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Inquiry confirms ‘devastating impact’ of R&D clawbacks

The ATO and AusIndustry have been slammed for their administration of the R&D Tax Incentive, with a review recommending sweeping changes be made after businesses faced “financial ruin”.

Tax&Compliance Adam Zuchetti 12 December 2019
— 4 minute read

In August, the Australian Small Business and Family Enterprise Ombudsman (ASBFEO) announced an investigation into the ATO’s clawbacks of R&D funds, amid claims they were being carried out years later and that a lack of consistency in their application was killing jobs and innovation.

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My Business was one of only three media outlets to get an exclusive sneak peek at the findings prior to their public release on 12 December. And the ombudsman’s verdict makes for grim reading of past actions, while also providing hope that change for the better is on its way.

‘Inconsistent treatment, changing goalposts’

The ASBFEO’s Kate Carnell confirmed the experiences of SMEs My Business had spoken with about retrospective audits that “commenced several years after the relevant R&D was undertaken and the R&DTI refund received and spent”, and that many were subsequently forced to repay all benefits received “with a severe penalty applied”.

“This has had a devastating impact on the businesses involved, with some saying they face financial ruin. Others have discontinued or scaled down their R&D efforts in Australia and reduced their R&D staff,” Ms Carnell said.

“Most of these small and family businesses were genuine in their belief they were undertaking R&D; their claims were totally justified and they had already invested the money back into the business.”

The ombudsman continued: “Businesses my office spoke to reported inconsistent treatment, while R&D consultants expressed concerns about the uncertainty of the R&DTI program and the changing goalposts in the way it is administered.

“Our report found there has been a shift in the interpretation of the R&DTI legislation, narrowing the focus and leading to more claims being rejected, particularly in the area of software innovation.”

According to Ms Carnell, both the ATO and the federal Department of Industry, Innovation and Science (AusIndustry) have “heard these concerns and have pledged to update their approach”.

Report findings

The official report, titled Review of the R&D Tax Incentive (December 2019), found that in many instances, businesses had been subjected to “untimely, inconsistent and in many cases targeted action by both the ATO and AusIndustry, often at the same time”.

Moreover, it found that both regulators had embarked on a noticeable shift in their interpretation of the rules governing the tax incentive, particularly over the past “three to four years”, and that the resulting narrowed focus had led to an increase in claims being rejected, despite previously having been “regarded as low risk”.

“The way the program has been administered has created uncertainty among companies and their advisers and has undermined the policy intent of the R&DTI legislation,” the report concluded.

“There appears to have been a broad-brush approach to program integrity with a view to recouping government expenditure on the R&DTI. Valid claimants have been swept up along with those who have been badly advised by unscrupulous R&D ‘consultants’.”

It also identified shortcomings in consultations and compliance activity which fell short of good governance principles around fairness, transparency and an educative, proportionate approach.

Other core findings include:

  • the whole scheme is “exceedingly complex”
  • guidance material provided by both the ATO and AusIndustry is “fractured and incomplete”
  • compliance actions have been overly reactive, leading to lengthy lag times
  • there is incentivisation for unscrupulous operators to consult to SMEs about R&D
  • the current scheme is having the opposite of its intended effect, causing business to scale down their research and development activities instead of expand them

Cap on enforcement actions among recommendations for change

Despite the review being done and dusted in less than four months, the ASBFEO has made a total of 24 recommendations.

“We have grave concerns that the administration of the program does not provide sufficient certainty for small business and that compliance activity by the regulators can and does negatively impact the continued viability of small businesses,” the report stated.

Among the recommendations designed to address these concerns are:

  • a more seamless integration of the role played by AusIndustry and the ATO
  • updated guidance on eligibility, and a complete rewrite of the guidance specific to software
  • a one-year cap on retrospective enforcements to encourage more proactive enforcement during the early phases of a business’s R&D, except in suspected cases of deliberate fraud
  • an overhaul of staff training at both AusIndustry and the ATO on how business R&D and the incentive work
  • a compulsory meeting with businesses facing scrutiny to give them a chance to explain their activities covered by the incentive
  • making requirements for supporting evidence proportionate to the size and complexity of both the business and the claim it put forward
  • penalties and interest not be applied where small businesses have relied on and done their best to follow specialist advice
  • enhanced guidance for businesses on what to look for when seeking out such specialist advisers

R&D changes in Parliament

The ASBFEO’s report comes just days after the federal government tabled legislation that would narrow the incentive’s eligibility and cut funds paid out, in what has been described as putting the political commitment of a budget surplus ahead of the needs of the country at a time when more business investment is sorely needed.

How the report will impact on the passage of this legislation remains to be seen, with the report stating that “the premise that the R&DTI ‘significantly improves the incentive for smaller firms to undertake R&D’ is sound and the program should be retained for this purpose”.

The government has said it wants to reform the tax break as a means of ensuring its ongoing sustainability.

But the federal opposition has expressed concerns about a Senate committee’s recommendations being overlooked.

“Labor supports the intent of measures to maintain public confidence in the integrity and financial sustainability of the R&D Tax Incentive, as per the Senate Economics Committee report,” shadow science, employment and industry minister Brendan O’Connor and shadow innovation minister Clare O’Neil said in a joint press statement.

“However, the government is yet to properly explain how the minor tweaks to the bill before Parliament have heeded the bipartisan concerns of the Senate Committee that the R&D measure ‘should be re-examined in order to ensure that Australian businesses are not unfairly disadvantaged’.”

The duo said that the opposition “will continue to consult widely on the impact of the R&D Tax Incentive measure and fight for researchers”.

The ASBFEO’s full report and list of recommendations can be found on its website.

Inquiry confirms ‘devastating impact’ of R&D clawbacks
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