to think outside the box, by designing incentives that attract “knowledge workers” from abroad or augment digital skills and training at home. While “mainstream” R&D incentives are decreasing in generosity and volume, countries are doing more to try to attract and retain specialized workers. Governments want those workers to create valuable IP or intangible assets that in turn fuel the growth of an economy.
This is causing authorities to think long and hard about new incentives, making them more localized and targeted, with the aim, not just of attracting business (and, by default, tax revenues) from other jurisdictions, but of improving the greater good.
This is consistent with OECD recommendations that tax incentives be less broad-based, and more geared toward finding solutions for problems.
New Zealand’s new law for R&D tax incentives may financially benefit only enterprises that set out to create new knowledge, goods or services, and find solutions to scientific or technological problems. This is particularly relevant for an economy that, notes Benbow, “is highly aware that it needs to boost productivity, move away from agriculture, and focus more on IT and digital services.”
Life cycle of incentives
Tax professionals push back against the idea that businesses choose locations based solely on tax implications. It is increasingly important for tax directors to understand the full “life cycle” of incentives. The process starts with identifying which ones are changing, and even disappearing. Constant monitoring of legal and regulatory developments is key, and tax departments need to be fully aware of the definition of R&D for tax purposes in every sector in which they operate, or they risk tax claims being rejected.
Among the questions professionals should be able to answer:
- What constitutes taxable spending on R&D?
- What activities are eligible for tax credits?
- Must all R&D activity happen onshore, or can some activity be performed in another jurisdiction?
Benbow says this area is challenging for advisers like him. “There are a lot of shades of gray, and one of the hardest things we have to do is to work out what qualifies as an R&D activity or investment,” he says.
Beyond keeping up to date with the latest developments, technology can help track changes worldwide, generate paperwork needed for proper documentation and otherwise position enterprises to justify their R&D claims.
- Check whether countries in which you operate are eliminating blunt R&D tax incentives and replacing them with strategies to attract knowledge workers and digitally minded firms.
- Ensure you are fully aware of eligibility and compliance rules surrounding tax incentives.
- Look into technology options that could help to speed up decision-making around tax incentives.