Introduction
For a long period of time, various tax incentives, such as tax exemptions, preferential tax rates, accelerated depreciation, etc. under the Statute for Upgrading Industries had been seriously criticized as providing unfair benefits to a specific catagory of enterprises at the sacrifice of the national tax revenues. Therefore, when the prescribed duration of the statute expired on December 31, 2009 and those tax incentives ceased to be applicable the same day, it attracted only a slight murmur of regret, if not actually greeted by a cheer of celebration.
A new Statute for Industrial Innovation (hereinafter called the “Statute”) was enacted on May 12, 2010 to take the place and to assume some functions of the previous law. One revolutionary measure adopted by the Statute is the overall lowering of the rate for business income tax from the previous 25% to 17%, making Taiwan arguably one of the most lenient nations in collecting income tax from businesses. On the other hand, all previous tax incentives previously available to the enterprises were abolished with the only exception of the right of offsetting the business income tax for investment in research and development activities, in view of the special value and importance associated with various innovation efforts to the industries and national economy.
According to Article 10 of the Statute,a company may credit up to 15% of the company’s total expenditure on R & D against its business income tax payable for that year; provided that such credit shall not exceed 30% of the business income tax payable by the company in that year. To implement the application of such benefit in tax, the Enforcement Rules for Applying Investment Offsetting to R & D Expenditure by Enterprises (hereinafter called the “Rules”) were further decreed jointly by the Ministry of Finance and the Ministry of Economic Affairs in November 2010.
What Kind Of Activities Are Eligible For The Tax Incentive?
To be qualified for the benefit of investment offsetting based on research and development activities, a company must possess R & D ability and the subject R & D activities concerned must be those with a high degree of innovation (§2, Rules). The term “R & D activities” is defined as acts of innovation with respect to products, technologies, labor, or process of service by use of scientific methods, and is restricted to the following two types of activities: (1) undertaken for the purpose of developing or designing production process of new products, procedure of new services, or systems and prototype thereof; and, (2) undertaken for the purpose of developing new material, or parts and components thereof (§3, Rules).
Admitted Items Of Expenditure That Are Eligible For Investment Offsetting
To prevent abuse of the right to the statutory benefit, expenditures in R & D activities are tightly scrutinized and only any one of the following four items will be accepted for a preferential treatment under the Statute (§4, Rules):
(1) salaries paid to the full-time employees who are exclusively engaged in R & D activities;
(2) the costs of consumables, raw materials, and samples that are exclusively used by R & D units for research purposes, on condition that there are complete records of the introduction and acceptance of those materials, which can be mutually evidenced with the schemes, records, or reports of the related research;
(3) annual amortization or payments of the prices for purchasing or using patent rights, know-how, or copyright for the exclusive purpose of research; or
(4) the prices for purchase of professional or special data bases, computer programs or systems for the exclusive purpose of research.
The intangible rights or tangible articles specified in the above paragraphs (3) and (4) are subject to the examination and approval of the central competent authorities in charge of the intended businesses. Furthermore, the Rules specifically preclude nine items of expenditures from application of the tax incentive, including expenses in R & D units administration, data collection, routine inspection, personnel training, market tests and surveys, etc. (§5, Rules)
Special Requirement For Self And Independent Research
In principle, only those expenditures incurred in performing self and independent R & D activities within an enterprise are allowed for the tax benefit. However, in some exceptional situations where R & D activities are delegated to outside institutions, related costs and expenses may also be admitted for tax offsetting:
(1) the costs for delegating the research to local universities, colleges, or other academic institutions, or for employing full time teachers or research staff from those local universities of academic institutions;
(2) the costs for delegating the research to foreign universities, colleges, or other academic institutions, or for employing full time teachers or research staff from those foreign universities of academic institutions, on condition that a special permit has been obtained in advance from the central competent authorities in charge of the intended businesses; and,
(3) the costs for delegating the research to local agents for pharmaceutical research services, which have been recognized by Industrial Development Bureau, the Ministry of Economic Affairs. (§6, Rules)
Special Requirement For Self And Independent Use Of The Fruits Of Research
Another condition for an enterprise to enjoy the benefit of tax offsetting is that the products and technologies being the result of R & D activities of an enterprise shall be exclusively used by the enterprise itself. If such products or technologies are provided to another person for manufacturing or use, reasonable royalties or a reasonable compensation shall be received from the outside user.
The above condition is, however, subject to an exception in view of the special need of many enterprises, which are currently outsourcing the whole or part of their manufacturing activities to overseas affiliates. If an enterprise is engaged in research and development, accepting purchase orders and distributing products, and provides the products and technologies being the result of its R & D activities to an affiliated business in or outside this country for OEM manufacturing or use without receiving a reasonable royalty or compensation, it may still be exempted from the above requirement of self-use or reasonable compensation if it can produce cost-transfer documentation sufficient to prove that reasonable profit has been retained inside the enterprise. Such documentation needs to be verified by the tax authorities. (§8, Rules)
A Perspective Of The Operation Of The New Law
The Statute and the Rules do not provide a standard for determining if an R & D activity is one of high degree of innovation and thus eligible for the tax incentive under the Statute. Officials of the Industrial Development Bureau, which is responsible for examination of the applications for investment offsetting, will evaluate the nature and content of the activities concerned and will grant or dismiss the applications on a case-by-case basis. The officials have expressed their views on public occasions that the subject tax incentive is basically provided to accommodate those high-tech enterprises at the apex of the industries pyramid, and very few enterprises in the service sectors can pass the muster of the high degree of innovation.
The Statute is still young and how far and in which way it will precede remains to be seen. By an analysis of various requirements set forth in the Statute, it can be safely predicted that every application for the income tax offsetting will be subject to strict examination by the administrative agencies. Official rejections are likely to be issued as a normal course rather than an exceptional situation. Any enterprise interested in filing an application shall not act with unrealistic expectations.
