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Out-Law News 2 min. read

'Patent Box' tax break does not breach EU's tax code of conduct, says UK Treasury

The UK Treasury is to begin its defence of the 'patent box' regime for the taxation of intellectual property (IP) next week, after the European Commission said that the lower rate broke EU rules on harmful tax competition.

The EU's Code of Conduct Group, which oversees the trading bloc's 'Code of Conduct for Business Taxation', is meeting on Tuesday to decide whether to proceed with a challenge against the UK. Although the Code is not a legally binding instrument, a breach would most likely be escalated to the national finance ministers that make up the EU's Economic and Financial Affairs (Ecofin) Committee.

In a statement, the UK Treasury said that it was "confident" that the regime did not breach the Code of Conduct. The patent box is "more tightly defined and imposes tougher eligibility criteria than other similar measures in operation that have previously been considered by the Code Group, for example those in France, Spain, Belgium and the Netherlands", it said.

The Code of Conduct for Business Taxation (6-page / 370KB PDF) was set out in 1997 and was designed to detect "harmful" tax measures introduced by member states that could encourage businesses to locate in that member state at the expense of others. It requires member states to refrain from introducing any new harmful tax measures and to amend any existing laws and practices that are deemed to be harmful in respect of the principles of the Code.

The UK's patent box regime for the taxation of IP came into force on 1 April 2013. It allows companies liable to UK tax to elect to have profits earned from their patented innovations, and certain other IP rights, taxed at a lower level of corporation tax. The relief is to be phased in over four years, leading to a tax rate of 10% by 1 April 2017. The regime covers patents granted by the UK Intellectual Patent Office and the European Patent Office, as well as patents granted by certain states within the European Economic Area (EEA).

Germany has been particularly vocal in its objections to the scheme, which it says has resulted in companies moving to the UK, according to tax expert Heather Self of Pinsent Masons, the law firm behind Out-Law.com.

"The complaint by Germany is reminiscent of their proposal for an EU-wide minimum rate of corporation tax many years ago," she said. "In a global economy, the EU needs to compete with the Far East and developing countries for inward investment – and a competitive corporate tax regime needs to be part of that."

"The tensions around base erosion and profit shifting are building, as each country seeks to show why its system is reasonable and it is someone else's that needs to change. The UK patent box regime is a clear incentive to attract high value investment and is not materially different from regimes in other countries. It seems unlikely that the EU could require it to be fully withdrawn," she said.

The Commission has also confirmed that it has opened an in-depth investigation into whether the new corporate tax regime in Gibraltar selectively favours offshore companies, in breach of EU state aid rules. The investigation will particularly consider the exemption for passive income, such as royalties and dividends, from corporation tax in Gibraltar irrespective of where the source of the income is located, following a complaint from the Spanish government. If the measure is found to be in breach of state aid rules, companies that have benefited from the exemption could be required to repay any illegal tax relief. 

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