Updated guidance on the Research and Development Tax Incentive

5 minute read  16.11.2020 James Momsen, Craig Bowie, Matthew Paterson

The Commonwealth Government has released an updated Guide to Interpretation for the Research and Development Tax Incentive scheme, which provides updated guidance for entities seeking to register for the scheme in a new, more accessible format.


Key takeouts


  • New format guidance for the R&D Tax Incentive is more user friendly and provides updated guidance on eligible core R&D activities.

 

  • New guidance on evidence and records required to support registration for the R&D Tax Incentive.

 

  • For an R&D activity to be an eligible core R&D activity, the outcome of the activity must be unable to be known or determined in advance.

 

Fresh off the back of the Commonwealth Government's expansion of the Research and Development (R&D) Tax Incentive scheme in the 2020-21 Budget, the Department of Industry, Innovation and Science has updated its Guide to Interpretation for entities seeking to register for the R&D Tax Incentive scheme.

Setting out the requirements for registration in plain English, featuring helpful charts and incorporating several important developments arising from recent cases in the Administrative Appeals Tribunal and the Federal Court, the updated Guide is an essential tool for entities seeking to take advantage of the expanded scheme.

The updated Guide was published after consultation with businesses, industry and R&D advisers. Following this consultation, the updated Guide expands upon the Department's 2016 Guide in three main ways:

  • it sets out a clear process chart which entities can use to determine their eligibility for the R&D Tax Incentive;
  • it provides updated and detailed guidance on what will constitute eligible core R&D activities; and
  • it provides guidance on the kinds of evidence and records which entities seeking to benefit from the R&D Tax Incentive should keep.

While the updated Guide does not represent a significant shift in policy by the Department, these changes nevertheless make the updated guide a useful tool for entities considering registration for the R&D Tax Incentive.

Process for determining eligibility

As entities are required to self-assess their eligibility for the R&D Tax Incentive, it is imperative that they have an accurate understanding of the process for determining whether they are eligible. At its core, the updated Guide describes the same four-stage process for determining whether an entity is eligible for the R&D Tax Incentive scheme as was described in the 2016 Guide:

  1. Am I an eligible R&D entity?
  2. Is my R&D eligible?
  3. Is my expenditure eligible?
  4. Do I have evidence to support its claim?

The updated Guide has changed the form of this guidance into a flow chart, which should help entities to better-understand the different routes for assessing whether or not they are eligible to register for the R&D Tax Incentive. The balance of the Guide assists in answering the questions posed in the flow chart.

Eligible core R&D activities

The most significant change incorporated in the updated Guide results from several important developments arising from cases in the Administrative Appeals Tribunal and the Federal Court – most notably Moreton Resources Ltd v Innovation and Science Australia [2019] FCAFC 120.

Following the statutory test, the updated Guide emphasises that for an R&D activity to be an eligible core R&D activity, the outcome of the activity must be unable to be known or determined in advance. This means that entities are required to undertake a worldwide search for existing ways to achieve the outcome of the R&D activity; if such a way exists, the activity will not be an eligible core R&D activity. However, if such a way exists, but is a commercial or trade secret held by another firm, the activity may still be eligible.

The updated Guide also stresses that the outcome of the activity must be determined by applying a systematic progression of work which adheres to the scientific method and is carried out by a competent professional. Critically, the systematic progression of work must include the following elements:

  • Hypothesis – which explains what result the activity is aimed at achieving, and how and why the entity thinks it can be achieved, informed by background research.
  • Experiments – a scientific procedure undertaken to test the hypothesis, observe what happens and compare this to what is expected. The experiment's outcomes do not need to support the hypothesis.
  • Observation and evaluation – the results of the experiment must be observed, measured and recorded, and those results must then be assessed and analysed to determine what they mean.
  • Logical conclusion – after following the above processes, the entity needs to form logical conclusions about the hypothesis arising from its observation and evaluation of the outcomes of its experiments.

Importantly, the activity must also have a substantial purpose of generating new knowledge. Although this factor will generally be met if the activities meet the unknown outcome aspect discussed above, it may not be.

The activity must also not be one of the excluded activities listed in section 355-25(2) of the Income Tax Assessment Act 1997 (Cth).

Evidence

Throughout the updated Guide, the Department stresses the need for entities seeking to register for the R&D Tax Incentive to keep evidence which shows how they conduct or plan to conduct their core R&D activities. Further, the updated Guide indicates that records of the R&D activities need to be kept, which can show the systematic progression of work that is required.

The updated Guide helpfully provides a list of the kinds of evidence or records which may support an entity's registration for the R&D Tax Incentive scheme. Entities seeking to register should bear this list in mind and keep records of their decision-making processes as well as their R&D activities in the event that the Department reviews or examines their registration or application.

Conclusion

The R&D Tax Incentive scheme is a generous incentive for entities which are considering engaging in R&D activities. The updated Guide is the first major rewrite for the Department's Interpretation Guide since 2016, and makes the process of assessing whether an entity's activities qualify it for the R&D Tax Incentive more accessible.

Although the updated Guide is an invaluable tool, entities seeking to register for the R&D Tax Incentive scheme should still seek legal advice about the best ways to do so, in light of the potential repercussions of the new anti-abuse measures also introduced by the Commonwealth Government alongside its expansion of the scheme.


Please contact our team below if you would like further advice on eligibility for registration for the R&D Tax Incentive.

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