Research and development (R&D) is an interesting entry from the tax perspective when calculating the income tax. Research and development as a deductible entry enables de facto subtracting costs of activities, which represent research and development, twice. These are mostly wage costs, but material and assets bought and used for the purposes of research and development can also be included in the deductible entry (under statutory conditions). From the historical perspective, the topic of research and development has rarely occurred in judicial proceedings, when similar topics were subject to dispute. We dare say that a dispute regarding fulfilment of formal essentials and proving that the project was drawn up before the beginning of research and development activities is a very frequent subject of dispute.

Legislation

Formal essentials are governed by the income tax act (ITA) and special directive D-288. In addition, Information on a project for research and development as a necessary condition for applying deduction for support of research and development according to article 34 paragraph 4 and 5 of ITA was issued on 14 September 2017 by the General Financial Directorate, where it is said that in case when the project does not meet formal requirements, it need not be further examined by the tax administrator: “If the taxpayer does not prove based on provided evidence that the project was drawn up before solution of the project begun, or the project will not contain all above-mentioned essentials, than it is a shortcoming, which means without further ado that the tax administrator will exclude the applied deduction from the tax base in full extent.”

The general public perceived the condition of drawing up the project prior to beginning solution of research and development as a very strict condition. Within the so-called tax package, a draft amendment, whose authors wanted to moderate this particular condition, has currently passed through the Chamber of Deputies. If the draft will also be adopted by the senate or not is very speculative, at the time being. If approved, the new legislation will be apply to new R&D projects, which began in the taxable period, during which the amendment will come into force and take effect. The “old” rules will continue to apply to older projects. The main changes are as follows:

• It will not be necessary to draw up the project before the beginning of its solution
• The fact that the taxpayer intends to subtract deduction for support of research and development in connection with R&D realisation will be announced to the tax administrator.
  • In the announcement, it is necessary to state the name of the R&D project expressing its general orientation and the basic identification data of the taxpayer (business name, address, VAT number).
• The costs, which the taxpayer expended from the day of submitting the announcement of the intention to subtract deduction for support of research and development from the tax base, can be subtracted from the tax base.
• Project documentation must be compiled and approved before the end of the period for submitting the tax declaration. The essentials of project documentation do not differ in any significant way from the essentials of a project (according to the current version of the law).
• Project documentation must be compiled and approved within this period even in case the deductible entry is not used for the current taxable period (due to low tax base, tax loss).
• Adjustments of the project are newly strictly limited – according to the draft, it will not be possible to change the name and aim of the project throughout the period of R&D solution. Other changes in facts are recorded in the project documentation.

According to a transitional provision, the “old version” of the act will apply to projects, the solution of which began before the amendment took effect. For projects, the solution of which began in the taxable period or in a period, for which tax declaration is being submitted, which are not completed as of the date when this act takes effect, the “new version” of the act can be applied. If the taxpayer uses such procedure, these stipulations will be applied in all in all taxable periods or in periods, for which a tax declaration is submitted, in which the research and development project is being solved.

We will leave it up to you, the readers, to judge, if the proposed amendment is a liberalization of very strict conditions for using deductible entries relating to R&D, or it is not. We will inform you in some of the following issues of our newsletter, if this amendment is approved by the senate.

Case Law

Out of the judgments from this year, we have selected the judgment 62 Af 88/2016 - 67 from 13 September 2018. A disputable thing was to determine, if it was research and development, and to prove that research and development actually took place. The following important statements appeared in the judgment:

• Only article 2 paragraph 1 of the act on support of research and development from public resources contains a definition of the term research and development (reference to judgment 10 Afs 24/2014-119).
• When assessing if it really concerns research and development, the key is a decisive presence of a measurable element of novelty and clarification of research or technical uncertainty.
• This is while a measurable element of novelty may also be present in case of using known and previously used technologies. It cannot be deduced that research and development can only be understood to mean development of a new function of models and not a perfection of previous characteristics of a certain product.
• By merely noting the principle of novelty of the individual devices in the annual assessment report, the plaintiff was not able to sustain a burden of proof of experimental development. The plaintiff did not specify in any way, what needed to be resolved in the construction of the individual devices, what technical uncertainties he dealt with compared to the original expectations and intentions, and if he changed the way of solving them.
• The plaintiff was supposed to prove not only if the devices in question fulfil the requirements of novelty, but also the fact that they are the result of his research and development and that this research and development took place.
• The plaintiff did not substantiate the course of research and development for any of the sub-projects in question. This means that he did not provide any documents from verifications, measurement, checking and testing in the course of the development of the given technological device.

It is clear from the above that even in case of research and development, it is necessary for the taxpayer to be able to prove that research and development actually took place, and to substantiate this with evidence. In case the project contains all formal essentials, is compiled at the beginning of R&D, but it is not proven that R&D took place, there is a danger of not sustaining the burden of proof and thereby also of additional assessment of income tax due to the deductible entry for research and development not being accepted.