Taxation Incentives for IT Companies in Ireland

Ireland is well-established as a location for multinational investment and business activities. IT companies, in particular, have been drawn to Ireland with major players in the industry such as Dell, Microsoft, Intel, HP, Google, Yahoo and Ebay all having significant operations here. In 2003 alone, Irish exports in this sector exceeded €21 billion. Given Ireland‘s relative size, population and geographical location, this is a major achievement for the country.

Ireland’s membership of the European Union, its English-speaking, IT-literate workforce, its electronic communications infrastructure and its pro-business attitude all serve to ensure that it is a location worthy of serious consideration by IT companies wishing to establish or expand business operations to service European or global markets.

There is, however, another factor that virtually guarantees Ireland‘s continued popularity as a preferred location for IT companies – the favourable Irish taxation regime. Tax is a cost for any business. Without a doubt, Ireland‘s tax regime is competitive and must remain so into the future to ensure Ireland retains its status as a leading location for international IT businesses.

Low corporate taxation rates

A 12.5% corporation tax rate applies to profits from trading activities in Ireland. Profits from trades conducted wholly outside Ireland, along with passive income (eg investment income, rental income) are taxed at 25%. The average corporation tax rate in the EU is above 30% – Ireland‘s corporate tax rates come in well below that average.

IT multinationals tend to refine their selling and distribution models in order to maximise the way in which they can avail themselves of this low corporate tax rate. For example, commissionaire and undisclosed agency selling models are quite commonly employed by multinational IT vendors.

In addition to the relatively low corporate tax rates mentioned above, there are a number of industry-specific tax advantages that IT companies may access when operating in Ireland.

Tax credits for expenditure on research and development (R&D) activities

In 2004, a tax credit regime was introduced in Ireland for expenditure incurred on qualifying R&D activities undertaken in Ireland within specific industries, including the technology industry. The tax credit is subject to a number of conditions. It is calculated as 20% of qualifying R&D spend, and can be offset directly against the corporation tax due, euro for euro.

The R&D credit regime allows relief for incremental R& D expenditure, over and above a threshold amount. The tax credit is generally not available for outsourced R&D functions. Therefore, this relief is likely to be attractive only to those technology companies or groups that undertake significant in-house qualifying R&D activities in Ireland, where the level of R&D expenditure in Ireland in the past has been relatively low (or non-existent) but is expected to significantly ramp up in the future.

A tax credit is also available for capital expenditure incurred on constructing new, or refurbishing existing, buildings used for qualifying R&D activities. This credit is subject to certain conditions. The tax credit is equal to 20% of the qualifying capital expenditure incurred, available straight line over four years, as a reduction in the corporation tax due.

Where R&D credits are not used, they may be surrendered to another group company or carried forward for future offset. The existence of a tax credit for incremental R&D expenditure is naturally a strong pull-factor for industries that find themselves investing increasing amounts in R&D. Given the constant evolution of many sectors within the IT industry and the need to develop and adapt products to keep pace with changing consumer and client demands, there should be considerable scope within the IT sector to utilize this tax incentive.

Tax relief for capital cost of intellectual property

The tax incentives for IT companies operating in Ireland are not geared solely towards companies that have an in-house R&D function. There is also a wide range of incentives geared towards companies that purchase patents, know-how and trademarks.

Capital costs incurred on the purchase of patent rights are generally allowable for tax purposes in Ireland. The capital cost is written off, straight line, over a period of 17 years or the life of the patent rights, whichever is the lesser period. In addition, tax relief should also be available for the fees or expenses incurred in obtaining the grant of a patent or an extension of the patent term.

Ireland also permits tax relief for expenditure incurred on industrial know-how. Know-how for this purpose is defined as “industrial information and techniques likely to assist in the manufacture or processing of goods or materials”. There are, however, restrictions where the know-how is acquired from a connected party, or where the know-how is acquired through the purchase of a business.

The costs incurred in registering, or renewing the registration of, trademarks should also be deductible for tax purposes.

These reliefs are clearly useful to companies in the IT sector where intellectual property typically accounts for a substantial portion of total value. The deductibility of costs associated with the acquisition of such assets is important to facilitate the continued growth of IT companies and the establishment of new operations in Ireland.

Software development/licences

As in the case of patents, know-how and trademarks, the expenditure incurred on software development or in acquiring the right to use software (ie software licence fees) is generally tax deductible. If the software developed, or the software licence purchased, has a useful life of more than one year, this tax deduction is likely to be spread evenly over eight years.

Exemption from Irish stamp duty on transfers of intellectual property

The sale or transfer of certain business assets can be subject to a stamp duty, usually payable by the purchaser. The stamp duty rates in Ireland are relatively high. However, an outright exemption from Irish stamp duty was introduced for transfers or sales of certain intellectual property with effect from 1 April 2004. Previously, stamp duty could have arisen, at rates of up to 9% of the market value of the item transferred.

This exemption is undoubtedly very beneficial for IT companies where significant value can be attributed to intellectual property.

Income tax exemptions and qualifying patents

The patent income exemption is a long-standing tax exemption that was introduced into Irish law to encourage Irish R&D activities leading to patented inventions. By encouraging such activities in Ireland, the tax rules have attracted and retained high value-add research activities in certain sectors in Ireland.

The exemption applies to income arising from licensing or other commercial use of a ‘qualifying patent’. A ‘qualifying patent’ is defined as:

“a patent in relation to which research, planning, processing, experimenting, testing, devising, designing, developing or similar activity leading to the invention, which is the subject of the patent, was carried out in Ireland”.

The exemption applies to qualifying income earned from any location worldwide so it is not necessary that the commercial exploitation of the patent be undertaken in Ireland to ensure the exemption applies. It is therefore possible for an Irish IT company to develop an invention, hold the patent, exploit it abroad and still qualify for this exemption.

The exemption also extends to dividend income derived from companies that in turn qualify for the patent income exemption. There are a number of conditions attaching to and exclusions from this tax relief.

This patent income exemption naturally makes Ireland an attractive location for IT companies to base certain development activities such as their software designing processes.

Capital gains tax relief on disposals of assets

Irish tax resident companies are subject to Irish corporation tax on capital gains on disposal of assets located in Ireland and worldwide. The current tax rate applicable to capital gains is 20%. This tax could apply to an Irish tax resident company disposing of intellectual property. However, certain reliefs may apply on disposals of companies and business reorganisations. In certain circumstances it may be possible to reduce or eliminate Irish taxation in such transactions. Whether this is possible or not will depend on the facts.

For example, a holding company tax exemption was introduced in Ireland in the Finance Act 2004. This regime exempts, from Irish tax, capital gains arising to Irish resident companies on the disposal of substantial shareholdings in certain corporate subsidiaries. This relief could apply to provide an outright exemption to the disposal of shares in a trading subsidiary where valuable intellectual property has been generated within that subsidiary.

If a group reorganisation or reconstruction is being contemplated, there are a number of tax deferral and relief mechanisms that may be available.

Given the flexibility offered by these reliefs, it is unsurprising that Ireland is becoming popular as a holding company or headquarter location for businesses owning valuable intellectual property and other assets. The IT industry should be well-placed to take advantage of these incentives.

Looking forward

Considering the numerous Irish taxation incentives that IT companies can avail themselves of, it is unsurprising that major international IT groups have chosen to base key European and EMEA operations in Ireland. However, other factors, such as increasing Irish overheads may counter the benefits of the tax incentives. In order to attract and retain high value international business, Ireland‘s policymakers and legislators need continually to refine the favourable taxation offerings to ensure that these are adapted to take account of the ever-evolving needs of business across all sectors, including the IT sector.

The range of taxation incentives outlined in this article can result in real cost savings for companies in the IT industry. Some of the tax reliefs outlined above are relatively new and it is very likely that, as international groups become aware of the beneficial Irish tax regime, the influx to and expansion of IT companies in Ireland will continue.

Philip Nolan is a Partner in the Commercial Group at Mason Hayes & Curran. Suzanne Carter is the firm’s Director of Taxation Services.

© 2005 Mason Hayes & Curran