Page 473 - SAIT Compendium 2016 Volume2

IN 50 Income Tax acT: InTeRPReTaTIon noTes IN 50
In the eld of R&D one company (A) will often commission another company (B) to conduct research on its (A’s) behalf. Company A will usually pay a fee to Company B, while Company B will incur the actual R&D expenditure. In these circumstances both companies will qualify for a deduction under section 11D (1) — Company A for the fee it pays to Company B, and Company B for the actual R&D expenditure it incurs. Company B will, however, be subject to the deduction limitation provisions of section 11D (7) and (8) and the recoupment provisions of section 11D (9).
In the Republic
The term ‘Republic’ is de ned in section 1 and means the territory of the Republic of South Africa, including the territorial waters, the contiguous zone and the continental shelf referred to respectively in sections 4, 5 and 8 of the Maritime Zones Act 15 of 1994.
Activities which are conducted outside of the Republic, even if funded from within the Republic, are not eligible for the section 11D deduction.
Directly for the purpose of
The activities eligible for a deduction must have been undertaken ‘directly’ for an R&D purpose. In the case of an entire project having an R&D purpose, say the development of a computer program, not all activities are undertaken directly for the R&D purpose. Accordingly only activities relating directly to the listed statutory activities are eligible for a deduction.
For example, if an employee was not directly engaged in R&D activities in the year of assessment 100% of the time, the employee’s salary must be apportioned between R&D and non-R&D expenditure. For this reason, it is important that researchers’ timesheets, job cards, journals or diaries are kept.
The words ‘directly for the purposes of’ imply that any activity undertaken merely indirectly for an R&D purpose is not eligible for the deduction. To illustrate the point, the following extract from SIR v Consolidated Citrus Estates Ltd might be helpful:*
‘It would thus seem that ‘directly’ refers to and quali es the act of incurring the expenditure. Obviously the expenditure must have been incurred by the taxpayer, ie he must have incurred the liability or made the payment. ‘Directly’ appears to have been deliberately added in order to serve some purpose that the legislature had in mind. That purpose, I think, was to postulate that the connection between the taxpayer’s incurring the expenditure and the object for which it was incurred [being one of those speci ed in paras (a) to (f) in the subsection] should be direct, i.e. straight, and close, not devious and remote (cf Concise Oxford English Dictionary sv ‘direct’). The reason was probably to stimulate the personal efforts of the individual exporter to develop an export market for his products; and therefore to ensure that for the expenditure to qualify for the additional and special allowance, it had to be incurred by the exporter himself and also had to be easily identi able and thus readily provable to the Secretary’s satisfaction, as being clearly expenditure for one or other of the speci ed objects.’
Activities which SARS considers directly for R&D purposes are listed in Annexure A, and activities excluded from eligibility are listed in Annexure B. These lists are not intended to be exhaustive.
Example 5 — Apportionment of R&D expenditure between eligible and non-eligible elements
Facts:
During the year of assessment Research Co. conducted 40 research projects of which 25 quali ed as R&D for purposes of section 11D, while 15 did not. The company has the following personnel:
• Two full-time researchers
• One clerk who is primarily responsible for administrative work but who also assists the researchers with their
projects from time to time as and when needed
• One secretary exclusively responsible for administrative work
Are the salaries of the abovementioned personnel deductible for under section 11D?
Result:
The salary (cost to company) of the researchers will only be deductible under section 11D to the extent of their time spent on eligible research projects.
A portion of the salary of the clerk (cost to company) will be allowable under section 11D based on time spent in supporting the researchers directly with eligible research projects.
The salary of the secretary will not be allowable under section 11D as it is not incurred directly for the purposes of R&D.
Of a scienti c or technological nature
While the words ‘scienti c or technological’ are of wide import, they must be read with section 11D (5) which prohibits the deduction of R&D expenditure in relation to certain activities.
Used by the taxpayer in the production of income
For R&D expenditure to be incurred in the production of income, it must have been outlaid for the purpose of earning income as de ned in section 1 and must be closely connected to the income-earning operations.† The income generated by the R&D expenditure will be in the production of income whether it is derived in the current or a future year of assessment.‡ The result of the activities might still be in a developmental phase or be completely unsuccessful, yet the expenditure will still qualify for the deduction.
The requirement that a taxpayer use the product of the research in the production of income would apply, for example, to a company that conducts the R&D itself with the intention of using the product of the research in its business. It would
* 1976 (4) SA 500 (a), 38 SATC 126 at 148.
† Port Elizabeth Electric Tramway Co Ltd v CIR 1936 CPD 241, 8 SATC 13; CIR v Genn & Co (Pty) Ltd 1955 (3) SA 293 (a), 20 SATC 113.
‡ Sub-Nigel Ltd v CIR 1948 (4) SA 580 (A), 15 SATC 381.
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