Case Study – Far Side
The new Software-related Activities and the Research and Development (R&D) Tax Incentive Guide contains a case study that shows the self-assessment process when claiming R&D. This involves a fictional business called Far Side. Case studies can help to provide insights into how Ausindustry applies the R&D Tax Incentive legislation.
What does Far Side want to do?
Far Side creates 3D visualisations of planets, stars, and other cosmic characteristics for educational and research purposes. When new planets are discovered, the company intends to construct 3D graphic depictions of the planet. It also plans to include this as a new function in its desktop application. The company possesses the necessary qualifications to undertake such activities and generate visualisation software. It also keeps up with current advances in relevant sectors and interacts with specialists in related fields. It is considered an expert in the field.
What challenges does it face?
As the planets are newly discovered, they currently have limited available 3D patches. These patches depict the planets’ local geographical environment. When Far Side tries to render 3D samples, the visualisation software creates visual blind spots due to this limitation. This results in an incomplete 3D model.
How did the company look for a solution?
Far Side searches for a method that will allow it to extrapolate known 3D patches to estimate the appearance of neighbouring patches to generate a complete 3D render. Far Side conducts research online and scours through existing studies to find available solutions. Specifically, it investigates image processing software and gaming terrain generation techniques, both of which yield patches based on surrounding elements.
Why were the available solutions insufficient?
The company discovers that none of the existing techniques could produce patches at a planetary scale, given the limited 3D data that they are only able to acquire. Because of the large size of the model, available solutions cannot match the known patches to generated patches seamlessly and realistically.
From the first 4 questions, we establish that there was a technical challenge to solve, in this case, a software engineering challenge. This is generally the first step in identifying a core R&D activity. The other thing that they establish is that they conducted research on existing techniques which they explore, evaluate and possibly even test. Then they determine that the research is not able to solve that technical challenge. These are important eligibility steps for a Core R&D activity which should more or less be similar to Core R&D activities that you are conducting.
How will it solve its problem?
Following extensive research, the company decides to create its own techniques to generate the patches in the planets’ blind spots. It plans to conduct a series of tests to evaluate assumptions about how it might yield the missing links. One hypothesis it plans to investigate is how to create a 3D composite that preserves the geographical characteristics of the existing 3D sample patches. Far Side establishes that the only way to validate its hypothesis is to undertake experiments.
The previous question helps to establish other important parts of eligibility, including that they must undertake a systematic progression of work that begins with a hypothesis and proceeds to experiments, results and conclusions. We can see that they explain how they will be the ones to try and create a solution to this challenge as the research was not able to solve the problem. They describe a hypothesis that outlines what they will experiment on and the goals that they have. Also, they describe that they will conduct a series of tests which implies that they will be experimenting.
Is Far Side an eligible R&D company?
Far Side first determines whether it is a qualified R&D entity. The corporation was formed under Australian legislation. It is not exempt. It complies with section 355-25 of the ITAA 1997.
Claiming R&D is not a straightforward process as there are many rules in the legislation around what entities can claim, what expenses can and cannot be claimed as well as many technical rules. Then there is the most complex area which is what R&D qualifies or not.
Is the company’s R&D activity eligible?
The next step is for Far Side to analyse its project plan and check the criteria for eligible R&D activities to see if the specific undertaking it wants to do meets the R&D criteria.
Far Side’s Core R&D activity:
Creation of a mathematical framework for 3D solid patch generation
The organisation believes that this activity satisfies legislative requirements, namely section 355-25 of the ITAA 1997 for the following reasons:
- There is no present knowledge that can inform them on how to achieve the goal of the activity.
- It can only identify the conclusion by a systematic progression of work that follows known scientific principles and begins with a hypothesis.
- It intends to test the hypothesis of the activity on how to develop new 3D patch-generating techniques through experimentation.
- It intends to assess the outcomes of the experiments to draw conclusions regarding the hypothesis.
- It will keep track of the operations relevant to the activity through documentation and record keeping.
- The company’s goal is to develop new knowledge in the form of improved software and new processes.
- Its activities are not excluded core R&D activities.
Does Far Side have additional activities to claim?
Far Side has completed its experimentation in developing an effective 3D generation module, which wraps up one core R&D activity. However, it is looking to build a faster version of the module. After assessing this new activity, it determines that the knowledge gained from doing the completed core R&D activity may be recycled in the new undertaking. It does not see a need for further experimentation as its internal team has enough prior experience to confidently design a faster version. As a result, the company concludes that this new activity would not meet the criteria of a core R&D activity.
With the additional activities to claim Ausindustry is signalling an important eligibility issue which is that not all development is eligible to be claimed as a Core R&D activity even if it is developing a new feature. If the developers are able to utilise their existing knowledge or solve their technical issues through research then they may not be able to pass the “New Knowledge” and “Outcome Unknown” requirements of claiming a Core R&D activity. For the “faster version of the module” Far Side should explore if there is a technical challenge that they need to overcome to reach their technical goals such as speed etc.
What are the overall results of Far Side’s self-assessment?
Far Side determines that it has one core R&D activity that meets legislative requirements. The company registers it as Core Activity 1 – Development of a Mathematical Framework for 3D Patch Generation.
What are the supporting activities of its core R&D activity?
Far Side believes it may be able to register supporting R&D activities, which pertain to any activity that can be tied to a core activity. This includes project management, building a test environment, and data collection. Far Side determines that these tasks are directly related to the core activity and can happen before, during, or after the creation of the 3D generation module. The company proceeds to register Supporting Activity 1.1 – Project Management; Supporting Activity 1.2 – Development of Test Environment; and Supporting Activity 1.3 – Dynamic Data Collection and Integration.
Supporting activities are important for expanding the range of expenses to be claimed. It is important to establish the link between the core & supporting activities to be able to claim them. The supporting activities claimed in this example are typical of supporting activities claimed.
Is its R&D expenditure eligible?
Far side reviews ATO’s guidance on eligible expenses. It then registers its eligible R&D activities with ATO and subsequently submits a claim for qualifying expenditure spent on the activities.
Does Far Side have evidence to support its R&D claim?
When Far Side begins its activities, it establishes a system for keeping records to demonstrate that its activities meet the R&D Tax Incentive’s requirements. The firm also maintains a record of its qualified R&D expenditure and the R&D activities that are associated with it. Far Side then submits its registration through the R&D Tax Incentive portal.
Evidence is a critical component in claiming R&D Tax, your claim is only as good as the paperwork that underpins it
We encourage all companies interested in AusIndustry’s R&D Tax Incentive program to read the Software-related Activities and the Research and Development (R&D) Tax Incentive guide found on AusIndustry’s website
We will continue to provide our insights on the software sector guide.
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