The Knowledge Development Box (KDB) was introduced in Finance Act 2015 and applies in respect of accounting periods commencing on or after 1 January 2016. The regime is ideally suited to SMEs deriving income from technology developed in Ireland. The introduction of this tax regime aims to reward those companies who invest time and effort into legally protecting their intellectual property
The KDB applies a preferential rate of corporation tax of 6.25% to profits from Qualifying Assets earned by Irish companies on a Specified Trade. The amount of profits that can avail of the regime will be the proportion the profits of a specified trade bear to the total cost incurred to develop the qualifying assets.
Outlined below is a brief overview of the Qualifying Conditions.
Qualifying expenditure on a qualifying asset means expenditure wholly and exclusively incurred by a relevant company, in any accounting period, in carrying on by it of research and development (R&D) activities in a Member State where such activities lead to the development, improvement or creation of the qualifying asset. (Identical to the definition of R&D activities for purpose of R&D credit).
Qualifying expenditure includes outsourcing costs for R&D activities but excludes such costs incurred to related parties (members of the same group). It also excludes the acquisition cost and interest expense of the qualifying asset. Careful consideration should be given to any group structure to ensure that the KDB can be availed of.
The exclusion of acquisition costs and group outsourcing costs dilutes the benefit of the KDB. To take account of this excluded expenditure, the amount of qualifying expenditure may be increased by the Up-lift Expenditure being the lower of:
- 30% of qualifying expenditure, or
- the aggregate of amounts paid to group companies and the acquisition costs of the qualifying assets.
It will be necessary to identify the R&D expenditure that has been incurred by the company over development life cycle of the Qualifying Asset. The company should maintain detailed records for the purpose of claiming the R&D Tax Credit which should provide all the necessary information to hand for the purpose of the KDB.
A qualifying asset is defined as intellectual property, other than marketing related intellectual property, and which is a result of research and development activities. Intellectual property specifically includes:
- Copyrighted Software
- Qualifying patents (excluding short term patents) and supplementary protections
- (For SMEs only) Assets which have not been patented but have been certified as Novel, Non-Obvious and Useful by the Controller of Patents, Designs and Trade Marks.
To qualify for the 6.25% tax rate under the provisions of the KDB a company must carry on a specified trade. A specified trade is a trade or part of a trade that consists of one or more of the following:
- Managing, developing, maintaining, protecting, enhancing or exploiting of intellectual property,
- Researching, planning, processing, experimenting, testing, devising, developing or other similar activity leading to an invention or creation of intellectual property, or
- The sale of goods or the supply of services that derive part of their value from activities described above.
Where the activities listed above form part of a trade of a company, the specified trade will be deemed to be a separate trade.
The amount of profits that can avail of the regime will be the proportion of the profits of a specified trade bear to the total cost incurred to develop the qualifying assets. Therefore the higher the proportion of R&D that takes place in the company the greater the proportion of income that may qualify for the KDB rate.
Only income derived directly from the qualifying asset such as royalty income, licence fee income and any portion of a sales price which is attributable to the qualifying asset will qualify for the relief.
The formula below calculates the profits that qualify for KDB rate:
QE + UE x QA
QE – Qualifying Expenditure
UE – Uplift Expenditure
OE – Overall Expenditure
QA – Profit of the specified trade relevant to the qualifying asset before taking account of the KDB allowance
The formula outlined above is quite complex in nature. There are a number of transitional measures contained in the legislation that are relevant for the purpose of determining qualifying profits in accounting periods commencing on or before 31 December 2019.