In response to a variety of requests here is a simplified backgrounder: What is the problem?
Businesses want to be able to claim 100% of their Research and Development (R&D) costs as a deduction in their tax returns. At the moment most businesses are claiming this 100% but the rules are very unclear and the penalties for getting it wrong are very high.
Businesses would like the government to provide more certainty. Some businesses argue that they should be able to claim over 100% deductions, that is, they could get more than $1 of deduction for every $1 spent. What are the rules?
R&D is a continuum of activity covering research, development and getting the product into market.
Research expenditure is usually deductible for
Development expenditure is usually not deductible for tax purposes. In this case, the expenditure is capitalised, that is, it is treated as an asset in the balance sheet.
Marketing costs are deductible. In order to ensure that they have maximised their immediate deductions, businesses tend to define all (or most) of their costs as research or marketing. They put as little as possible into the development category.
What is the black hole? If a capital asset has been created it is usually possible to claim depreciation, that is , claim the expenditure as a deduction over a period of years rather than in one chunk in the year it was incurred.
If this is the case, then there is a delay in the deduction being claimed but it is a timing difference not a permanent difference. A "black hole" is a term used to describe development expenditure which is not deductible but which does not get capitalised to a depreciable asset.
Such expenditure will never be deductible because it does not qualify for an immediate deduction and there will never be a claim for depreciation. Obviously businesses try to minimise the amount of expenditure falling into black holes.
What is the Labour/Alliance government proposal? Labour/Alliance are not proposing to allow 100% deductibility. Mallard has 'pre-announced' that they are going to require businesses to use the same rules for accounting and tax purposes.
If something is deducted for their accounts then it will be able to be deducted for tax purposes. But if it has been capitalised for their accounts then this is the way it must be treated for tax purposes.
This means that the rules set out by the Institute of Chartered Accountants (ICANZ) become the rules for tax. This policy is different from Labour's pre-election promise of 100% deductibility for R&D. It is also different from the Budget announcements of Government grants for R&D.
What is wrong with this
The proposal lacks certainty as the ICANZ rules may be very hard to apply to specific situations. This uncertainty is risky because of the high tax penalties for getting it wrong.
Many taxpayers will be forced to reduce their deductions under this rule. Accounting standards (and the taxpayer's bank) require conservative treatment, that is, "if in doubt don't". They will not be able to claim 100% as at present because this is not what they are doing in their accounts.
Annabel Young MP
National Party Spokesperson on Revenue National Party List MP responsible for Wellington Central and Rongotai
Do you want to be added to my tax email group?
Have a look at my tax web-site http://www.tax.org.nz