Australia’s R&D Tax Incentive: Is Your Startup Missing On Free Money?

Australia’s R&D tax incentive scheme (Research and Development Tax Incentive or “RDTI”) is one of the most under-appreciated government benefit scheme for Australian startups. Most of Australia’s founders have actually never heard of the R&D tax credit before. Unfortunately, they are missing on up to 43% of their R&D costs paid back in cash.

In this article we’ll explain you what exactly is the R&D tax incentive (“RDTI”) for startups in Australia, how it works and whether your startup is eligible.

Can your startup take advantage of the R&D tax credit? What does it mean for your startup?

What Is Australia’s R&D Tax Incentive?

The Research and Development Tax Incentive (“RDTI” or “R&DTI”) is a government tax incentive designed for businesses to invest in innovation.

Each year, the program totals more than $3 billion in funding for businesses, of which 2/3 is being funded to companies of less than $20 million. Although it isn’t well known amongst founders, it is particularly attractive for startups.

Indeed, startups can benefit from significant cash refunds up to 43.5% of their total R&D expenses. The tax relief works as a tax offset: the 43.5% of R&D costs reduces by the same amount corporate taxes.

Yet, the good news for startups (especially early stage) is that loss-making businesses can also benefit from the tax credit, even though they don’t have any corporate taxes at all (as they are loss making).

Indeed, loss-making businesses receive the equivalent tax incentive in cash, which is a significant advantage for qualifying startups.

Actually, there are 2 separate tax incentives:

  • tax incentive of 43.5% for companies under $20 million annual revenues
  • tax incentive of 38.5% for business above $20 million annual revenues

Is Your Startup Eligible?

Any Australian corporate entity, or foreign entity under Australian corporate law can benefit from the scheme, as long as its R&D activity qualifies.

Luckily, the Australian government provides a self-assessment online tool that helps founders assess whether they qualify or not. Note that before applying for a R&DTI for your startup, you will first need to complete this self-assessment anyway.

Originally, the scope for qualifying R&D activities was relatively broad. Unfortunately, in response to spiralling program costs, in 2016 the government tightened regulation to avoid misuse of funds. They particularly avoided funding projects that would not have been undertaken without the tax credit scheme.

Unfortunately, software companies have especially been the subject of audits recently. To the point where the success rate of R&D tax credits for software businesses is reportedly only 50% today.

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How Much Can You Actually Get?

Profitable businesses can get up to 43.5% of their overall qualifying R&D costs paid back as a tax offset. Instead, loss-making businesses can benefit from the equivalent amount paid in cash.

Case Study 1: A Profitable Business

Let’s assuming a startup with less than $20 million revenue and the financials below:

Profit$500,000
Corporation tax30% x $500,000 = $150,000
Qualifying R&D expenses$ 400,000
New Corporation tax$150,000 – (43.5% x $400,000) = $0
Remainder R&D tax incentive (paid in cash)$24,000

In this case, the company can save $174,000 in total: a $150,000 reduction in corporate taxes and a further $24,000 paid in cash.

Case Study 2: A Loss-Making Business

Loss– $200,000
Corporation tax$0
Qualifying R&D expenses$400,000
R&D tax incentive (Cash)43.5% x $400,000 = $174,000

In this case the startup can get $174,000 paid in cash, despite a $200,000 loss.

Why Does It Matter For Your Runway?

Understanding how Australia’s R&D tax incentive works, especially for loss-making businesses (e.g. early-stage startups) is key. Indeed, if used correctly, the R&D tax credit can save startups up to 43.5% of their R&D expenditures per year, decreasing cash burn and significantly improving cash runway.

That’s why founders should always be mindful of taking into consideration potential R&DTI benefits in their cash flow forecasts.

Yet, don’t be too optimistic either. Indeed, as explained earlier, the government has recently become more stringent in their acceptance of claims, especially regarding software businesses.

So when it comes to forecasting tax credits in general, make sure to ask your accountant whether you qualify, and how much you can actually get back to avoid (costly) mistakes. Also, make sure to try out the government’s online self-assessment tool to see whether you can benefit from the scheme.

Note: most startups capitalise a part of their R&D expenses. Indeed, there are clear advantages to capitalise your R&D expenses as a startup. If you aren’t familiar with R&D capitalisation, you might be missing on significant savings. For more information, read our article here.

More Free Resources For Australian Startups

We have lots of free resources for Australian startups. Have a look at our articles below: