Knowledge Development Box Tax Regime Offers Large Scale Benefits to Tech Companies
Ireland plans to make sweeping changes to its taxation of multinational companies and their income from intellectual property. The “Double Irish” tax loophole will be closed to new companies at the end of this year and to existing companies soon thereafter. It intends to replace this regime with a “patent box” tax regime, or a “knowledge development box,” as it will be called in Ireland.
Remember, only passive type income (a.k.a., Subpart F income) earned by foreign subsidiaries of US corporations are immediately subject to US tax. Thus, licensing IP from Ireland to non-US users results in active income outside the U.S. that is typically not subject to foreign withholding tax (due to Ireland’s extensive tax treaty network), and not immediately subject to US taxation. Thus, US companies may have a strong incentive to locate their intellectual property in a “patent box” jurisdiction, because the royalties derived from this IP will be taxed at an advantageous rate, rather than the US corporate rate of 35%.
Double Irish
The “Double Irish” is a tax avoidance technique used by a number of multinational companies. It generally involves two companies registered in Ireland. One company collects the proceeds from the parent-corporation’s non-US sales; the other holds the intellectual property. The IP holding company is managed in a low or no tax country, and therefore is not considered to be a tax resident of Ireland. The first company pays most of its revenues in the form of royalties to the second company, leaving the first company with low or no taxable income. The second company’s royalty income is not taxed in Ireland because it is not a resident of Ireland for tax purposes, despite being organized under its laws. The second company will usually be a resident of a no tax jurisdiction, and will thus pay no tax at all.
Ireland plans to close this loophole by changing its residency rules. Effective January 1, 2015 new companies registered in Ireland will be deemed to be Irish tax residents. The new residency rules will not apply to existing companies until 2021. This means that companies currently using the “Double Irish” will have six years to plan for the loophole’s closure.
Knowledge Development Box
In light of the termination of the “Double Irish,” Ireland plans to attract and retain foreign direct investment through the implementation of a “Knowledge Development Box,” Ireland’s version of the patent box tax regime employed by several European countries, such as the UK and the Netherlands.
These “boxes” allow companies to pay a lower tax rate on income attributable to intellectual property. In the U.K. for instance, the top corporate tax rate is 21% but by 2017, companies will pay just 10% on income attributable to patent box property.
The Irish “knowledge development box” proposal would include a 3% tax on knowledge box income, compared with Ireland’s top corporate rate of 12.5%.
While this regime may be slightly less attractive than the “Double Irish” regime’s near 0% rate on these types of income, it offers some advantages. The most common variation of the double Irish, which includes a so-called “Dutch sandwich,” requires companies to maintain a Dutch, Irish, and tax haven presence (frequently in the Cayman Islands). The knowledge box requires only an Irish presence, easing administrative and planning issues.
According to Irish Finance Minister Tim Noonan, this regime will not be instituted until the EU and the OECD have approved it.
Conclusion
The knowledge box tax regime offers large scale benefits to any company that develops IP, particularly technology companies.
The information contained herein is not necessarily all-inclusive, does not constitute legal or any other advice, and should not be relied upon without first consulting with appropriate qualified professionals.
