Research & Development (R&D) tax credits and the Patent Box are two schemes that the UK Government introduced to help support innovation. They aim to support UK companies that are undertaking R&D work. But there are big differences between the two schemes. I’m going to take you through what they are, how they work, and what stage of company they’re aimed at.
The differences between the R&D tax credit scheme and Patent Box scheme
In a nutshell, there are two clear mechanisms for rewarding companies for conducting their R&D here in the UK:
- R&D tax credit scheme — offers a company access to a payable tax credit which companies can use to support their development.
- Patent Box scheme — allows a company to receive a tax reduction on profits which are attributable to qualifying patents.
The core aim of R&D tax credits is to get cash into the hands of early-stage start-ups and spin out companies who might have trouble accessing organic sources of cash or regular funding.
The Patent Box is different to R&D tax credits in the way it rewards the user. Instead of returning a payable tax credit, the Patent Box gives the user a reduced tax rate for profits generated by patented products and processes. So, instead of paying Corporation tax on profits from a patented product or process (currently at 25%), tax is paid at 10%, if the requirements of the scheme are met. This benefits innovative companies by boosting their ability to make profits.
It is also worth mentioning that the two schemes aren’t at odds with each other, rather they can be used in tandem if the requirements for both schemes are met.
How do the R&D tax credit scheme and the Patent Box scheme work?
Most companies at a R&D stage will be aware of the requirements of the R&D tax credit scheme (further detail can be found here).
With the introduction of the merged scheme, the potential return to companies via the R&D tax credit scheme will be reduced — compared to what they would have received through the previous SME scheme (if they qualified). This is sure to have a negative impact on the scheme’s appeal.
As a result, interest in Patent Box has received a boost, as companies look to find the most advantageous method to claim relief for them. They haven’t made any changes to the Patent Box scheme for years now — this shows a degree of stability when you compare it to R&D tax credits! However, the Patent Box works differently and is aimed at companies at a completely different stage in their lifecycle.
Patent Box allows a company to identify profits that are attributable to income gained from patented inventions taxed at 10%, rather than the standard rate of Corporation tax at 25%. So, a company can effectively get a 60% tax saving on IP profits.
Of course, the process is much more complex than simply identifying these profits. There are three broad steps that must be followed, which include:
- identifying the attributable profits to the Intellectual Property (IP),
- removing a routine profit, and
- removing profits associated with intangible assets, such as marketing etc.
Companies also need to meet a range of requirements to qualify as owning the IP or a licence over the IP. But for our purposes here we’ll leave it at that. If you’d like to read up on all the requirements, our explainer is here.
What stage of company is each scheme aimed at?
R&D tax relief scheme — aimed at companies at the beginning of their innovative journey, making technological and/or scientific advancements. This can be early-stage and spin-out companies who have limited ways to access cash.
Patent Box scheme — the Patent Box is best used when you’ve reached your development goal and are reaping the rewards of your work. These claims can be complex setting up, however, the rewards continue so long as you profit from the IP. Whilst you can’t benefit whilst loss making, it normally makes sense to plan ahead and get all your ducks in a row.
The diagram below gives you a rough idea of when and how to use both schemes from the perspective of a hypothetical startup:
As you can see, if you’re in those early stages, keep on focusing on R&D tax credits and the support they can provide. Keep the Patent Box in mind for a few years down the road, when your technology has broken into the market and your company’s reaping the rewards of that! Forward thinking and planning for when you do become a profitable business is vital if you are to make a successful switch to the Patent Box and gain access to its benefits.
