Further guidance on assessing activity eligibility for the R&D Tax Incentive

17 February 2023

Ahead of the 30 April R&D lodgement deadline for June balancers, in this article we present key points on how to assess whether any particular activities are eligible R&D activities, and the types of evidence that can substantiate this. This follows the release last year of updated guidance on the application of the R&D Tax Incentive to software development.

While the software development guidance homes in on one industry, its directions can be applied more broadly. As it is AusIndustry’s most recent interpretive guidance, it provides useful insight into how the regulator applies the legislation.

Our key takeaways on assessing eligibility are:

• The ‘unknown outcome’ criterion is key to determining if an activity is a core activity.
• There should be a clear risk that the outcome of the core activity will not be the desired one. This should be articulated in terms of technical and scientific unknowns - not commercial or business risks.
• Core R&D activities must be conducted for the purpose of generating new knowledge. This “new knowledge” is not limited to new or improved materials, products, devices, processes or services, but can also extend to a new theoretical or practical understanding of how to produce new or improved materials, products, devices, services, etc.
• Supporting activities should be described in terms of how they relate to one or more core R&D activities, not the wider project. For example, a supporting activity may be related to development of the hypothesis or the set-up of the experiment.

All elements of eligibility must be assessed at the activity level, not the project level.

When lodging an R&D Application, the R&D entity declares that it retains records to substantiate the eligibility of the registered R&D activities. Below are key points concerning records:

• Records that only evidence the activities were conducted will not be sufficient. Records need to be maintained that show how each legislative criterion is met (e.g. unknown outcome, new knowledge or hypothesis).
• It is not sufficient to demonstrate that a development is innovative (i.e. something that has not been done before). Claimants must also show that a competent professional in the relevant field could not have been able to determine the outcome of the experiments in advance. Examples of useful evidence include the background research undertaken (literature review, patent searches, etc.), failed attempts to use existing technology, and communications with experts in the relevant field.
• Records of experiments need to show the systematic progression of work. Which parameters were varied and which were held constant; what observations were made and how were these evaluated? The final outcomes are relevant but the R&D Tax Incentive encourages and supports the process of R&D, not the end result.
• For supporting activities that must meet the “dominant purpose” test, documentation should show the different purposes of the activity, and in particular, that the main purpose was to support a core R&D activity.

These points reinforce existing guidance materials, of which “Software-related activities and the Research and Development (R&D) Incentive” (April 2022) is the most recently published from AusIndustry - read more here.

If you have any questions, please feel free to contact us.