The research and development (R&D) tax incentive contained in section 11D of the Income Tax Act was introduced to encourage private sector investment in scientific or technological R&D undertaken in South Africa. It includes a 150% income tax deduction for qualifying operating expenditure and a 50/30/20 depreciation allowance on qualifying plant and machinery or any improvements thereto.
Approval from the Department of Science and Technology (DST) is required though in order to qualify for the tax incentive. Moreover, only expenses incurred on or after the date of receipt of the application for approval by the DST will be eligible as qualifying expenditure.
Taxpayers that may qualify for this tax incentive are persons undertaking activities that involve innovation or high levels of technical risk in order to discover non-obvious scientific or technological knowledge. Taxpayers will also qualify if their R&D activities include the creation of new or improved inventions, functional designs, computer programs or knowledge essential to these products. These activities would normally require the taxpayer to employ technical personnel (e.g. engineers, scientist, chemists, software developers, etc.).
The type of expenditure that would qualify for the 150% income tax deduction are direct expenditure items incurred solely in respect of eligible R&D activities. Examples of such expenses include labour costs of personnel engaged directly and solely in eligible R&D activities as well as materials and consumables directly related to such operations.
Expenditure on activities that directly support eligible R&D activities may also qualify for the income tax deduction. This would typically include scientific and technological planning activities as well as the design, construction and operation of pilot plants and prototypes that are used in R&D related experiments.
Overheads should be carefully considered, since this would mostly involve expenditure being incurred both directly towards both qualifying R&D activities and non-R&D related activities. Although these expenses could qualify for the 150% income tax deduction to the extent that it is directly attributable to eligible R&D activities, such costs must be apportioned between eligible R&D activities and supporting R&D activities, and activities that are not directly related to R&D.
Section 11D also sets out certain expenditure that will not qualify for the generous income tax deduction. For example, administrative related costs (i.e. costs linked to administration, financing, compliance and similar overheads), routine testing and analysis, the collection of information and quality control in the normal course of business, will not qualify. In general, the development of internal business processes would also not qualify for the R&D income tax deduction, unless such process is intended for sale to unconnected parties.
The take away is that that taxpayers that are involved in R&D activities should consider whether or not these activities could qualify for this very beneficial income tax allowance, and then take steps to ensure that they apply for and ultimately qualify for this available income tax incentive.
This article is a general information sheet and should not be used or relied on as legal or other professional advice. No liability can be accepted for any errors or omissions nor for any loss or damage arising from reliance upon any information herein. Always contact your financial adviser for specific and detailed advice. Errors and omissions excepted (E&OE)