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HMRC internal manual

# Patent Box: streaming: example 2

## Example 2

In situations where all the products that a company manufactures are based on patents that it has itself developed and owns the just and reasonable way to split R&D expenses may be different.

Consider the facts relevant to Example 1 (CIRD230150), but now the company has no excess manufacturing capacity. Most of its manufacturing relates to goods in respect of which patents are still in force, but it also continues to manufacture other items in respect of which patents which it did own have now expired.

The company needs to consider how to allocate its R&D costs between the income from licensing and manufacturing in respect of patents which remain in force and the income from manufacturing in respect of which its patents have expired. It is likely that almost all current R&D expenditure will relate to inventions and products which are as yet not on the market. However, the business of the company is researching and developing innovative products.

Therefore, this expenditure seems to relate in this case to the whole of its trade, whereas in the previous example R&D expenditure could not relate to its contract manufacturing activity as that was done on instructions from third parties. It may be appropriate to apportion the R&D expenditure by turnover. Therefore £7,000 of turnover relates to on patent sales and licensing and £3,000 relates to off patent manufacturing. The £2,700 R&D costs therefore will be split as follows:

• On patent manufacturing and licensing 70% x £2,700 = £1,890
• Off patent manufacturing 30% x £2,700 = £810

The company’s streamed P&L may now look as below:

 RIPI Non-RIPI Total On patent manufacturing Licensing Off patent manufacturing Income 10,000 6,000 1,000 3,000 Cost of goods (4,000) (2,900) - (1,100) Gross profit 6,000 3,100 1,000 1,900 Other manufacturing costs (1,300) (600) - (700) Profit before R&D costs 4,700 2,500 1,000 1,200 R&D costs (2,700) (1,890) (810) PCTCT 2,000 1,610 390

### Streaming calculation

Step 1: RIPI is calculated as £7,000

Step 2: Total debits of £5,390 are allocated against RIPI (£2,900 + £600 + £1,890)

Step 3: Deduct debits from RIPI leaving stream profits of £1,610

Step 4: Apply routine return of 10% to routine deductions of £600 included in RIPI stream. Deduct this £60 from the £1,610 to give £1,550

Step 5: The company elects for small claims treatment, so its RP is 75% of QRP, or £1,163

The company’s Patent Box tax deduction is therefore £1,163 x (22-10)/22 = £634

The company’s corporation tax profit is therefore reduced to £1,366; and its corporation tax payable is reduced from £440 to £300.