Considering applying for the R&D Tax Incentive? We cover off on the 5 biggest questions…
Feedstock adjustments for the R&D Tax Incentive
If you are claiming the R&D Tax Incentive (RDTI), and the R&D activities associated with your claim result in products that provide a material benefit in the form of marketable products or products for your own use, then a feedstock adjustment to your assessable income is required.
Feedstock is the general term given to the raw materials used in the manufacture or processing of goods or materials. Feedstock adjustments for the R&D Tax Incentive arise because expenditure is often incurred on feedstock used in R&D activities that produce products that are then sold or supplied to another entity. These adjustments reduce the extent to which the RDTI provides an unwarranted subsidy to activities that are already directly profitable.
The feedstock principle covers all cases where R&D activities (including supporting R&D activities) produce direct output (feedstock output) of value. These feedstock outputs do not include the knowledge/improvements that are the intended results of core R&D activities. Consequently, the feedstock rule captures neither the sale of the intellectual property arising from R&D activities, nor the exploitation — in the form of subsequent production — of knowledge or information about the creation of new or improved materials, products, devices, processes or services. However, the feedstock rule does capture the materials, products, devices, or services produced by the R&D activities, which embody the knowledge or information arising from the R&D activities. For example, the feedstock rule would capture a prototype aircraft, but not an improved aircraft design.
Feedstock input expenditure relates to goods, materials, or energy used during R&D activities that produce marketable products or products for the entity’s own use.
A feedstock adjustment is made to include an amount of additional assessable income and is equal to 1 / 3 of the lesser of:
- the feedstock revenue for the feedstock output; or
- the expenditure reasonably attributable to the production of the feedstock output, including expenditure on any energy input directly into the transformation or processing or the decline in value of assets used in acquiring or producing the feedstock inputs
Some examples from the government’s literature on the topic illustrate the use of the aforementioned terms in relation to Feedstock Adjustment calculations.
Example 1 (a):
Company A is conducting R&D on a new granite crushing process to produce marketable granite sand. The notional deductions they can claim under the RDTI for the related R&D activities are $22,000, which includes $10,000 in feedstock input expenditure.
Because the granite sand is sold for $9,000 (the feedstock revenue) immediately after completing the R&D activities, without further expense in preparing it to be sold, Company A will calculate its feedstock adjustment amount as follows:
1/3 of the lesser of $10,000 (feedstock expenditure) or $9,000 (feedstock revenue)
= 1/3 × $9,000
Therefore, due to the feedstock revenue of $9,000 it received from the sale, Company A must include a feedstock adjustment of $3,000 in its assessable income, on which income tax will be levied at a maximum of 30% (depending on whether Company A’s aggregated turnover passes the $50 million threshold for the financial year).
Example 1 (b):
In another scenario involving Company A, due to some impurities remaining in the granite sand after performing the R&D activities, Company A had to conduct further processing of the granite sand so that it would be commercially viable to sell on the market. The feedstock expenditure remains at $10,000; however, the additional processing necessary after the conclusion of the R&D activities increased the cost of the granite sand to $12,000 (cost of producing feedstock output), which increased to $15,000 by the time it was delivered for sale (cost of producing marketable product). The granite sand was eventually sold for $20,000, which is the market value of that marketable product.
Thus, the feedstock revenue for the feedstock output is now calculated as:
Market value of the marketable product × Cost of producing feedstock output Cost of producing marketable product
= $20,000 × $12,000 = $16,000
The feedstock adjustment = 1/3 of the lesser of $10,000 (feedstock expenditure) or $16,000 (feedstock revenue)
= 1/3 × $16,000 = $3,333
Therefore, if Company A were to pay the maximum income tax rate (30%), it would be liable to pay $999.90 (i.e., 30% × $3,333).
What if claiming the RDTI for activities that involve feedstock amounts ends up not benefitting my company?
AusIndustry (now Innovation and Science Australia) and the ATO jointly developed an administrative solution to address situations in which claiming the RDTI for feedstock amounts is not sufficiently beneficial for the claimant. In this solution, when lodging an RDTI claim, R&D entities can choose not to register R&D activities or parts of the activities that involve the acquisition or production of goods or materials that are to be transformed or processed in R&D activities. This then allows the R&D entity to claim the expenditure it has excluded from the RDTI provisions under other tax law provisions.
When an R&D entity decides not to register parts of the activities that may result in a feedstock input claim and feedstock adjustment, it should report this explicitly in its registration application, as follows:
‘Regardless of any express or implied indications to the contrary, the activity/activities for which registration is sought does/do not include:
- the acquisition or production of goods or materials transformed or processed in producing one or more tangible products
- the acquisition of energy that is input directly into the transformation or processing, or
- the use of assets in acquiring or producing the feedstock inputs.’
In the registration application form for the RDTI, the words can be entered once for each Project or for each individual activity.