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What is a Patent Box?

Tax planning is not unique to a specific country, and they are used all around the world. Furthermore, giant multinational corporations and conglomerates have the advantage of being able to structure their commercial activities so that taxes are minimized. Inventors have been known to register patents in tax havens even if they were developed in a different country, resulting in profits being transferred from the developed country to the developing country, and the developing country is unable to establish its right to any income arising from such patents registered elsewhere.


As a result, several nations worldwide have begun to implement favourable treatment for income generated from intellectual property exploitation to keep the intellectual property in the host country and stimulate domestic research and development. Furthermore, the Organisation for Economic Co-operation and Development (OECD) acknowledged that preferential intellectual property regimes are vulnerable to abuse and recommended a nexus approach in its Base Erosion and Profit Shifting (BEPS) project, which includes India, under Action Plan 5 (which deals with countering harmful tax practices).


European countries have a higher prevalence of patent tax regimes. Ireland was the first country to implement a patent tax regime, dubbed "Patent Box" since it required a separate box checked on the tax form. Ireland's Patent Box regime has lately been renamed the 'Knowledge Development Box' regime.


What is a patent box?


A patent box is a particular low-tax corporate tax structure utilized by several countries to encourage R&D by taxing patent profits differently than other commercial revenues. Intellectual property box regime, innovation box, or IP box are all terms used to describe it. Patent boxes have also been used to avoid corporate taxes through Base Erosion and Profit Shifting (BEPS).

Due to profit shifting issues, many patent boxes around the world have undergone significant revisions.


Countries with a Patent Box:

A patent box system does not exist in the United States. However, many European countries, including Andorra, Belgium, Cyprus, France, Hungary, Ireland, Italy, Lithuania, Luxembourg, Poland, Portugal, San Marino, Slovakia, Switzerland (Canton of Nidwalden), Turkey, and the United Kingdom, have implemented patent box regimes in recent years.

Many other countries, such as France (Patents and Royalties), the United Kingdom (Patent Box), the Netherlands (Dutch Innovation Box), Spain (Spanish IP Box), and others, have patent box regimes that were implemented either before or after the BEPS recommendations.


Patent Boxes: Their Purpose and Criticisms:

Patent boxes are intended to encourage and attract local R&D by cutting R&D tax costs. However, some new research doubts whether patent boxes help stimulate local innovation, claiming that they promote profit shifting to reduce tax responsibility.

Patent boxes can add a layer of complexity to a tax system, distorting the relationship between IP and non-IP revenue.


How does the patent box regime work?

For the 2013 tax year, the Patent Box cut the corporation tax rate for a part of patent profits to 14 per cent. The pace was then dropped by 1% per year until it reached its present level of 10%. (as of April 1 2017).


Calculating the exact amount of tax reduction might be difficult. In essence, accountants calculate 'patent related' profit related to products or services covered by a granted patent in a qualifying country to estimate the Patent Box reduction in corporation tax. They deduct a regular or expected profit (i.e. if no patents existed) from this 'patent linked' gain and then deduct the brand value (i.e. any profit attributable to your brand alone). This will result in an amount that will only be subject to a reduced corporate tax rate. According to the government, as of 2017, non-'patent related' profit will be taxed at 20%, while 'patent related' gain will be taxed at 10%.


The Nexus Approach:

Businesses using existing Patent Box regimes may see a reduction in income receiving preferential treatment under the proposed Modified Nexus Approach (MNA), as R&D expenditure to develop the patent must be undertaken in a smaller number of entities, including the company holding the relevant patent, to qualify. This could result in restructuring costs for corporations that have dedicated R&D entities to keep the exemption in the future. Furthermore, ignoring any IP acquisition fees could have an impact on business decisions. Countries may allow for an increase in qualifying expenditure within the MNA to reflect these concerns highlighted by businesses. As a result, such up-lift must be limited. It may be awarded only to the degree that expenditure in the framework of outsourcing and acquisitions has occurred. In any event, it is limited to a particular percentage of the company's qualifying expenses: 30%. This monetary restriction is based on a percentage of the total amount of outsourcing and acquisition charges. Acquisition costs and outsourcing to related parties are not included in qualified expenditures, but they are fit for determining the limits mentioned in the preceding item.


Claimants must now track their R&D expenses to compute a cumulative 'nexus' R&D proportion between 0 and 1, which they must then apply to their relevant IP earnings, which must now be calculated using a streaming methodology. This procedure entails splitting the company's revenue into income streams related to a specific IP right, product, or product family that is covered by one or more IP rights. The company's expenses are subsequently distributed among the various revenue streams. Compliance with the nexus patent box regulation does not have to be difficult in most circumstances. On the other hand, claimants will be asked to document and track their situation in the future.


Eligibility criteria for Companies for utilizing the Patent Box Regime:


A company must have contributed to creating or developing the patented invention or a product that incorporates the patented innovation to be eligible for Patent Box. The European Patent Office (EPO), the UK Intellectual Property Office (UKIPO), or one of the EU's 13 member states must have issued the patent.

The companies will also qualify if the patent has been in-licensed on an exclusive basis. Patents that are still pending are likewise included in the Patent Box, with benefits accruing for up to six years until the grant year.


The European Economic Area (EEA) is made up of the European Union's (EU) member states as well as three countries from the European Free Trade Association (EFTA) (Iceland, Liechtenstein and Norway; excluding Switzerland).Other EEA countries with identical inspection and patentability criteria as the UK are included in the Patent Box. In the exercise of the power provided by CTA10/S357BB(1)(c) and (7), SI 2013/420 Profits from Patents (EEA Rights) Order 2013, a list of qualifying patent countries has been published in HMRC (Full form: Her Majesty's Revenue and Customs) which is UK’s tax, payments, and customs authority. Corporate Intangibles Research and Development Manual are published, along with a description of the types of patent rights. These other EEA states are Austria, Bulgaria, Czech Republic, Denmark, Estonia, Finland, Germany, Hungary, Poland, Portugal, Romania, Slovakia, and Sweden.



Recent amendments and alterations:


The United Kingdom and Germany governments have declared that they have reached an agreement on a plan for the treatment of IP regimes. When the OECD's Forum on Harmful Tax Practices meets, this idea will be presented to the other members.


According to HM Treasury, the UK Government will consult with businesses on the complex ideas before adopting any changes.


The following are the significant changes in the new proposal:


• Adoption of a "modified Nexus approach," in which R&D work must take place in the United Kingdom for the corporation to get the full benefits of the regime. The proposal includes a provision permitting related parties to outsource up to 30% of R&D. (there remains no constraint on outsourcing to third parties).


Grandfathering laws — the current Patent Box regime will be open to new IP until June 30, 2016, and will last until 2021. (an election into the current regime can be made at any point for periods up to 2021, which will apply to pre-June 2016 IP, the precise definition of which is to be agreed).

• Beginning in 2016, a new regime integrating the "modified Nexus method" took effect, with the present and new regimes coexisting until June 2021.


The plan is contingent on agreement on appropriate transitional arrangements from the current regime to the new one. A crucial part of this is deciding on proper monitoring and tracing criteria under the 'modified Nexus approach,' which avoids undue complexity and compliance obligations for businesses that need to track R&D expenditure for up to 20 years or more.

To meet the BEPS deadline, the other OECD countries must agree upon these guidelines by mid-2015.

Not just the UK Patent Box, but all IP regimes would be affected by the plan. The types of IP that can qualify will be limited, with only patents and comparable IP qualifying, similar to the UK Patent Box. To move further, the idea would need to be approved by the members of the OECD Forum on Harmful Tax Practices. Following that, more conversations about the specific rules and how they will be applied are expected.


The Patent Box sounds interesting! What's the catch, exactly?


There is no catch because the Patent Box was created to encourage innovation and to reward enterprises who conduct qualifying research and development (R&D) and then patent their intellectual property (IP). This has been codified into law and has benefited thousands of businesses. Some businesses have even rearranged their IP holdings to take advantage of the new rules.

The Patent Box policy, like the longer-running R&D Tax Relief schemes, is only intended to promote the economy by incentivizing R&D and innovation.


References-

https://www.gov.uk/government/organisations/hm-revenue-customs

https://uk.practicallaw.thomsonreuters.com/5-524-5226

https://www.gov.uk/guidance/corporation-tax-the-patent-box

https://www.mondaq.com/india/patent/814130/the-patent-box-regime-in-india

https://en.wikipedia.org/wiki/Patent_box

https://cleartax.in/s/patent-tax-treatment

https://treasury.gov.au/consultation/c2021-177849

https://taxfoundation.org/tax-basics/patent-box/

https://www.royaltyrange.com/home/royalty-rate-database/patent-box

https://mpa.co.uk/what-we-do/tax-services/patent-box/patent-box-a-worked-example/