The Government has set itself a challenge to define what makes an “innovation company” for the purposes of being eligible for tax breaks.
In a consultation paper released by Treasury, the Government set out a list of potential “eligibility principles and criteria” that it believes could help it target tax incentives to appropriately innovative firms.
The tax incentives are one of the “levers” that the Government is proposing to pull as part of its National Innovation and Science Agenda (NISA) unveiled late last year.
They are designed to “encourage investment into Australian innovation companies at earlier stages”.
The Government has come up with some base criteria for what it believes defines an “innovation company”.
It is looking at firms incorporated in Australia “during the last three income years”, with assessable income of $200,000 or less and expenditure under $1 million “in the prior income year”. It also does not believe an “innovation company” should be listed.
“Beyond these criteria, the entity must meet the definition of a qualifying innovation company,” Treasury said in its consultation.
“Successful targeting of these incentives requires a clear definition of a qualifying innovation company.
“While it may be easy to identify innovative products or ideas once they have been developed, designing legislation that targets innovative activities before the impact of an idea has been realised is more challenging.”
Treasury said the Government intends to include a set of principles that defines innovation in enabling legislation required for the tax breaks.
“Principles are less prescriptive than a set of rules about what can and cannot be characterised as innovative,” it said.
“Prescriptive rules and tests can only accommodate the types of activities and ideas that are foreseen, however innovation is also about the creation, disruption or improvement that has not been foreseen or achieved by others.”
The proposed principles to judge innovation include that it changes the way users operate, and that the product or service is useful in the first place.
Innovation companies would also have to demonstrate that they have the internal capability to commercialise their idea, that they are focused on global (rather than just local) markets, and that they have high growth potential and a management team in place that can successfully exploit it.
One of the challenges for the Government in defining what an innovation company is in legislation is that it could take a while.
In particular, the Government is concerned about a cooling of the early stage investment market in the interim.
“The Government is aware that some investors may contemplate deferring their equity funding in start-ups in order to wait until the incentive is available,” it said.
Its solution in part is to set up “gateway criteria”, which will be used to qualify companies while the legislation is debated.
Its envisaged that companies hoping for tax breaks would have to satisfy a “minimum number” of gateway criteria to qualify.
That includes spending enough on R&D, completing an accelerator program, or attracting a set number of existing early-stage investors.
Who isn’t innovative?
In addition to defining what innovation is, Treasury is also defining what it isn’t.
So companies with traditional business models in finance, resources, property, agriculture, shared services and a range of industries are automatically considered to be ineligible for breaks – subject to industry consultation.