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Wednesday, 17th April 2024
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Budget 2004 - ‘thoughtful, well crafted’ Back  
Mr McCreevy’s 2004 Budget represents an essential investment in all our futures. It is about future jobs and future prosperity. The key measures were the tax credit for research and development, the exemption from stamp duty on intellectual property, and the introduction of a holding company regime. Much of the rest - personal tax changes, are a distraction from these key reforming features.
LListeners who heard Mr McCreevy speak, apparently endlessly, about Civil Service decentralisation could not help but wonder what horrors lay in the budget. Surely such a massive distraction and red herring must have been designed to conceal something? In fact the budget has been a thoughtful well-crafted budget that addresses the economic health of the country from a long-term perspective. There have been many budgets in the past about which that could not be said.

Research and development tax credit
Mr McCreevy is proposing that for each euro of additional spending on research and development, a company may credit 20 cents against their tax liability. This is the equivalent of a 20p.c. subsidy towards additional research and development expenditure. The proposal is subject to EU approval.
The arguments for this measure have been long pointed out. Research and development activity provides highly skilled high paid jobs. It provides the type of jobs that frequently lead to the setting up of spin-off businesses as graduates develop their technical and business skills. A business without a research and development component probably is not going to grow and is unlikely to break into an export market successfully. If we want our indigenous businesses to move up the value chain and grow, it is essential that they be encouraged to spend on research and development.
Although research and development expenditure represents good sense for the economy as a whole, for any given business it represents a leap in the dark, an act of faith. You spend a lot now, and you have only the hope of reaping benefits in the future. For that reason the tax credit is a vitally important encouragement.

The research and development tax credit is also indirectly related to the holding company regime discussed below. Multinationals tend to keep their research and development facilities close to their regional headquarters. Generally there is little point in offering a holding company regime to attract regional headquarters, if you do not have an attractive regime for research and development, and vice versa. The Minister has addressed this issue.

There may be difficulties in the implementation of the proposal. Precisely because it is a valuable incentive, the Revenue Commissioners will feel the need to closely police it, and some taxpayers may be tempted to stretch the limits of the relief in the claims they make. The very difficulty of defining what constitutes research and development expenditure adds to this difficulty. There may be guidance in accounting standards which would help in this area.

Ireland previously had a broadly similar relief, under which a deduction of a multiple of increases in research and development expenditure was permitted in computing corporation tax liabilities. That relief proved to be a total failure, and is believed to have been almost never availed of by any taxpayer. This was because the conditions which had to be met to avail of it were so bureaucratic, and the limits as regards value that were placed on the relief were such that the cost of availing of the relief would have exceeded the benefits of it.

There will be a natural inclination on the part of the Revenue Commissioners to go down that route again. Put simply, a relief which cannot be used cannot be abused. The Minister will have to have the courage to insist that the relief is structured in a fashion that will minimise bureaucracy and cost and enable it to be used.

Both a deduction and a credit are available so the broad value of tax incentives is 32.5p.c. of the expenditure for a trading company or 30p.c. for a manufacturing relieved company. This is relevant when a comparison is made between the proposed tax credit and the comparable, and competing, incentive in the UK. A large company in the UK gets a tax deduction of 125p.c. of their qualifying research and development expenditure, and do so at an effective tax rate of 30p.c. Therefore the value of the incentive in the UK to a company which has UK taxable income against which to offset the deduction, is 37.5p.c. of the expenditure.

In the UK an SME can offset the credit against PAYE payments where they do not have a sufficient corporation tax liability to absorb it. The minister should consider a similar move especially for a company in the first few years of operation where it is less likely to be profitable and may have the greatest need to incur research expenditure.

Those companies in Ireland which at present carry out research and development may feel a bit aggrieved that the credit is available only in relation to incremental expenditure. Competitors who may never have carried out any research and development may now get the credit for all new expenditure, whereas a company which virtuously had an existing research and development programme will not receive a credit save to the extent that they actually increase their spending.
The Minister has complemented the research and development tax credit with a proposed exemption from stamp duty on transfers of intellectual property. Currently such transfers typically attract a 9p.c. stamp duty rate where they are carried out in a fashion that attracts stamp duty in the first place. That is a crippling tax cost. It made no sense in a country seeking to attract high tech industry.

It remains to be seen how the Minister will define “intellectual property” for the purpose of the exemption. Will he confine it narrowly to patents and trademarks? Will he extend it to goodwill, know-how?

The Minister did not address a tax deduction for the cost of buying in know-how from a connected party. Typically a multinational setting up in Ireland has to transfer know-how from the USA, or Japan etc to the Irish operation. Typically the head office will be taxed in their home country on the sale of the know-how. Ireland denies a deduction for the corresponding expenditure. Since the Minister is addressing the tax obstacles to a high tech economy, let us hope he tackles this in the Finance Bill.
If the Minister wishes to put the final touches to Ireland as an attractive location for high tech industry, he should consider in the Finance Bill removing the withholding tax which we impose on patent royalties when paid to a company not resident in a treaty state. Where such a company is ultimately controlled by a company resident in a treaty state, there seems no reason for having this withholding tax.

However the legislation may be framed, taxpayers will be faced with the need to quantify their expenditure on research and development. This will be necessary not only as regards future years where the expenditure may attract relief, but also as respects some past years since it is only incremental expenditure that will attract relief. Once the precise definition of expenditure is published, companies may face the need to amend their accounting systems so as to generate the necessary information, and possibly to re-analyse past expenditure.

Holding company regime
Ireland was one of the few EU member states which did not have a “holding company regime”. Such a regime typically has two components. The first is an exemption from tax on the disposal of substantial stakes in subsidiary companies. The second leg is a relief from tax on the repatriation of dividend income from such subsidiaries. The Netherlands is perhaps the best known jurisdiction offering such a holding company regime, but several other countries including Austria, Belgium, Denmark,UK and Spain also have holding company regimes which they actively market to multinationals in order to attract regional headquarters.

Ireland’s proposed holding company regime should cost almost nothing in terms of tax foregone. With suitable tax planning it was generally possible to ensure that a multinational operating in Ireland was not exposed to Irish capital gains tax on overseas associated companies. Typically this involved availing of the holding company regime of another EU member state! It would have been unusual to repatriate overseas dividend income to Ireland and so little tax revenue was derived from this source. The Minister is proposing to remove sterile taxes that raised little revenue and which obstructed the conduct of business and the growth of the economy. He is to be congratulated.
The Minister is proposing to confine the exemption on disposal of subsidiaries and relief on dividends from subsidiaries to those resident in the European Economic Area member states or in states with whom Ireland has a double tax agreement. Hopefully the Minister will consider extending it also to subsidiaries located anywhere in the world, where the ultimate control is by a company resident in the European Economic Area, or in a treaty state. This would ensure that, for example, an American multinational could hold subsidiaries in locations such as Bermuda, through an Irish sub-holding company.

The Ministers present proposal does not deal with dividends from a company where the Irish company holds less than 25p.c. of the voting share capital. It is also framed a double taxation relief so that it may fall short of a full exemption. A full exemption would cheaper to administer and easier to market to potential inward investors.

Overall
This is a budget to be applauded. It has addressed important economic issues that will underpin growth in wealth, job security, and tax revenues for the future. The Minister has shown once again that he possesses courage and imagination and has an open mind.

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