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Union Budget 2016-17 : Patents Regime – A Global Perspective

May 12,2016

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Shripal Lakdawala (Partner, Deloitte Haskins & Sells LLP)

Parthiv Kamdar (Senior Manager)

“Innovation is the only way to win”

It appears that the Finance Minister was inspired by this quote when he outlined promoting “innovation” as one of the measures to boost growth and employment generation in the country.

The Indian Government’s focus to make India a global Research & Development (“R&D”) hub was clearly visible when the Finance Minister, while presenting the Budget for Financial Year 2016-17 proposed a taxation regime for royalty income from patents developed and registered in India.

Budget proposal

Specifically, the Budget proposed that the royalty income of a person tax resident in India and who is a patentee in respect of a patent developed and registered in India will be taxed at the rate of 10% (plus applicable surcharge and cess) on gross basis. Further, such royalty income and corresponding expenses are proposed to be excluded for computing Minimum Alternate Tax.

The rationale for this move as articulated in the Memorandum to the Finance Bill, 2016 is as follows:

To encourage indigenous R&D;
To make India a global R&D hub;
To provide additional incentive for companies to retain and commercialise existing patents and develop new innovative patented products; and
To locate high-value jobs associated with the development, manufacture and exploitation of patents in India.

The Memorandum to the Finance Bill indicates that the provision proposed to be introduced is also in line with the OECD recommendation on the nexus approach in BEPS Action Plan 5. As per the said approach, income arising from exploitation of intellectual property should be attributed and taxed in the jurisdiction where substantial R&D activities are undertaken rather than the jurisdiction of legal ownership only.

Once enacted, this proposal will take effect from Financial Year 2016-17 and subsequent years.

Global perspective

The proposal seems to be a welcome move by the Government, especially when there is a heated debate in the corporate circles on phased withdrawals or rationalization of all corporate tax exemptions (including with respect of R&D activities).

Also, this proposal could provide a thrust to the well-publicized “Make in India” programme of the Government and could be positioned as an additional incentive provided by the Government in that direction.

However, whether this proposal could drive companies, especially those companies which currently have no presence in India, to set shop in India to undertake R&D activities, file for patents and monetize their R&D investment will be a question which will be answered only in due course of time.

At this stage, a critical consideration for such companies could be to evaluate how India’s proposed concessional tax regime for royalty income from patents compares with other countries globally.

The table below captures some of the countries which have a favourable tax regime for taxability for income from patents:

Country	Tax regime for patents*
Belgium	80% of qualifying income from patents may be deducted from taxable income, resulting in a maximum effective tax rate of 6.8% on qualifying patent income
Italy	50% (2017 and future years), 40% (2016), 30% (2015) of income that is derived from the exploitation of patents is not included in taxable income for corporate income tax purposes Corporate income tax is 27.5%
Liechtenstein	Deemed deduction of 80% on any income from qualifying intellectual property The deduction is calculated on gross income less related expenses including depreciation Corporate income tax is 12.5%
Luxembourg	Taxpayers that use a self-developed patent for their own business benefit from a notional deduction amounting to 80% of the net positive income they would have earned from a third party as consideration for the right to use the patent. Above notional deduction provision is to be repealed, although some ‘grandfathering’ rules would apply
Netherlands	Profits derived from intellectual property developed by a company, and for which a patent is granted, are taxed at an effective rate of 5% (to the extent net earnings derived from the self-developed intangible assets exceed the development costs)
Portugal	50% of income derived from licensing of patents, designs and industrial models is exempt from tax Corporate income tax is 21%
United Kingdom	Effective 10% rate of corporation tax applies to all profits attributable to qualifying patents and certain other innovations The patent box regime will close to new entrants by 30 June 2016 A new type of patent box regime will follow that will align benefits more closely to R&D activity
Malta	Royalty income derived from patents in respect of inventions, copyrights and qualifying trademarks is exempt from income tax
Spain	60% net earnings derived from the assignment of a right to use qualifying intangible fixed assets is exempt from corporate income tax of 25%

* Provided for general information only based on publicly available information. Not to be relied on for any professional advice.

Conclusion

Thus, while this proposal of the Government deserves applauds and signals its intention to create a favourable tax environment for royalty income from patents developed and registered in India, it should not be overlooked that India would be competing with other favourable tax jurisdictions, if not better, for a slice of the pie of the global R&D market.

The success of the tax regime for royalty income from patents would also critically depend on how robust the legal framework pertaining to registration and enforceability of patents is perceived to be prevalent in India by companies who presently have no presence in India.

Nonetheless, the proposal seems to be a good move in placing India on a better footing in an increasing innovation and knowledge driven world.

Dhawal Bhathawala (Manager) and Tejal Seta (Assistant Manager) also co-authored the article