Unwrapping the (Patent) Box: much ado about nothing?

On 11 May 2021, Treasurer Josh Frydenberg announced that the 2021-2022 Australian Federal Budget would introduce a Patent Box tax break.  This regime is designed to encourage domestic research and development and otherwise promote innovation in Australia.  Whilst the proposal is a promising sign that the Australian Government is continuing to explore ways to increase domestic innovation, given the significantly greater tax breaks offered overseas, we do not foresee any significant change in local R&D investment to follow.

The real challenge lies in incentivising Australian businesses to make products in Australia for global supply rather than incentivising them to innovate in Australia.  A tax break addressing the manufacturing challenge would be one worth announcing with much fanfare.

Opening the (Patent) Box

In short, from 1 July 2022, taxable income derived from Australian medical and biotechnology patents will be taxed at a concessional tax rate of 17%.  This is a considerable reduction on the corporate tax rate, which is usually 30% (or 25% for SMEs).  This “Patent Box” tax break will apply:

• to new Australian granted patents for medical and biotech inventions for which the corresponding patent application was lodged after the Budget announcement on 11 May 2021. Companies currently holding granted patent rights or who have pending Australian patent applications will not benefit from these measures.
• in proportion corresponding with the percentage of the underlying R&D occurring in Australia. For example, a company that conducted 80% of its R&D relating to the patent in Australia will only be eligible to claim the reduced tax rate for 80% of the net income generated by that technology.

The exact details of the “Patent Box” are not clear at this time.  The Government has said that the Patent Box will follow the Organisation for Economic Co-operation and Development’s Guidelines and that it will consult with industry before settling the details.  We keenly await the opportunity to consider these details, including whether the government will expand the scheme to the “clean energy sector” as suggested by the Treasurer.

Australia’s proposed Patent Box tax break significantly less than O/S

Similar “Patent Box” regimes are in place in several other countries around the world including many European countries, India and China.  In the UK, income derived from certain IP assets is taxed at 10%, rather than the 19% that would otherwise apply.  In the Netherlands, income derived from certain IP assets is taxed at 7% rather than the 20-25% that would otherwise apply.  In India, the concessional tax on income from patented articles and processes is about 11% (compared to a standard corporate tax rate of 30%).  In Poland, the concessional tax rate is as low as 5% under an IP box regime (compared to a standard corporate tax rate of 19%).  By international comparison, the Australian government’s proposed tax concession of between 30% (for SMEs) and 45% (for other companies) is not particularly generous.

Innovation in AU versus manufacture in AU

R&D investment in Australia has been routinely measured as close to the lowest among OECD nations.  We welcome all initiatives to increase biotech and medical innovations in Australia.  However, given the much lower concessional tax rates already in place in many countries around the world, Australia’s proposed “Patent Box” tax concession is unlikely -without more- to prompt any significant increased investment in local biotech/medical R&D.

In 2015, the Melbourne Institute of Applied Economic and Social Research concluded that a Patent Box regime would lead to a higher number of patent applications being filed in Australia, but that it was unlikely that the increase in patenting would be linked to real economic activity.  In 2016 the Joint Select Committee on Trade and Investment Growth’s Inquiry into Australia’s Future in Research and Innovation made similar conclusions.  Submissions made by biotech/medical industry representatives to this inquiry argued that a Patent Box tax incentive is not a panacea, but must be part of a suite of measures designed to motivate companies to incentivise Australian innovation.  IP Australia also submitted that Patent Box systems employed internationally have not increased the level of local innovation, and have come at a high cost to implementing governments.

Whilst the Patent Box tax incentive is a promising sign that the Australian Government is continuing to explore ways to enable domestic innovation, the real challenge lies in incentivising Australian businesses to make products in Australia for global supply.  A tax break addressing the manufacturing challenge would be one worth announcing with much fanfare.