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HMRC internal manual

Corporate Intangibles Research and Development Manual

Patent Box: relevant IP profits: calculating profits or losses of a trade: shortfall in R&D expenditure: This applies to the old IP regime only


The R&D shortfall adjustments are not a requirement for Qualifying IP rights within the new regime. Companies can therefore disregard the following instructions in calculating profits from any Qualifying IP rights acquired or applied for on or after 1 July 2016.

The key aim of S357CH is for companies recently entered into the Patent Box to provide a mechanism for attributing prior year R&D costs to current year profits. This is necessary only if current year R&D costs have significantly declined since the company’s patent portfolio started to produce income; in other cases, current year ongoing R&D spend will be an adequate proxy for historic spend that gave rise to current income.

In most instances it will be obvious to a company that the R&D claw back clause does not apply, but if the overall level of expenditure has dropped significantly or the level of R&D relief claimed has fallen markedly then it may be prudent for the company to check what figures would have been reportable under SSAP13 or IAS 38 and check whether the shortfall clause applies.

S357CH applies for accounting periods beginning in the four years following the point when the company has elected and first qualifies for the Patent Box.

In the case of a company that elects in to the regime with effect from 1 April 2013, this four year period should be taken to commence on the 1 April 2013, even where the electing company has an accounting period which straddles that date. This is because, in these circumstances, the commencement provisions require such companies to create two separate notional accounting periods for the purpose of calculating their patent box profits (CIRD260170).

S357CH calculates the average annualised amount of R&D expenditure in the four years before the election into the Box. It compares this in each of the accounting periods to the actual amount of R&D expenditure in that accounting period.

If the comparison shows that the actual amount of R&D (plus any additional amount) is less than 75% of the average in the four years prior to entry into the Patent Box, then there is a shortfall of R&D expenditure. In this case the amount of the shortfall must be added to the actual R&D expenditure as an adjustment in calculating the Patent Box profits, under S357CG(5).

For an accounting period of less than 12 months, the average amount of R&D expenditure is proportionately reduced.

R&D expenditure for this purpose is the expenditure recognised in the company’s statutory accounts under generally accepted accounting practice in the UK and brought into account in calculating the profits of the trade. Relevant accounting standards which deal with the treatment of R&D include FRS102 s18, IAS38, FRS105 s13 and SSAP 13 (CIRD99000).

For the purposes of the comparison any actual R&D expenditure is augmented by any ‘additional amount’ available as a result of an excess of actual expenditure over the average in a previous accounting period. The additional amount in an accounting period is:

  • any amount by which actual expenditure in the preceding accounting period for which a comparison was necessary exceeded the average R&D expenditure; plus
  • any previous additional amount, except to the extent that it has reduced a previous shortfall or prevented a previous shortfall.

If the company has traded for less than four years before electing into the Patent Box, the average amount of R&D expenditure is calculated over the period between the trade commencing and the first day of the first accounting period for which the company comes into the regime.