By Jon Sutcliffe, Kingston Smith
Following on from part 1 in the series on Patent Box, part 2 covers how it is calculated and what processes are involved.
To qualify for the Patent Box, companies must derive trading profits from:
• selling patented products – that is sales of the patented product or products incorporating the patented invention or bespoke spare parts
• licensing out patent rights
• selling patented rights
• infringement income
• damages, insurance or other compensation related to patent rights
There are two main ways to calculate the profits eligible for the Patent Box: Basic and Streaming. In simple terms:
• Basic – The basic method takes the qualifying patent income as a proportion of the total trading income and applies this to the company’s taxable profits. A mark up on back office costs is then cut from the qualifying profits and a further amount is taken off in respect of other intangible assets. The remaining qualifying profit is then taxed at the reduced rate of 10%.
• Streaming – The streaming method is similar but more accurate. The patent-derived income is allocated directly against the costs to produce it on a ‘just and reasonable’ basis. This must be appropriate from the start to get the calculations correct as it is difficult to change the method used for streaming unless the company’s circumstances change significantly. Keeping accurate records of associated costs is paramount when determining whether to use this method of calculation.
This is one of those questions where tax advisers would often say ‘it depends’…
First, the fact that sales are made overseas doesn’t affect the situation, as long as the patent itself is registered within the UK, EU, or other specified European patent offices. Each company involved (parent and subsidiary) must then be considered separately to see if they meet all of the qualifying criteria.
If the parent company owns the patent, with the subsidiary utilising it, the parent company must meet the ‘active ownership’ condition to qualify. This means it must:
• Have developed the patent or product itself (i.e. the patent or product must not have been developed by a different group member)
• Be actively managing their IP – deciding on which products will go to market, what features those products will have and how and where they will be sold will also count as management activity.
In this circumstance, the derived profits for the parent company should qualify for the Patent Box.
If the parent has effectively transferred all of its rights in the patent to its subsidiary then the subsidiary will be deemed to have an exclusive license for the patent and, as it is part of the group, this doesn’t need to meet the same stringent conditions as an exclusive license from outside the group.”
You would then need to look at whether the subsidiary itself qualifies – meeting development and/or active ownership conditions and utilising the licensed patent for its product. Provided the income received is trading income and not investment income, the subsidiary should qualify.
We are still in the early days of Patent Box. While the regime came into force on 1 April 2013 we are just starting to file the first claims for our clients. The main challenges we have encountered so far revolve generally around the quality of information. Specifically, we have had cases where invoices for goods have not clearly divided the income between different products. Also, in some cases it has been difficult to determine exactly which products should be in the box and which to exclude.