0.17% of Australians are registered tax agents, meaning that their job is to assist others to pay as little tax as is legally allowable, to get the biggest tax refunds (including R&D refunds) legally allowable, and to advocate on behalf of their clients. This advocacy has involved myriad articles in recent years about how terrible AusIndustry and the ATO have been in their rejection of various companies’ R&D claims, and how unreasonable their demands are in relation to keeping documents and records.
I am a registered tax agent and each year I assist many businesses to access the R&D Tax Incentive. But I am going to take the alternative view to many of my colleagues here and explain why I fundamentally agree with what AusIndustry and the ATO are doing. This is because, like almost 100% of Australians, I am a taxpayer.
As a taxpayer I only get some of the remuneration that I’m entitled to in my bank account each pay, I have to pay 10% more than I should for many of the goods and services that I purchase, and I pay more at the petrol station when I fill up my car than I otherwise would. The reason that I accept all of these hits to my back pocket is because I know that these taxes are what we all have to contribute as members of a society so that things like hospitals, schools and firefighters can exist.
As a taxpayer I also like that some portion of the taxes that I pay goes towards incentivising private sector research and development (R&D) to occur in Australia. However, I don’t want any portion of my taxes to fund businesses that aren’t actually doing R&D (I’d rather just keep that money for myself). And herein lies the dilemma; how do we know which businesses to fund and which businesses not to fund?
The R&D Tax Incentive is, as the name suggests, part of the tax system. Because of this, it operates in the same way that many other taxes do; via self-assessment. This means that it is the responsibility of the company to determine whether it meets the requirements and, if it does, to submit an R&D claim. R&D claims (like everyone’s personal tax returns) are assumed to be true and correct when they are lodged. I’ve never encountered a business that didn’t want free money before. So what is to stop just anyone from saying that they are spending money on R&D, and that they are therefore entitled to a big cash payment from the Australian people when in fact they really aren’t eligible?
Enter AusIndustry and the ATO. R&D claims may be (although generally are not) audited, and if an audit occurs the onus is on the company to demonstrate to the auditor why it meets the R&D eligibility criteria. This generally involves two things; demonstrating that the company did actually do R&D (experimentation, innovation, etc.), and demonstrating how much money was spent on that R&D. The first issue is administered by AusIndustry, and per section 355-705 of the Income Tax Assessment Act 1997 can occur within 4 years from the last day of the financial year that the R&D claim relates to (e.g. an R&D claim made for the financial year ending 30 June 2021 can be audited by AusIndustry at any time up until 30 June 2025). The second issue is administered by the ATO, and per section 170 of the Income Tax Assessment Act 1936 can occur (for SMEs) within 2 years from the date that the company’s relevant income tax return was lodged with the ATO (e.g. an R&D claim made for the year ending 30 June 2021 that was lodged with the ATO on 28 February 2022 can be audited at any time up until 28 February 2024). It is worth noting that the ATO can go back indefinitely if it suspects that fraud or evasion has occurred.
Failure by the company to provide sufficient evidence of its R&D Tax Incentive eligibility will result in some or all of any tax refund that the company had received having to be repaid to the ATO (potentially along with interest and other penalties).
I am baffled as to why there is such outrage by the private sector when an R&D claim gets rejected. Essentially, the company must not have adequately evidenced at least one of these two criteria. By blaming AusIndustry and/or the ATO the company is essentially saying ‘the Australian people should just simply trust me and give me lots of their money despite the fact that I can’t demonstrate to anyone other than myself that I qualify for this money’. I don’t know any person, business or organisation that hands out money on someone else’s say so alone, so to think that R&D claims are any different is ludicrous.
Of those that have had their R&D claims rejected, some have elected to take the matter to court. The overwhelming majority of these court decisions have upheld the view that the R&D claims are invalid, and almost always on the grounds that there was insufficient evidence presented by the company (see the cases of Docklands Science Park, Royal Wins, NaughtsnCrosses, Ultimate Vision Inventions, etc.). So AusIndustry and the ATO are just administering the R&D Tax Incentive in exactly the way that the Australian legal system wants them to – i.e. no R&D evidence means no R&D refund.
From my interactions I see four key excuses that are rolled out by companies for failing to keep sufficient evidence, as follows:
- When we were doing the R&D we didn’t even know about the tax incentive so we couldn’t have known what records to keep.
- We were too busy actually doing the R&D (or other things) so we didn’t have the time to do the record-keeping.
- The R&D Tax Incentive guidance material is ambiguous as to what records we need to keep so we didn’t really keep anything very much.
- We just assumed that our existing records and processes would be sufficient to demonstrate eligibility.
Let me address each of these in turn. For the first excuse, as the name implies, the R&D Tax Incentive is supposed to be an incentive, in that it is supposed to incentivise companies to do R&D that they may not have otherwise done. It does not exist to ‘reward’ companies for having done R&D. Therefore, if you did some R&D without knowing that the Tax Incentive even existed, then the Australian people essentially got lucky here, in that you’ve done the thing that they wanted you to do and they don’t even have to pay for it by giving you an R&D claim.
For the second excuse, keeping records is a mandatory requirement of the R&D Tax Incentive. You’re absolutely welcome to do some R&D and then not claim the R&D Tax Incentive, but if you are making an R&D claim then you need to divert some of your resources to keeping records.
For the third excuse, I will grant you that there is definitely some uncertainty as to exactly what type of records need to be created, how many are required, how detailed they need to be, and when they need to be in place. But this uncertainty does not give you licence to keep almost no records. If the R&D refund is such a significant source of cash for your business then, if in doubt, create too many documents that are too detailed too often, rather than too few documents that are too vague too infrequently.
For the fourth excuse, given the highly specific and unique eligibility requirements associated with the R&D Tax Incentive, it is borderline reckless to just assume that you would ‘accidentally’ keep exactly the correct records. For example, one of the requirements of the R&D Tax Incentive is that you are able to evidence your ‘experiment’. But very few industries mandatorily require details of experimentation to be kept (with the exception of the heavily regulated biotechnology sector). Therefore, unless you are documenting the experiment specifically for the purpose of making an R&D claim, it is unlikely that you will have kept the necessary evidence.
Hopefully the point is clear by now. There is no valid excuse for making an R&D claim without sufficient evidence.
Many companies that I speak to complain about the difficult and time-consuming task of gathering all of the information that they need in order to pull together their annual R&D claim. My suggestion to them is always the same; rather than spending 12 hours at the end of the financial year scrambling for documents and evidence, spend one hour every month preparing dedicated R&D Tax Incentive documents. The end of year claim process should then be an exceedingly easy task, and the claim itself will be significantly more defendable should it be audited. It’s not more work, but it does require being more disciplined. Going about things this way has the added advantage that you should be well-placed to access an R&D loan should you need it (the R&D lenders won’t lend to you unless you have good R&D records in place).
There are two situations where R&D claims get rejected; when the company wasn’t actually spending money on R&D, and when the company was spending money on R&D but simply didn’t keep the right evidence. I sympathise with the latter infinitely more than the former, but as a taxpayer I’m glad that both situations have their R&D claims rejected. The former was fundamentally ineligible for the Tax Incentive, and the latter couldn’t convince anyone other than themselves that they were eligible. We, the Australian people, are offering up our hard-earned money to support Australian R&D, and it’s completely unreasonable for you to simply say ‘I deserve your money – just trust me’.
Given the relatively low rates of R&D audits, I’m confident that there are some companies that have submitted (and will continue to submit) invalid R&D claims that weren’t (and won’t be) audited, and as a taxpayer I’m not thrilled that they are effectively stealing some of my money. To those companies that adopt the ‘choose not to keep adequate evidence and just cross our fingers’ approach and then do actually get audited, I’m glad that your R&D Tax Incentive claims were rejected. You don’t have anyone to blame but yourselves. Stop complaining and start complying!
If you would like to discuss how your business could better prepare to claim the R&D Tax Incentive, please get in touch with us to arrange a tailored discussion.
By Dave Corbin, Managing Director of Catalyst Solutions Australia