The R&D Tax Incentive largely operates on a self-assessment basis, but if you’re selected for review by Innovation and Science Australia or the ATO, it’s good to know what your options are if an adverse finding is made
If your expenditure for the R&D tax incentive is challenged you will face an R&D tax incentive review. We look at your options.
Due to the R&D Tax Incentive program operating on a self-assessment basis, claimants are responsible for determining whether their activities and expenditure meet the eligibility criteria. After registering for the RDTI, the claimant will be notified in writing of the decision by the Board of Innovation and Science Australia (ISA) — previously known as Innovation Australia. The Board will decide (the legislation refers to this as making a “finding”) whether or not the activities being registered are indeed Core R&D activities and Supporting R&D activities. Findings by the Board are reviewable. The notice from the Board will include a certificate for each finding, stating, among other things:
- a description of the finding;
- the Board’s reasons for the finding;
- the registered activity affected by the finding; and
- the effect of the finding on the entity’s registration.
To gain certainty about whether an activity qualifies as an R&D activity, you can seek a finding before registering the activities (known as an Advance Finding). This process is most often used by R&D entities regarding the inability to conduct an R&D activity in Australia and is paired with an Overseas Finding. An R&D tax offset will only be available for expenditure incurred on an activity conducted outside Australia if a finding determines that the activity cannot not be conducted in Australia.
An R&D entity affected by a reviewable decision can ask the Board to conduct an internal review of that decision. The entity (or another related entity affected by the resulting internal review decision) can subsequently request the Administrative Appeals Tribunal (AAT) to review the internal review decision (in accordance with the Administrative Appeals Tribunal Act 1975), and notice of the internal review decision must be given to any person whose interests are affected by the decision.
After reviewing the reviewable decision, the Board must make a decision (an internal review decision) that will:
- confirm the reviewable decision; or
- vary the reviewable decision; or
- set aside the reviewable decision and substitute a new decision.
Hearings of proceedings in the AAT for review of an internal review decision are held in private, and commercial sensitivities are respected. Penalties may apply if you have incorrectly claimed the R&D Tax Incentive but will be significantly reduced if you make a voluntary disclosure. Generally, the reduction is greater if you make the disclosure before being notified of an examination of your tax affairs.
If you do not agree with the AAT’s decision, your next option would be to appeal to the Federal Court, which usually only adjudicates on points of law (i.e. interpretation of the legislation). In the Federal Court, it is difficult to introduce new evidence that was not relied upon during objection or internal review (i.e., with the Board and/or AAT). Cases that get this far are typically for larger amounts, and the costs involved (application fees and costs to pay the other party if you lose) are much higher than for reviews/appeals by the AAT (lower application fees and no costs ordered against losing party). After the Federal Court, the next court of appeal would be the Full Federal Court and then the High Court of Australia.
Recent cases indicating how the RDTI legislation is being interpreted and enforced
Over recent years, the AAT has consistently determined that activities without evidence to substantiate eligibility are not eligible. For example, in the Docklands Science v Innovation Australia case, a review found that activities conducted by Docklands Science were not eligible for the RDTI. The decision by Innovation Australia (and confirmed by the AAT) for this case noted that detailed documentation, recording the process of each activity as it develops, is necessary to:
- substantiate that an R&D activity took place; and
- establish that the activity meets the legislative eligibility requirements of the R&D Tax Incentivescheme.
However, there have been some even more recent examples where the narrow interpretations of ISA, the AAT, and the ATO have been rejected upon appeal in the Federal Court. Therefore, when sufficiently large amounts of R&D expenditure are involved, it may be worth challenging the strict interpretations that have been applied regarding the onus of proof for R&D activities and the classification of what constitutes a core R&D activity.
For example, in the Commissioner of Taxation v Bogiatto  case, which, after appeal of the AAT decision, went to the Federal Court, the presiding judge determined the following:
the standard of proof required to meet the ‘adequate records’ criteria that applies to all taxpayers is NOT higher for R&D claimants than other provisions of the tax law, just because of the concession to taxpayers it provides.
In another example, the Full Federal Court decision for Moreton Resources Ltd v Innovation and Science Australia states that:
- The AAT erred by considering that the words “experimental activities” do something other than merely refer to activities which meet the requirements of s.355-25(1)(a) and s.355-25(1)(b) in the ITAA 1997; and
- The AAT misconstrued the terms of s.355-25(1)(b) by considering that it excluded activities which have the purpose of generating new knowledge with respect to the application of an existing technology at a new site.
While it’s always good to know the options available if an adverse finding is made during R&D tax incentive review, avoiding things escalating to reviews and appeals is often as simple as ensuring that your initial registration application is well prepared, including correctly identifying the core and supporting R&D activities and a scientifically sound hypothesis for the experimental activities to be conducted. If you are selected for a review or audit, it is also imperative that you engage appropriately with the authorities in a timely manner.