The UK Patent Box Gap: Companies are missing out

The ‘Patent Box’ is one of the most generous tax reliefs ever introduced in the U.K. corporate arena. It is a 10% rate of corporate tax—a 9% discount on the main rate of tax of 19% that applies to qualifying profits from patented products or processes.

Unlike research and development (R&D) tax benefits, which are only available for the duration of an R&D project, the Patent Box benefits apply as long as the patented product (or process) is generating income. Potentially, this could be up to 20 years, although in practice it tends to be for a much shorter period

Post-Brexit

The Patent Box, together with the low UK corporate tax rate and R&D tax reliefs, makes the UK a preferred location for many innovative businesses. Despite the uncertainty around how Brexit will impact on the UK economy, it is expected that Patent Box tax benefits will continue to be available.

Last year, the benefits under the Patent Box were reduced to bring the UK scheme in line with European Union (EU) law and to ensure that preferential regimes for intellectual property within EU Member States were not anti-competitive. This resulted in the introduction of a ‘nexus based Patent Box scheme for new patents. This broadly affected those businesses with R&D hubs positioned in another group-based company, particularly those located overseas. There may now be an opportunity to remove some of the restrictions that resulted from being part of the EU.

Overview of the Patent Box Scheme

Patent Box tax benefits are available to companies, with patented products (or processes) which they have developed, where they have opted into the Patent Box scheme.

Companies that can potentially benefit are those that have either:

• created, or significantly contributed to the creation of a patented invention
• performed a significant amount of activity to further develop a patented invention
• performed a significant amount of activity developing a product or process incorporating a patented invention.

Can my company Benefit from the Patent Box?

Tax savings may be available if the answer to the three questions below is ‘yes’:

• Has the company been involved in developing a patented product or process?
• Does the patented product or process currently generate profits, or is it likely to generate profits over its life?
• Has the company been granted a patent, or is it planning to make a patent application for a product or process in one of the following jurisdictions: the U.K. Intellectual Property Office; the European Patent Office; Germany; Sweden; Austria; Bulgaria; the Czech Republic; Denmark; Estonia; Finland; Hungary; Poland; Portugal; Romania; Slovakia; or Sweden?

The Patent Box Gap

While the latest statistics from HMRC indicate that an increasing number of innovative companies are claiming R&D tax relief each year (26,000 in 2014/15), in the last year only 1,135 companies benefited from the Patent Box.

Unsurprisingly, nearly three quarters of the companies that claimed Patent Box benefits were in manufacturing or retail, and a further 11 percent were scientific and technical companies.

Given that around 20,000 new patent applications are being made to the UK’s Patent Office every year, and patents generally apply for 20 years, there will be an estimated 400,000 live patents at any one time. In other words, there is potentially a large number of companies that are missing out on Patent Box tax benefits.

Why are companies not caiming under the Patent Box?

There appear to be a number of reasons why so few companies are taking advantage of this regime.

The most likely reason is because the Patent Box was only introduced four years ago and, as a relatively new tax incentive, many companies are unaware that they could benefit from it. That would be in line with R&D tax benefits (the other main tax incentive targeted at innovative businesses), which were first introduced in 2000 and took 10 years before the total annual number of claims exceeded 10,000.

For those companies that do know about the Patent Box, its perceived complexity is cited as a significant barrier to making a claim. The complexity is due in part to the fact that there is a minimum seven-step calculation to determine the Patent Box profits. This is set out in 25 pages of the detailed tax legislation. The other complication arises because there are currently two different Patent Box schemes running in parallel, and for companies with more than one patent, it is possible for both schemes to apply in any one year.

The two Patent Box schemes comprise the ‘original’ scheme, introduced in 2013 and applicable to some businesses up to 2021, and the ‘modified nexus’ scheme introduced from July 2016 for new patents.

The ‘original’ scheme applies to companies that held qualifying patents at June 30, 2016 and have elected into the Patent Box within the normal two-year time limit.

The ‘modified nexus’ scheme is generally less generous than the ‘original’ scheme and can impose restrictions on the Patent Box benefits available compared to the original scheme. The main restrictions apply where the R&D activity leading up to the patent application has been contracted out to another company. This is likely to affect those groups that have an intellectual property owning company that holds all of its patents, and another company that has developed the patented intellectual property.

The need to be able to extract from the accounting data streamed profits, on a patent-by-patent basis, and track and trace the attributable cumulative R&D spend in order to calculate the Patent Box profits is also seen by companies as a deterrent to claiming.

When should a company claim Patent Box tax benefits?

Patent Box benefits are only available to companies that hold qualifying patents and make a formal election into the Patent Box scheme.

It is worth mentioning one word of caution: before companies take the plunge and elect into the Patent Box it is advisable to assess the estimated tax savings over the life of the patent. There are instances where either the patent generates losses (and so there is no tax saving) or the tax benefit is likely to be insignificant compared to the cost of preparing the Patent Box calculations each year.

However, there are many companies that are profitable and where the tax savings over the life of the patent can be significant. These companies should not ignore the opportunities under the Patent Box regime and should act to explore how their companies can benefit.

Please contact Caroline Hunt, Tax Director if you wish to explore these benefits further.

This article first appeared on Bloomberg BNA in November 2017.