The Rands And Cents Of R&D

The most recent South African National Survey of Research and Experimental Development found gross domestic expenditure on research and development (GERD) declined 5 per cent from R38.725-billion in 2017/18 to R36.784-billion in 2018/19, the first such decline since the 2009/10 period. R&D intensity – GERD as a percentage of gross domestic product (GDP) – is down to just 0.75 per cent, well below the global average of 2.27 per cent.

The thing is, R&D is expensive and a bit risky; you don’t necessarily know if your investments will pay off. A little financial assistance is a welcome boon in this space, so what’s out there?

“There are several innovation-related incentives and grants on offer in South Africa,” says Justin Shein, director of Catalyst Solutions, which helps companies access these incentives and grants. “The grants we most frequently deal with are the Support Programme for Industrial Innovation, through which the Department of Trade, Industry and Competition (DTIC) offers R5-million cash as long as you meet their criteria, and some grants or soft loans made available by the Technology Innovation Agency.”

Competition for grants is fierce, however, says Shein. “Even if you’re innovative, the DTIC has a finite budget, so you’re not guaranteed to get a grant.”

Far more accessible, says Shein, is the incentive provided for in S11D of the Income Tax Act. The incentive, jointly delivered by the Department of Science and Innovation (DSI), National Treasury and SARS, allows for a 150 per cent tax deduction on dedicated R&D expenditure in South Africa. “To put it simply, if you spend R1-million on R&D, you could reduce your tax bill by R140 000.

“We make potential clients aware of what’s available, but once they are it’s not a straightforward process,” explains Shein. “There’s lots of admin and details to address if you don’t want to face penalties from SARS. When it comes to incentives and grants, we help companies put their best foot forward.”

Local innovation, global novelty

Christel Wolmarans, director of private sector R&D promotions at the DSI, says this type of incentive carries clout in terms of tax design because it’s neutral. “We want anyone doing real R&D to apply. It’s not focused on advancing any particular sector; it’s focused purely on scientific or technological R&D.”

Wolmarans acknowledges that R&D is risky. “Private companies may not be keen to spend their money on this, because they don’t know if they’ll reach their desired outcome. We want to incentivise them to invest in R&D because there’s a likelihood that they’ll develop new or improved products, services or processes. In so doing they will grow, but there’s also a positive spillover to the rest of the economy, which makes South Africa more competitive.”

She says applications are assessed by a panel of technical experts, then presented to the R&D tax incentive adjudication and monitoring committee, comprising members from DSI, SARS and National Treasury, which then makes a recommendation to the Minister of Higher Education, Science and Innovation. Key to judging applications, she says, is the definition of R&D in the Income Tax Act: “It’s defined as systematic investigation or systematic experimental activities of which the result is uncertain, for the purpose of, among other, creating or discovering non-obvious knowledge, inventions as defined by the Patents Act, functional designs as defined in the Designs Act, and which is innovative in terms of its functional features and so forth.”

There’s a high standard for applications, says Wolmarans. “We’re looking for global, not just local, novelty. Has what you’re trying to do been done before?” Most applications come from the manufacturing sector, followed by financial intermediation, real estate and business services. “The highest approval rating is in agriculture, hunting, forestry and fishing.”

It’s also important to note that the incentive is based on a preapproval system, having changed from a retrospective one back in 2012. “We receive the applications when companies are still planning their R&D,” says Wolmarans. Contrasting the South African tax incentive with systems where governments give cash back to companies for performing R&D, she says various considerations make this not viable in South Africa including fiscal affordability.

Researching and reaping the rewards

One company that has benefitted from the S11D incentive is LAWTrust, a specialist cybersecurity company that provides digital trust services. “R&D is critical in our space as the cybersecurity area is very dynamic,” says CIO Katekani Hlabathi. “New threats emerge constantly and we need to keep up with all the changes brought about by persistent and sophisticated attacks and external events. R&D is the enabler of innovation, enabling us to focus on creating new ways of serving our customers by continuously improving our product offering.”

After one of LAWTrust’s sister companies used the S11D incentive scheme in the past for their development efforts in the field of electronic design and manufacturing, they approached Catalyst to assist them with their application, which Hlabathi describes as intensive. “We had to satisfy the following main criteria: It has to be a scientific or technological project. There must be an uncertainty of a scientific or technological nature that needs to be solved. We needed to demonstrate a clear, significant or innovative improvement that the project aims to achieve, which must be an improvement or innovation to existing scientific knowledge.”

Hlabathi advises prospective applicants to employ a professional services company to help them navigate the complexities of the application. “They should also ensure that the incentive is going towards research that will benefit the company and larger society as a whole. There’s a lot of reporting expected as well, so they should keep accurate records of their research and development activities.”

Hlabathi says the tax savings have allowed the company to put more funds into the developmental side of things, and more time into researching more innovative solutions.

Before sunset

Companies interested in taking advantage of the S11D incentive should get their applications in as soon as possible. “When government promulgates such an incentive, it usually comes with a sunset clause: a projected end date,” explains Shein. “That date is 30 September 2022.”

Shein adds that there’s much debate going on among users, consultants, and SARS and the DSI around analysing the benefits of the incentive. “Our view is that this is South Africa’s only innovation-focused tax incentive, so it’s fundamental to our innovation landscape.”

He says there’s a lot of innovation in this country that people don’t necessarily know about. “Several companies claiming the incentive are doing cutting-edge research – growing drought- and disease-resistant crops, for example. We fear that without the incentive, there will be a massive decline in the amount of innovation that takes place here. That could be to the long-term detriment of our economy.”

The 2021 Budget Review states that the R&D tax incentive will be reviewed, says Wolmarans. “National Treasury and the DSI will soon publish a discussion paper inviting public comment on the future of the incentive to be followed by a public workshop. We encourage all those who are interested to provide comments once it is published.”