Is 'the' purpose for undertaking R&D in industry the same as the 'Dominant' Purpose?

The case of JLSP and Innovation Australia [2016] AATA 23 primarily dealt with whether the R&D activities of the claimant company were conducted for the purpose of generating new knowledge as required by the definition of ‘Core R&D activities’. The definition of ‘Core R&D activities can be found in section 355-25 of the Income Tax Assessment Act 1997, which clearly creates a ‘purpose test’ for R&D the activities.

Briefly, the facts involved a company which entered into a contract to undertake certain clinical trials. The clinical trials were run in accordance with the requirements set out in a contract with another group company. There was no issue as to the nature of the activities meeting the core R&D definition nor was there an issue as to whether they were undertaken as described, however AusIndustry did dispute the purpose for which the activities were undertaken.

AusIndustry maintained that the claimant company which ran the clinical trials did not do so to generate new knowledge, but undertook the R&D to fulfil its obligations pursuant to the commercial agreement they had entered into with another company.

To that end AusIndustry argued that the most appropriate construction of the words ‘for the purpose of generating new knowledge’ was to imply the requirement for the purpose to be the ‘dominant purpose’ for generating new knowledge.

This contention was rejected by the AAT on a number of grounds, including that:

• the words need to be interpreted in the context of the legislative requirements as a whole
• that there is often more than one purpose for an activity, particularly when R&D is undertaken in a commercial context, and
• the definition refers to ‘the purpose’ and not a single or dominant purpose.

The Tribunal concluded that “[...] the purpose of generating new knowledge does not have to be the purpose that outweighs all others. Instead, I consider that the purpose of generating new knowledge must be more than an insubstantial purpose [...] even if at the same time other substantial purposes also exist. ”

This is the first decision of the AAT in relation to the R&D definition or at least one aspect of the definition: the purpose test.

AusIndustry sought to narrow the definition beyond the words of the legislation by implying a dominant purpose test. This was rejected by AAT which accepted that R&D in a commercial context, can have more than one substantial purpose for undertaking R&D.

The Tribunal also cautioned that AusIndustry should confine itself to the definitional aspects of Division 355 and not concern itself with the operational aspects of the tax legislation, which is the responsibility of the Tax Office.

With the increased compliance focus by AusIndustry and the ATO, it may be a good time to discuss your claim and compliance concerns with FB Rice R&D Tax Consulting prior to the April 30 lodgement deadline.