Knowledge & Networks

R&D tax relief for start-ups on the horizon

This article originally appeared in Unlimited Magazine, September 2013

It is commonly agreed that research and development (R&D) is a key driver of economic growth. It is also an area where New Zealand needs to up its game.  While spending on R&D has increased since 2010, particularly by Kiwi businesses, our total spend still lags behind the OECD average.  This translates to lost future opportunities for the country.

So why aren’t we collectively engaging in enough R&D?  For a country that prides itself on its inventive spirit it doesn’t quite compute.  Perhaps the answer lies in the fact that the lion’s share of our businesses are small and R&D is expensive.  Small technology intensive start-up businesses, in particular, experience long periods of losses and cashflow difficulty before they begin to make a profit.

In this year’s Budget government proposed a tax scheme specifically aimed at helping these types of small innovative businesses.  The idea, by no means a new one, is to provide tax refunds for income tax losses which arise due to certain qualifying R&D expenditure.  In other words, these loses will soon be able to be cashed up subject to certain limits. 

Is this proposed scheme going to solve New Zealand’s collective R&D problem?  Probably not.  But for some companies it may just be what the doctor ordered to get them through.  The devil will be in the proposed detail, which was released in its initial form last month. 

It is proposed that the amount of loss that can be cashed up will be the lessor of:

  • 1.5 times the company’s eligible R&D salary and wage expenditure in the relevant year
  • total qualifying R&D expenditure in the relevant year
  • total tax losses in the relevant year

To qualify companies need to meet an R&D ‘intensity threshold’ requiring at least 20% of total salary and wage spend to be on R&D-related salary and wages.  Only companies in tax losses will qualify, and look-through companies and listed companies will not be eligible.

Initially claims will be capped at $500,000 of the company’s tax losses (translating to a $140,000 cash refund) with the potential for the cap to be raised to $2,000,000 in the future.

Other potential fishhooks in the proposed detail are the specific exclusions of late stage software development (eg. coding) and clinical trials. This may limit the ability of software and biotech start-ups, both significant and important contributors to the start-up ecosystem in New Zealand, to take advantage of the proposed tax relief.

Submissions on Inland Revenue’s initial proposals were due on 30 August so it remains to be seen what form the final policy will take.  While it is evident that it won’t be a panacea for New Zealand’s R&D challenges, it is certainly something that small technology intensive businesses need to keep their eyes on.     

On the balance, this proposed tax regime has to be seen in a positive light regardless of its potential shortcomings.  Given New Zealand’s history of low spending on R&D, anything that encourages R&D activity could positively impact the economy for years to come.

Darren Johnson

Author: Darren Johnson
Partner, Auckland