Tax Update: Irish 6.25% Knowledge Development Box
27 October 2015
On 22 October 2015 the Irish Finance Bill was published. Besides country-by-country reporting, it provides draft legislation of the first OECD modified nexus intellectual property box. As widely anticipated, the tax rate applying to eligible income under the new regime will be 6.25%. Gains from the disposal of IP remain taxable at 33%.
Scope of KDB
Despite speculation that the Irish KDB would be limited to income from patents linked to research and development conducted in Ireland, the box is slightly more generous and indeed, driven by the pharmaceutical and technology focus of the Irish economy. It applies to arm’s length income derived from qualifying expenditure in the EU by a company liable to Irish corporation tax from;
- computer programs under the Irish Copyright and Related Rights Act 2000;
- qualifying patent and supplementary protections. Supplementary protection certificates are extensions of patent protection where the invention in question is a product for humans or animals or a plant protection product that requires a marketing authorisation before the product can be sold, e.g. [drug] authorisation. The extension compensates the patentee for the delay in launching the product while awaiting the marketing authorisation, which may take several years to be granted;
- plant breeders' rights.
Software programs are protected in Irish law under the Copyright and Related Rights Acts 2000 and there is no registration requirement. Software programs in Ireland, in line with European law, include all computer programs which are original in that they are the company's own intellectual creation and include any design materials used for the preparation of the software program. Also included are derivative works or adaptations of computer programs. An adaptation of a computer program would include arrangements, other alterations and translations (which in turn includes making a version of a computer program in which it is converted into or out of a computer language or code or into a different computer language or code).
"Qualifying patents" include granted patents (wherever granted) but such patents must follow substantive examination for novelty and inventive steps. Therefore, not all patent systems may be covered and in Ireland, the Irish short term patent system is excluded. However, a special system for reliefs for smaller companies will apply to Irish short term patents.
Determination of Income Eligible for 6.25%
Income eligible for the 6.25% is determined by reference to the proportion of qualified expenditure in relation to the total expenditure on qualifying intellectual property. In determining the proportion of income eligible for the reduced 6.25% rate, bought-in intellectual property and research and development by related parties is largely denied the benefit of the low rate box. There is however provision for such expenditure to be included in a deemed uplift of a combined maximum of 30% of qualifying expenditure. Unlike Irish R&D credits, expenses from unrelated third parties is regarded as qualifying expenditure.
Statutory definition of KDB Specified Trade
Ireland's 12.5% tax regime applies to income from a trade carried on in Ireland. Irish legislation contains no detailed definition of a trade. Helpfully, the KDB legislation defines a KDB specified trade as including one or more of the following categories of activities;
- the managing, developing, maintaining, protecting, enhancing or exploiting of intellectual property;
- the researching, planning, processing, experimenting, testing, devising, developing or other similar activity leading to an invention or creation of intellectual property; or
- the sale of goods or the supply of services that derive part of their value from activities described in subparagraphs (i) and (ii), where those activities were carried on by the relevant company.
Where such activities are carried on, they are effectively deemed to be a trade.
OECD BEPS Compliance
Bearing in mind the UK patent box and the OECD Report on Action 3 on "Countering Harmful Tax Practices", the KDB is drafted deliberately to satisfy OECD BEPS objectives. Having regard to the dates of expiration of other IP preferential regimes and the various OECD initiatives, it is noticeable that the regime is initially stated to apply to income of companies for accounting periods beginning on or after 1 January 2016 and before 31 December 2020. Further, OECD BEPS compliance is reflected in the inability to claim interest relief on loan finance against profits eligible for the 6.25% rate.
The latest Irish Government initiative to attract part of the world knowledge economy to Ireland is a welcome fiscal initiative for multi-nationals to be based in Ireland. Being BEPS compliant should mean the Irish KDB cannot be challenged by other countries' controlled foreign companies regimes (under OECD Action 3). Where groups have income that is not eligible for the 6.25% rate, they may wish to consider using the benefits of Ireland's 12.5% corporation tax rate and the ability to use tax amortisation for bought-in intellectual property. Ireland's R&D 25% tax credit regime also continues and interacts with the KDB.
Finally, it should be noted that the KDB legislation contains an ability for the Revenue to police the regime using external experts. Whilst the draft legislation in conjunction with existing law attempts to preserve confidentiality, it is not clear that the proposed procedure gives sufficient comfort to companies claiming relief regarding the identity of the expert and the confidentiality of the information provided to the expert. A statutory confidentiality obligation applicable to the expert would appear to be in order.
The content of this article is provided for information purposes only and does not constitute legal or other advice.