How to correctly treat research and development?

The number of judgments dealing with research and development expenditure deductions has recently increased. Despite the fact that the tax authorities tirelessly continue to challenge these deductions, case law in this area has developed favourably for taxpayers. In case no. 1 Afs 174/2016-38, the tax authority challenged 2007 and 2008 deductions relating to research and development of packaging used for the transfer of parts for the automotive industry. The tax entity asserted that its research and development activities had been carried out to develop a new system of transportation packaging structures with new space-saving, repetitive-use and long-life qualities. The tax entity also changed the used material.

The tax administrator was of the opinion that this research and development was part of the entity’s business activities lacking any component of novelty. Consequently, it rejected the deduction of related costs and assessed additional tax, claiming that the activities at issue were only performed to enhance the quality of existing packaging, i.e. it involved an innovation, and that the structure of new packaging did not at all vary from other packaging. The tax administrator did not change its opinion even though the entity provided a mass of evidence documenting specific and general components of novelty and technical uncertainty. This evidence included tables, charts and other documentation.

The SAC held that first it was absolutely necessary to adhere to the definition of research and development pursuant to the Act on Support of Research, Experimental Development and Innovation. According to the court, the systematic and creative use of knowledge to enhance existing qualities and features falls under this definition. In other words, the court entirely rejected the tax authority’s assertion that only the development of a new model function can be regarded a research and development activity. It also pointed out that the tax authority cannot conclude that certain activities do not involve research and development without making an expert assessment and without sufficiently understanding all the technical aspects. If the tax authority had doubts regarding the nature of the entity’s activities, it should have appointed an expert to prepare an opinion based on which it could have adequately reviewed all relevant facts.

We also draw attention to positive developments in legislation. In taxable periods started in 2016 it is now possible to include certification costs in research and development expenditures.