The conclusion of an AAT case dealing with the R&D Tax Incentive was released on the 22nd of January 2016, highlighting the increased audit and compliance activity by Innovation Australia and the Australian Taxation Office in this area.
The case of JLSP and Innovation Australia [2016] AATA 23 predominantly dealt with whether the R&D activities of the claimant company were conducted for the purpose of generating new knowledge as required by the definition of ‘Core R&D activities’. The definition of ‘Core R&D activities’ can be found in section 355-25 of the Income Tax Assessment Act 1997, which clearly creates a ‘purpose test’ for R&D activities. Specifically, the case sought to evaluate whether a clinical trial carried out in accordance with a contractual agreement was conducted for the purpose of generating new knowledge.
Innovation Australia declined to make an advance verdict that the taxpayer’s clinical trial was a core R&D activity. It said that the only significant purpose of the trial was to perform specific services to accomplish their contractual obligations.
The AAT rejected Innovation Australia’s submission on the foundation that the trial satisfied the definition of “core R&D activity” in s 355-25(1) because it was an experimental activity for the purpose of discovering something unknown or testing a principle and that the outcome of the activity could not be determined in advance. The AAT also rejected the argument that the purpose of generating new knowledge must be the dominant or prevailing purpose. Rather, the AAT considered that the “purpose of generating new knowledge must be more than an insubstantial purpose and must be substantial enough to enable the activity to be accurately characterised as conducted for that purpose.”
Essentially, the learnings from this case are:
- R&D entities must be capable of showing the purpose of each core R&D activity. The plan, execution, measurement of results and the response must show that R&D was “more than an insubstantial purpose” yet it does not need to be the purpose that outweighs all others.
- R&D can be undertaken in a commercial context and it is possible for an R&D activity to be a business as usual activity as long as the R&D entity can show a substantial purpose for each core R&D activity is to generate new knowledge.
- An activity must be conducted for the R&D entity or for an associated foreign company. If the later, then proper agreements need to be in place.
Should you wish to discuss the elements of the R&D Tax Incentive further, contact AusGrant today.
