47 – 49 Pearse Street, Dublin 2, IRELAND
The Knowledge Development Box –Public Consultation
Tax Policy Division
Department of Finance
Government Buildings
Upper Merrion Street
Dublin 2
by email to KDBconsultation@finance.gov.ie
7 April 2015
Dear Sir/Madam
The Knowledge Development Box (“KDB”) – Public Consultation Paper
INTRODUCTION
We are writing to respond to the above named document issued on 14 January 2015.
We note the international discussions in relation to preferential intellectual property
(“IP”) regimes and the necessity to conform with these, specifically the proposal for the
Modified Nexus approach which is currently under consideration within the OECD and
EU.
In order for the KDB to meet the Modified Nexus approach we believe that the following
should form part of the KDB criteria:


Value creation – whereby qualifying companies are required to meet a minimum
threshold of development activities in relation to the creation of the IP.
The ‘applicant’ company must be the legal owner of the IP and bear all economic risk
attached to it.

The company must demonstrate a strong link between the qualifying patent income
and the research undertaken.
In group scenarios, we would suggest that provision is extended to the wider group
where the group is headed by an Irish company. For example, in the UK, if the company
is a member of a group it must also actively own the patented invention by taking a
significant role in managing its whole portfolio of eligible patents.
We have addressed five key questions outlined in the Public Consultation Paper and our
comments are below. Responses to Questions 4 and 5 are encapsulated in our responses
to these questions.
Question 1: Please provide a description of the assets that you believe to be
functionally equivalent to patents and the basis for that belief.
We welcome the recognition by the OECD Forum on Harmful Tax Practices (FHTP) of
the need for clarity on the definition of qualifying IP, as noted in the report of the OECD
Secretary General to the G20 Finance Ministers and Central Bank Governors in February
2015. We understand that the FHTP is to produce further guidance on this definition.
We believe that intangible property which is capable of legal protection should be
recognised as qualifying IP. This could be defined to include IP assets which have been
created from research or development activities that meet recognised international
standards for scientific and technical/technological development such as those set out
in the OECD’s Frascati Manual, 2002. The types of intangible assets which are capable of
being recognised as separate assets under the identifiable technology-based assets
definition in International Financial Reporting Standards would seem to us to present a
useful starting place for defining qualifying IP assets.
The meaning of qualifying IP assets for IP regime purposes should therefore draw on
existing international standards for R&D and for accounting standards recognition of
assets. Therefore we suggest that qualifying IP assets should include:
• Patented rights (including plant variety rights and market authorisations related to
patents)
• Unpatented technology
o Software (whether or not protected by copyright)
o Design rights
o Trade secrets (secret processes, secret formulas and recipes)
o Know-how which is the subject of a licensing agreement with an independent
third party
It is worth noting that, at the time of writing, the UK definition of qualifying IP also
includes the following:


Infringement income
Damages, insurance or other compensation related to patent rights
In the UK, a company can also benefit if it uses a manufacturing process that is patented
or provides a service using a patented tool (in these circumstances, it is necessary to
calculate a notional royalty).
Consideration should be given to also including the aforementioned income sources in
any proposed KDB regime.
In the interests of widening the scope and applicability to the widest group of potential
beneficiaries, particularly small enterprises, consideration should be given to ‘patent
pending’ and ‘non-patented’ developments in the design of the KDB regime.
Frequently, best commercial practice suggests that the output from R&D activity should
not be codified in a patent application. It may be deemed more important to keep the
scientific or technical advance acquired through R&D strictly confidential within the
business for as long as possible. Different territories may have different procedures and
standards of recognition, and indeed different turnaround times, in securing patents.
Businesses with strong innovation content in their products can create IP assets which
are recognised as trade secrets (which can, for example, include secret processes, secret
formulas or recipes).
In other instances, the time and effort required for the patenting process may not be
justified by the commercial benefit conferred in the use of the advance. This can be the
case especially for smaller businesses operating internationally and for business based
in smaller economies such as ours which seek to exploit the IP through sales of goods,
products, etc. in larger markets. For many businesses operating in smaller economies,
the costs of registering patents across multiple jurisdictions may simply not be merited
in commercial terms.
Although IP assets in fast-moving industries may in some markets be capable of patent
protection, a prime example being software, where the commercial emphasis is on the
rapid application, rather than longer term protection, the company may choose not to
patent the application but seek to protect its interests by enforcing copyright or other
rights. In some cases in the software sector, a company might deliberately choose to
share technical developments in software applications it creates by writing the
application in open source code so that it can earn future profits from the adoption and
use of the application by others. These diverse commercial practices in protecting IP
assets does not mean however that an IP asset which arises via technical/technological
development activities and which is not patented is in any way less valuable.
Question 2a: In designing the Knowledge Development Box it is necessary to
consider the interaction of the regime with current loss relief legislation.
In the early stages of IP development a company may derive income from its qualifying
IP rights but not yet generate a profit. As a result the calculation of relevant IP profits
will result in a negative figure, thereby creating an IP loss.
Loss relief legislation in the context of the UK’s Patent Box regime and existing loss
relief legislation is worthy of note. We believe these rules set a clear precedent for any
proposed KDB regime. In that regime, companies who have elected into the Patent Box
regime and who have realised a loss are still able to relieve any actual trading losses as
if it had made no election into the Patent Box. However, it must still compute the
amount of the relevant IP loss because this amount will then restrict other Patent Box
benefits. In addition, an IP loss suffered by one company in a group can be set against
the profit of other group members. Any remaining balance is then carried forward to
reduce future IP profits in the same company or other group companies (in limited
circumstances).
Question 3: What expenditure should be included in the definitions of “qualifying
expenditure” and “overall expenditure” under the modified nexus approach?
Annex I of the Public Consultation Paper deals with the Modified Nexus Approach and
outlines that qualifying expenditures should include the types of expenditures currently
granted R&D credits under the tax laws of the relevant jurisdiction, in this case, Ireland.
Question 6: How should the tracking element of the regime (see paragraphs 22 &
23 of Annex I) operate to ensure that income benefitting from the preferential
rate is traceable to the qualifying expenditure but also user-friendly for both
companies and Revenue?
We understand that the OECD FHTP is currently working in this area and is due to reach
agreement by June 2015. Clearly any tracking and tracing approach adopted by Ireland
will need to be informed by their conclusions.
Another consideration is that tracing for older patents may prove quite difficult to
achieve. In this regard, an appropriate transition approach should be considered for
older patents.
Question 7: Are there any provisions that should be included in the regime to
specifically encourage small indigenous enterprises?
Recognising the limitations on R&D resources with narrow specialist skills that exist in
smaller economies such as ours, we suggest that equal treatment should be given to
outsourced expenditure of a company which is actively overseen and controlled by it
e.g. if a business buys in specialist expertise available elsewhere in the group in carrying
out its R&D activities, this should be treated in like manner to R&D costs and other
expenditure on creating a qualifying IP asset that is directly incurred by it. Equally,
there is merit in the proposition that where an Irish company operates an R&D centre
outside of Ireland any IP created within the R&D centre should fall within the KDB
regime whereby the R&D centre is owned by the Irish company and all profits from
R&D activity flow to Ireland.
In implementing any such KDB provisions particular care should be taken to ensure that
these provisions do not infringe on the Right of Establishment and Freedom to provide
Services as laid down in Articles 49 and 56 respectively of the TFEU.
Consideration should also be given to implementing a procedure similar to that
available in the UK regime that enables small companies to follow a simplified method
when calculating qualifying KDB profits. Under UK legislation, for companies with just
one trade, the amount of relevant IP profits can be the lower of 75% of the qualifying
profit (as calculated) or the small claims threshold. The small claims threshold has been
set at £1m pro rated for the number of associated companies also in the Patent Box
regime. This optional claim would enable small indigenous enterprises to benefit from
the regime without the administrative burden and cost of doing so becoming
prohibitive.
In addition, a streaming approach is also available in the UK which is designed to
recognise that in certain cases, the simple ratio of relevant IP income used in the UK to
total gross trading income will not give an acceptable measure of a company's profit
from the exploitation of qualifying IP. This could occur where a company has significant
non-IP income which generates little profit and less IP income that is far more
profitable. This could also occur where, conversely, a company's IP income is less
profitable than its non-IP income.
Where the ratio of relevant IP income to total gross trading income does not give an
acceptable measure of a company's IP profits, the company may elect to use a
"streaming" method to determine its relevant IP profits. Use of the streaming method is
mandatory where any one of a number of specified conditions are met, including where
a company receives a substantial amount of licensing income in respect of nonqualifying IP.
Where the streaming method applies, a just and reasonable apportionment of a
company's expenses, rather than the simple pro rata approach is required.
Comment on the general direction in which you would like to see tax policy
in this area to develop
Existing R&D Regime
Careful consideration needs to be given to the current R&D regime in operation in
Ireland. We would suggest that the regime be further enhanced to cement Ireland’s
reputation as a centre of excellence for R&D activity. We believe that the KDB can and
should work hand in hand with the R&D tax incentive scheme to ensure that a strong IP
environment remains at the heart of Ireland’s FDI offering.
For example, the UK has recently further enhanced the rates of R&D tax relief/credit
available to SMEs and large companies. This is in addition to the introduction in 2013 of
an above the line tax credit available to large companies.
In the UK relief totalling 230% of qualifying expenditure is available to SMEs (as
defined) with a payable tax credit of 14.5% available in loss making situations. Large
companies can avail of relief totalling 130% on qualifying spend or they can choose to
claim under the research and development expenditure credit regime which provides
for an 11% above the line taxable credit on the same qualifying spend.
Ireland should consider doing likewise as the carrying out of R&D in Ireland will be at
the heart of the KDB rules.
Anti-Avoidance
As with any system that provides tax incentives, anti-avoidance should be a key
consideration in the development of any KDB provisions. Any anti-avoidance rules
pertaining to an Irish KDB clearly should be formulated to ensure we do not fall foul of
EU or BEPS harmful tax measures concerns.
Phased Approach
It is worth noting that in the UK the full benefit of the Patent Box regime is being phased
in from 1 April 2013 with the full benefit not realisable until the Financial Year
commencing on 1 April 2017. Italy has recently introduced a Patent Box Regime in 2015
and has also taken a phased approach to its implementation. We suggest that
consideration be given to the merits of this approach regarding the KDB and whether
the Irish KDB regime should be permanent and irrevocable (as in the UK) or reviewable
after a period of time (as in Italy).
The method of providing relief for qualifying KDB profits should also considered. The
UK provides a reduced rate of corporation tax of 10% (50% of the current UK main rate
of 20%) whereas Italy provides a 50% exemption for qualifying royalties derived from
the licensing of qualifying intangibles. The latter methodology (as opposed to a 6.25%
rate of corporation tax) may be helpful in communicating the benefit of this incentive to
prospective FDI investors.
Conclusion
We are mindful of the OECD FHTP’s work in relation to BEPS Action 5, Countering
Harmful Tax Practices More Effectively, Taking into Account Transparency and
Substance. Work within the FHTP has led to the development of proposals for new
rules, known as the Modified Nexus approach.
However, these are far from final. Perhaps Ireland should consider an exemption from
capital gains realised upon the sale of IP assets, under the condition that at a substantial
% (say at least 90%) of the proceeds received are reinvested into research and
development activities in Ireland, possibly within a two year timeframe.
You may wish to note that these comments are from a representative body. The
Consultative Committee of Accountancy Bodies – Ireland is the representative
committee for the main accountancy bodies in Ireland. It comprises Chartered
Accountants Ireland, the Association of Chartered Certified Accountants, the Institute of
Certified Public Accountants in Ireland, and the Chartered Institute of Management
Accountants, which represent a combined membership of some 40,000 accountants.
Do not hesitate to contact Brian Keegan brian.keegan@charteredaccountants.ie or
Deborah Casey deborah.casey@charteredaccountants.ie of this office should you
require anything further.
Yours faithfully
Paul Dillon, Chairman, CCAB-I Tax Committee