How Tax Can Make Manufacturing Technologies More Affordable
Companies will spend approximately $6 trillion on Internet of Things (IoT) solutions over the next five years. However, lack of knowledge about tax rules and grants that might make investments cheaper and more profitable could hamper the ROI of these investments. The same scenario applies to new technologies like 3D printing, robotics and augmented reality. Companies need to ensure they’re well equipped to make the most of investment in new technologies with an understanding of the full spectrum of credits available, and the opportunities and pitfalls that can emerge.
I spoke about how manufacturing companies can make more efficient investments in these new technologies with my colleagues Tony Spillet from BDO UK, Nicola Purser from BDO Australia as well as Chris Bard and David Yasukochi from BDO USA.
Jakob Sand: Investing in new manufacturing technologies like IoT can create a competitive edge. 72 percent of manufacturing companies taking part in an IoT survey said IoT investment had boosted their productivity. 69 percent said it had increased their profitability. However, 40 percent of manufacturers do not have a strategy for integrating IoT. A contributing factor may be that companies fear getting the investments wrong. Something that could especially be the case for SME companies.
Tax credits associated with research and development projects (R&D) can help make investment cheaper, which makes it sound strange that a majority (58 percent) of manufacturers say they are not planning to claim tax credits and incentives for their IoT investments. 37 percent say they are not aware R&D credits are available to them. How does the situation look in your country?
Nicola Purser (Leader of the Research and Development (R&D) and Government Incentives team at BDO Australia in Brisbane): R&D tax credits have existed in Australia in one form or another for more than 30 years. Our impression from working in the space over that time is that a majority of companies are aware of the programme and broadly understand its rules. We also find that most established manufacturers already access the available R&D credits.
Small to Medium size enterprises and younger manufacturers are generally aware of the programme, although we find that they do have a lower participation rate. They may not take full advantage of the R&D credits and in some cases even avoid the programme, believing their activities are ineligible.
While the rules are generally understood it is often the nuances of the program that can deter some companies. For example, the intention of the programme is to cover a broad range of activities from basic research through to experimental development and improvement of existing technologies. However, most guidance published by our regulators focuses on early-stage blue-sky research. As a result, manufacturers who rely on this guidance may believe their R&D activities, which tend to be incremental rather than ground-breaking, are ineligible even though they meet the broader eligibility criteria established under the programme.
Tony Spillett (Tax Partner & National Head of Technology and Media for BDO UK): In the UK, the rules for R&D tax credits have been with us for nearly 20 years. As a result, most companies across different industries, including manufacturing, are generally aware of the rules’ existence.
However, there are two points to make in that regard. One is that the rules were formulated in a different time before we started to see the emergence of disruptive technologies like IoT or 3D Printers. As a result, some of their technicalities when investing in new technologies can be clunky. Very clear project reports are needed to help the tax authorities understand how such projects seek to achieve a technological advance. Secondly, I would say that while there is a reasonable general knowledge of R&D tax credits, there is still a lack of knowledge about various government grants that can also help manufacturing companies invest in new technologies and the Patent Box that can provide a tax benefit to the outcome of successful R&D projects in due course.
Chris Bard (BDO USA’s R&D Practice Leader): Here in the U.S. BDO’s Tax Outlook Survey of US tax executives found that even though it’s been around since 1981, nearly 30 percent of respondents were unfamiliar with the R&D tax credit or weren’t claiming it. Further, our 2017 MPI Internet of Things Study found that 57 percent of respondents don’t plan to claim R&D credits for their investments to leverage the IoT. I would speculate that the same applies to other new technologies, like the ones you mentioned.
According to the Tax Outlook Survey, the top five reasons companies give for not investigating their R&D tax opportunities are their often incorrect beliefs that they: 1) Aren’t doing “ground-breaking” work; 2) Won’t be able to support any credits they claimed on examination by tax authorities; 3) Are too small to benefit; 4) Can’t benefit because they aren’t paying taxes now; and 5) Lack the necessary documentation. Our experience is that often these concerns are overstated and can be alleviated through partnering with R&D tax professionals.
Jakob Sand: From a technological standpoint, IoT and other emerging technologies hold great promise for manufacturing companies. At the same time, there are potential pitfalls to avoid. One is a lack of specificity. In other words, launching projects that lack focus.
I would say that the same could be said to apply to companies’ applications for grants and/or R&D tax credits for investments in new technologies. I am aware that it is a bit of a sweeping statement, but what is your take on that?
Nicola Purser (AUS): There is a level of uncertainty about how to best match the available R&D tax credits and grants with the different projects – or parts of a project. For example, some of the activities that occur in the latter stages of the product development lifecycle may no longer be eligible for R&D tax credits. However, they may be for one of the various commercialisation grants.
Companies also need to be careful when determining whether their activities are eligible for certain funding. Merely using new technologies such as IoT-enabled devices, does not necessarily mean manufacturers are entitled to R&D tax credits. The companies need to do more than use an off-the-shelf technology as intended, even if the technology is the first of its kind. Eligibility for the R&D credits requires companies to use the existing technology in novel ways to develop new or improved products or processes that go beyond the scope of the original design.
I would also mention that one of the issues for companies is that the rules and regulations can be subject to change. In Australia, we recently experienced a 1.5 percent reduction in the available R&D tax credits. The government is also in the process of reviewing the R&D tax scheme in an attempt to improve its performance. One of the initial six recommendations was to introduce an intensity test for applicants – that is, companies would only receive tax credits if their R&D expenditure exceeded 1-2 percent of the total company expenditure. Our analysis is that this would have the greatest impact on manufacturers, particularly due to the disproportionately high operating costs diluting the R&D expenditure. We have also found that without any indication as to whether the government will adopt these changes, there is a great deal of commercial uncertainty impacting strategic R&D planning across all industries.
Tony Spillett (UK): There is a similar situation in the UK. You could say that the two main modes of easing investment in new technologies are R&D tax credits and grants. The latter may often prove the best way to lower the price of buying hardware, especially if we look beyond south-east England and certainly into Wales, Scotland and Northern Ireland. There are many regional grants available, and our BDO team has a good track record of helping manufacturers successfully apply for such grants.
Regarding R&D tax credits, they are available on a project-by-project basis. Much the same as in Australia, the focus is on purpose. A point to raise here is that the way you use new technologies almost always means stretching the capabilities of your workforce, another factor that can help to secure grants. It is worth noting, though, that the potential changes in the wake of Brexit could easily include changes to the R&D credits. I think targeted tax reliefs to secure inward investment by cutting-edge technology businesses is one of the main levers available to the UK government to make the country attractive to investment, once EU state aid and other such external restrictions no longer apply. Of course, it depends on how the negotiations go. It is something we are following closely and advising our clients on.
Chris Bard (US): There is some overlap with the situation in Australia and the UK. Without diving too far into the details, the federal R&D credit can be up to 9.1 percent of qualified spending, which, when combined with the various state incentives, could push the immediate return to more than 15 percent. In addition, because the U.S. doesn’t require that research be successful in order to qualify, as many other jurisdictions do, these benefits are widely available.
For example, insurance, finance, real estate and other companies claim R&D credits for their software development activities. Manufacturers of any kind are eligible for their activities to make things better, faster, cheaper or greener. Many breweries of all sizes, for example, are claiming R&D tax credits for their investments in developing new recipes, improving hopping or fermentation techniques, and the like.
David Yasukochi (Co-Leader of BDO’s Technology & Life Sciences practice): Manufacturers, whatever their size, often qualify for R&D credits in relation to the integration of new technology in their manufacturing processes, and in their products.
The credit scheme has been undergoing changes in the Internal Revenue Service’s interpretation of qualifying activities. There have also been changes to the rules for R&D tax credits in relation to internal software development. The overreaching effect is a slight loosening of the rules, making it even more likely that companies could be missing out without knowing it. There have also been some very positive changes in the law. For example, start-up companies without a tax liability to utilize the credit against can now use it to offset their payroll tax liabilities. This may be a change many taxpayers are unaware of.
One problem historically in the U.S. has been that the credit expire every couple years, and has even been retroactively extended a couple of times. During those awkward periods where taxpayers weren’t sure whether their activities were eligible for a tax credit or not, it is hard to say whether it truly served the aim of incentivizing research. That has now been remedied with the permanent enactment of the credit.
BDO is present in more than 160 countries. Our unique blend of global and local presence enables us to help companies around the world maximise their businesses. Contact your local BDO professionals to find out how we can help you getting the optimal return on investments in new technologies, such as IoT, 3D printers, augmented reality and robotics.