Analysis: The main proposals in yesterday's Finance Bill put flesh on the bones of the Budget announcements to improve the Republic's position as a holding company location, and to introduce credits for research and development (R&D) expenditure, writes Colm Kelly.
R&D credits will be particularly welcomed by the manufacturing and technology sectors, while the holding company provisions are significant for almost all inward investment sectors, as well as major Irish companies.
Historically, the State's taxation regime has not scored particularly well compared with its neighbours. Although Ireland's tax treaty network has improved significantly in the past decade, the Republic does not have a "participation exemption" that exempts foreign dividends and capital gains on the sale of foreign subsidiaries. Instead, an Irish holding company is taxed on dividends at 25 per cent (with credit for the foreign tax paid on the profits out of which the dividend was paid), and on capital gains in full at 20 per cent.
Ireland's low tax rate for trading activities is very attractive to multinationals who are in a position to establish profitable operations here. However, the lack of a holding company regime has meant that some such operations have gone elsewhere.
The draft legislation will allow an Irish holding company an exemption from capital gains tax on disposal of shares in trading companies resident in the EU or a country with which the State has a tax treaty, provided it has a holding valued at €15 million or more and amounting to at least 10 per cent of the company being sold. The 10 per cent limit is reduced to 5 per cent if the holding is valued at €50 million or more. There is a 12-month holding requirement.
The State will now be able to participate fully in the growing trend for holding companies to operate as regional headquarters, with its personnel being involved in the supervision and co-ordination of the activities of the group's subsidiaries in the geographical area of its responsibility. Often a company of this type acts as a magnet for other activities, such as financing, administration, R&D or manufacturing. The result of this is high-quality employment - precisely the type the State is seeking to attract as it moves up the value chain.
Provision is also made for "onshore pooling". This is a mechanism to allow foreign dividends and the taxes from them to be pooled together, instead of giving credit item-by-item and wasting relief for taxes paid in high-tax jurisdictions. A particularly welcome feature of the draft legislation is the ability to carry forward unused relief indefinitely.
In the absence of this relief, Ireland would be unattractive for holding investments in jurisdictions with tax rates below 25 per cent, such as several of the countries joining the EU on May 1st.
A further relief that will also facilitate the establishment of European hub operations in Ireland is the exemption from stamp duty of transfers into an Irish operation of intellectual property (for example, trademarks, copyrights, patents). In the absence of this exemption, an Irish company receiving a transfer of such property would have had to pay stamp duty of up to 9 per cent on the value of the intellectual property.
Draft legislation has also been published to provide a new relief for R&D expenditure. The relief is being introduced to promote an increase in R&D activities in Ireland, thereby stimulating high-quality employment and a knowledge-based economy.
The key feature of the incentive is that qualifying R&D expenditure (including capital expenditure) by a trading company will generate a tax credit of 20 per cent in addition to the normal tax deductions available at either 10 per cent or 12.5 per cent. In effect, a potential Irish tax write-off for incremental R&D expenditure of up to 32.5 per cent is available.
The quantum of qualifying expenditure eligible will be the excess of qualifying group R&D expenditure over a predetermined base period and this is certainly an unwelcome feature of the relief for companies with existing R&D spend. The draft legislation sets 2003 as the base period for periods up to January 1st, 2007.
To qualify for the tax credit, a company must carry on the R&D activities itself, either in Ireland or another European Economic Area member-state (provided no tax relief is claimed in that other state).
R&D activities are broadly defined and include systematic, investigative or experimental activities in a field of science or technology constituting basic and applied research as well as experimental development work.
More generally, business will also be pleased with other measures in the Bill.
Extensions have been announced for a range of reliefs such as various property incentive schemes, Business Expansion Scheme and Seed Capital Relief, section 481 film schemes and renewable energy schemes.
Overall, these are welcome changes, representing a significant improvement in the State's offering to inward investors and they mean that Ireland can compete more effectively for R&D projects.
Many international groups already regard their Irish operations as being of major strategic significance. They have the opportunity to enhance these operations through the acquisition of regional subsidiaries, so that they become a hub for the group's European activities.
Furthermore, Ireland now has the potential to compete for R&D projects on a similar basis to a number of other European jurisdictions, including the UK, which provide enhanced tax reliefs for R&D activities.
This is good news for the international sector, but also for Irish businesses - particularly those with international operations.
Colm Kelly is head of tax and legal services at PricewaterhouseCoopers
