Red tape blocks tax incentives for research and development
Complex application process discourages businesses, especially start-ups and SMEs
As the world hurtles towards becoming a digital and knowledge-based society, meeting the challenge to ensure that SA remains globally competitive depends on strengthening our science and technology capabilities. This will secure our ability to innovate and expand opportunities for wealth creation and economic development.
One of the best ways for us to grow our science and technology capacity is through national investment in research and development (R&D). However, levels of investment in R&D are relatively low compared to other nations, particularly developed economies. The country’s national R&D strategy notes that in 2002 the average investment in R&D across both public and private sectors around the world was 2.15% of GDP, while SA’s R&D investment sat at only 0.7% of GDP.
To help the country achieve a target of 1% of GDP by encouraging companies to invest in scientific or technological R&D, an incentive was introduced into the Income Tax Act in 2006. Though the incentive is a noble idea, as it stands it does not really incentivise businesses to invest in R&D as it is difficult to navigate.
There are a number of bottlenecks that need to be cleared before the incentive is extended beyond its sunset date of September 30 2022 if we want to ensure national development.
Complex application process
One of the biggest barriers to getting access to the R&D incentive is the complicated and heavily administrative manual application process. At the start, the application forms are lengthy, difficult to understand, and often repetitive, leading to confusion.
Applicants are required to submit the tax incentive form alongside administrative information such as company details, contact details and details of the agent making the application. They also need to submit information on R&D activities that will assist in determining the eligibility of the application. This includes a description of activities, details of how these activities will advance the existing base of scientific and technological knowledge in the relevant field, and details of the innovative aspects involved. All of this must then be submitted to the department of science & technology.
This complex process discourages businesses, especially start-ups and small and medium enterprises (SMEs) that don’t have the resources to hire tax professionals, from even applying for the incentive. By streamlining and taking the application online we can reduce the administrative burden for applicants and make it easier to apply. Additionally, introducing scoring tools to the application process would complement the eligibility criteria of the incentive.
Widening the focus
Though applications for the incentive span a number of industries — particularly manufacturing, financial intermediaries, real estate and business services — the highest number of approved applications are in traditional industries such as mining, manufacturing and agriculture.
This is very limiting as it does not make space for emerging industries. Not too long ago industries such as cloud computing, virtual reality and biohacking did not even exist, but today they are rapidly growing and profitable industries offering a number of new jobs that did not exist before. If the intention of the R&D tax incentive is to ensure SA stays at the forefront of technological development, narrowing the type of industries that are more likely to get approved for it seems contradictory.
Additionally, industries such as agriculture and manufacturing are dominated by large businesses and multinational corporations, meaning there is significantly less opportunity for smaller businesses to benefit from the incentive. From November 2006 to February 2021 a total of 1,211 companies participated in the R&D incentive. While only 33.6% of these applicants were large companies with revenues of more than R100m, they constituted 66.4% of the successful applications.
Lengthy and repetitive reporting
When a business is successful in its application that does not mean it has overcome all barriers. Companies whose R&D activities are approved are then required to report annually to the department on the progress they have made. However, the reporting process is repetitive and unclear.
For instance, information that was submitted and collected during the application process must be resubmitted, along with details of the new developments and changes made in the progression of the project.
Companies must keep and maintain records on R&D expenditure and the amount of the tax incentive benefit received, whether the company has attained its R&D goals, how the project assisted the company in increasing its R&D and innovation, and outcomes related to the R&D project.
In addition to all this, the following documentation is required in the progress report:
The R&D activity milestones and resources used on the project;
Records of any preliminary research, including literature and patent searches, feasibility studies, options papers and a risk management analysis;
Personnel time sheets and other time-recording data, clearly showing the time apportionment where production personnel were used in R&D; and
Records of experiments, indicating the aim of the experiment, how and when it was conducted, and the outcome.
This makes the reporting process a mammoth task, especially for SMEs, which do not have the advantage of professional, third-party assistance in ensuring all requirements are adequately met. Businesses that have received the R&D incentive also have to contend with a lack of measures to ensure compliance, evaluation and monitoring, as well as a lack of information sharing between the department and the SA Revenue Service (Sars).
However, by strengthening monitoring and evaluation systems the administrative burden of the reporting process can be reduced. The introduction of a data-sharing mechanism with Sars would also ensure that better estimates are obtained in the review process.
While R&D investment has grown significantly over the past decade, amounting to R34.485bn in 2019, it is still lower than it should be to ensure national competitiveness. If we want to position SA as a leader in scientific research and technological advancement, which is crucial for innovation, productivity and economic growth, we must remove the red tape afflicting the R&D tax incentive and ensure it is easier to access for all businesses, whether small or large.
• Mofokeng is partner & head of tax, and Nichha an associate, at CMS SA.
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