The Hindu Business Line : More tax incentives needed for R&D

It has become increasingly apparent in recent years that research and development (R&D) is vital to the success, and even the survival, of almost any business. Technological innovation is a primary competitive factor across virtually all industries.

Experts predict that the next big technological innovations could emerge from India, China or Russia, far away from Silicon Valley. The rationale being that the future growth markets for global companies are likely to be in China and India, both of which have different consumer markets than the US.

Still, India faces major challenges as it attempts to grow into an R&D powerhouse — the crucial ones being managing the transition from product development to research, IPR regime, brain drain, lower levels of basic research, etc.

At this juncture, it may not be incorrect to mention that insufficient tax incentives for R&D spend in India could also come in the way of the country emerging as an R&D powerhouse.

Statistics reveal that the R&D spend by India Inc. has been on the rise over the last few years. R&D expenditure, which is currently estimated at less than 1 per cent of GDP, is likely to grow to 2 per cent of GDP by 2010.

Interestingly, the direct tax incentives that are granted to the R&D spend has not kept pace with the growing trend in the R&D spend. On the contrary, the tax incentives are being gradually phased out.

Currently, companies incurring R&D expenditure are allowed the tax incentives presented in the accompanying table.

Global experience

The data available in the public domain suggests that India is inching towards becoming the global R&D hub for MNCs. For this initiative to become reality, it is time that the tax incentives for R&D spend be re-looked at.

In this regard, a look at the tax incentives that other countries offer to the R&D spend could serve as an initial guidance tool. Replicating it, of course, would be subject to fiscal and other policy considerations.

Australia: 125 per cent deduction for eligible R&D expenses; plus 175 per cent deduction for eligible R&D expenditures exceeding a base amount of prior-year spending.

China: 150 per cent deduction for qualified R&D expenditure; tax exemption on derivation of revenue from technology transfers, technology development or consultancies and related technical services; and accelerated depreciation for R&D equipment if the unit value does not exceed RMB300,000.

Japan: A flat 8-12 per cent R&D tax credit; and additional 5 per cent of the R&D expenditure incurred in excess of last three fiscal years’ average.

Korea: Tax holidays up to seven years are provided for high-technology businesses; and a variety of tax credits are provided for R&D type expenditures.

Singapore: 100 per cent deduction for expenses incurred on approved R&D project in Singapore; and further deduction subject to capping of 30 per cent of statutory income of the financial institution incurring specified expenditure on R&D relating to new financial activities.

The UK: 125 per cent deduction for qualifying R&D expenses incurred by large companies; and 150 per cent deduction for qualifying R&D expenses incurred by small and medium enterprises (SMEs).

The US: 100 per cent deduction or amortisation over a 60-month period; 20 per cent tax credit for R&D expenditure incurred in excess of a base amount; and 20 per cent tax credit for qualified basic research payments.

Canada: 20 per cent flat (that is, first-dollar) R&D tax credit; and many provincial governments offer various incentives (for example, refundable credits) for R&D activities conducted in their provinces.

France: 50 per cent R&D credit which includes a 10 per cent flat credit and a 40 per cent credit for R&D expenditures in excess of average R&D spending over the two previous years as adjusted by a coefficient based on the consumer index.

Ireland: 20 per cent R&D tax credit for qualifying expenditure; and capital expenditures may also qualify for a separate flat credit.

Budget wish-list

To restore the erstwhile deduction allowed under Sections 80-IB [8A] to March 31, 2012, so as to fall in line with the deduction already allowed under Section 35(2AB).

This will also support the fiscal policy initiatives to support the R&D sector as brought out in the Budget Memorandum for 2006-07.

To extend the weighted deduction provided under Section 35(2AB) to in-house R&D conducted in the semiconductor sector to support the recently announced Semiconductor Policy for encouraging chip fabrication in India.

To allow weighted deduction under Sections 35(1)(i) and 35(1)(iv) instead of a 100 per cent deduction and to allow higher weighted deduction for amounts incurred in excess of base amounts spent in previous year.

To extend benefits granted to STP units for at least five more years to support growth of R&D outsourcing into India.

To introduce safe harbour margin rules in transfer pricing to facilitate increased R&D off-shoring and to encourage contract R&D research in India.

(The authors are Bangalore-based chartered accountants.)

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