In this article we’ll cover the important points from a recent Administrative Appeals Tribunal of Australia (AATA) case in which an applicant for the R&D Tax Incentive claimed expenditure for a supporting R&D activity conducted overseas without an Overseas Finding.
Summary
The overall analysis of the case [T.D.S BIZ PTY LTD and Commissioner of Taxation (Taxation) [2022] AATA 3543 (25 October 2022)] could be summed up as follows: poor knowledge and application of the legislation relevant to the R&D Tax Incentive, particularly regarding Overseas Findings.
Breaking it down further, T.D.S Biz (“the applicant”) committed the following errors regarding the relevant legislation:
- Not applying for an Overseas Finding before the end of the income year in which the R&D activities were conducted;
- Initially, incorrectly bundling ALL of the activities as a Core Activity on the R&D Tax Incentive application;
- Stating (in subsequent responses to the ATO after a review of their initial claim) that the reclassified supporting R&D activities were merely the supply of components, when they involved much more, including “the design, development and fabrication and/or supply of components for the assembly of the project’s prototypes”.
The result of the errors was that the applicant had to repay $701,855.95 of the refundable tax offset of $748,476.23 that they originally received, AND they were issued with an Administrative Penalty of $350,927.95 (50% of the $701,855.95 amount that had to be repaid).
Why is the ruling important?
The case has gone some way to clarify an important distinction regarding the scope of activities and where the boundary is, particularly when it comes to overseas activities. Where there is significant expenditure incurred in relation to prototype builds/development overseas, applicants must be very careful to determine what the actual activity is that is being carried out (i.e. there is potentially a big difference between prototype development compared to component supply), and register their activities accordingly.
A proactive approach to the R&D compliance process will assist with this. To avoid finding yourself in a similar predicament to the applicant in this case, careful planning is required, for example to submit your Overseas Finding application before the end of the income year in which you conduct, or plan to conduct, the overseas R&D activity. If this applicant had done so, they would have been informed by AusIndustry that their planned overseas supporting activity would not be eligible to be claimed via the R&D Tax incentive. AusIndustry does not accept late applications or grant extensions of time to apply for a finding under any circumstances.
Given the high level of overseas expenditure incurred (nearly 94% of total expenditure), knowing how the Overseas Finding process functions would have given the applicant time to potentially explore other possibilities for conducting the supporting activity in Australia or, at the very least, prevented the imposition of the $350,927.95 Administrative Penalty.
It is quite likely that, another R&D Tax Consultant with an understanding that aligned with the findings of the AATA, would have provided advice that the activity (and underlying expenditure) was not an eligible R&D Activity, including under the Overseas Finding related provisions – see paragraph 32 as follows:
“Given the significant size of the amount of tax offset the applicant claimed, a reasonable person in the circumstances would have taken steps to ensure that it was entitled to claim the tax offset. The requirement for an overseas finding is not complex or difficult to ascertain, and the applicant, at the very least, should have advised that components of the R&D activities were being conducted overseas and sought clarification as to requirement for an overseas finding.”
Unfortunately, whether the applicant would have been able to successfully argue that the expenditure was eligible if it represented merely a supply of components from overseas, is not contemplated by the case. The tribunal states “Contrary to the applicant’s contentions, the applicant’s supporting R&D activities are not the mere supply of components. The approved supporting R&D activities plainly go beyond the mere supply of components.”
Additional notes
The AusIndustry / the ATO previously had a factsheet available for public viewing which stated that they may accept some expenditure incurred on overseas R&D activities without an Overseas Finding where the expenditure was de minimis and the activities were very minor in relation to the overall project. A given example was attendance at an overseas trade show. This factsheet is no longer available and should not be relied on by companies making R&D Tax claims.
R&D activities must satisfy the four requirements below to be eligible as an overseas activity (with an Overseas Finding) within the scope of the R&D Tax Incentive:
- the overseas activity must be an eligible R&D activity,
- the overseas activity must have a significant scientific link to an Australian core R&D activity,
- the overseas activity must be unable to be solely conducted in Australia or its external Territories, and
- the expenditure on the overseas activities and activities not undertaken wholly in Australia cannot exceed the expenditure on the related activities undertaken solely in Australia.
In short, this type of case is a welcome reminder of the need to be well organized in your R&D program by planning in advance, keeping contemporaneous documentation, and knowing the relevant legislation.
Fullstack is proud to help businesses involved in Australian R&D continue moving onward and upward. Contact us today so you can leverage our expertise and knowledge of Australia’s commercial R&D landscape, and then implement your best strategy moving forward.
