Issue 262 | 30 October 2007 |
By Teresa Dyson, Partner and Tim Rowe, Lawyer, Blake Dawson Waldron
Intellectual property in all its forms has become an ever-increasingly valuable commodity in the 21st century. The communications revolution, globalisation and the digital age have all played a large part; in particular, the ability to leverage IP on a worldwide scale. This value is not merely economic — it can serve socially and culturally desirable ends.
However, as an essentially speculative endeavour, the development of IP is underscored by myriad risk exposure and capital outlay, often with no return until late in the piece.
In this context, the federal and state governments, when taxing the creation, exploitation and realisation of IP, must consider the social, cultural, and economic good that those engaging in these activities are doing for the nation and, only then, determine their appropriate contribution to the nation’s tax base. Governments must strike a balance between promoting beneficial activity within their borders (in a global context), ensuring that the nation benefits from that activity, and maintaining horizontal fiscal equity between those developing IP and those pursuing other economically and socially beneficial ends.
Over two issues, we will attempt to take you through the life cycle of various IP rights. In Part 1, we address some of the key tax considerations in the development of IP. In Part 2, we will consider the exploitation and realisation of IP and the associated tax treatment, including the impact of GST, and touch on some international aspects of the cycle.
The Australian tax system allows taxpayers to offset their taxable income with certain expenses they have incurred in earning that income. Essentially, there are two different types of expenditure that a taxpayer can incur: capital expenditure and revenue expenditure. Each is subject to different tax treatment.
If an expense is revenue expenditure, the person incurring the expense may be entitled to an upfront deduction to offset any taxable income that they earn. Capital expenditure is generally only entitled to a less generous capital allowance, which provides a “drip feed” deduction over the effective life of an asset.
The difference between revenue and capital was explained in Sun Newspapers Ltd & Associated Newspapers Ltd v FC of T (1938) 61 CLR 337 (at p 359–360) as follows:
“The distinction between expenditure and outgoings on revenue account and on capital account corresponds with the distinction between the business entity, structure or organisation set up or established for the earning of profit and the process by which such an organisation operates to obtain regular returns by means of regular outlay … In the same way expenditure and outlay upon establishing, replacing or enlarging the profit yielding subject may in a general way appear to be of a nature entirely different from the continual flow of working expenses which are sought to be supplied continually out of the returns or revenue.”
An expense is more likely to be characterised as a capital expense if the advantage sought by the expenditure is enduring and the expenditure is unlikely to be recurrent. For example, in an industrial printing of a registered design, the cost of the printing press is likely to be a capital expense, as the press can be used recurrently and has an enduring benefit. However, the cost of the ink used to print the design is likely to be a revenue expense.
Revenue expenditure is deductible to the extent that it is incurred in gaining or producing assessable income, or if the expenditure is necessarily incurred in carrying on a business for the purpose of gaining or producing assessable income.
However, expenditure of a capital nature may only be deductible under the capital allowance (depreciation) regime. Depreciation is only available in respect of “depreciating assets” to the extent that the taxpayer uses that asset for a taxable purpose (eg the purpose of producing assessable income). It allows an asset to be amortised over its effective life, (generally) using one of two valuation methods — “prime cost” (which enables a “straight line” write-down of the value) or “diminishing value” (which produces an initial accelerated deduction and a reducing balance). Note that for all IP other than copyright in a film, the diminishing value method may not be used to calculate the depreciation entitlement.
A “depreciating asset” is defined to include certain intangible assets, including “IP”, which, in turn, means the rights of an owner or licensee of a patent, design or copyright.
Patents and designs have fixed effective lives based on the length of the right. On the other hand, for most copyright (in works or otherwise), effective life must be self-assessed. To encourage the proliferation of Australian media content, more generous concessions for film copyright are available under the specific film provisions (see Div 10BA of the Income Tax Assessment Act 1936 (ITAA 1936)). These provide that the cost of copyright in an “Australian film” (which has “significant Australian content”) can be depreciated over two years.
Other intangible assets that may be depreciable include “in-house software”, rights to use international telecommunications submarine cable, spectrum licences and data-casting transmitter licences.
Trademarks, know-how, plant breeders’ rights, goodwill and confidential information are not depreciable. However, expenditure on these items may be taken into account on a disposal of the asset to offset a capital gain that may be made by a taxpayer (included in the “cost base” of the asset).
Note that the capital/revenue distinction also bears relevance to the payment of wages. The account on which the wages will fall is determined by the nature of the activities an employee is engaged to undertake. If the activities primarily relate to the development of a capital asset, expenditure incurred in respect of that employment is capital expenditure which will add to the cost of the asset/s to be depreciated. If, on the other hand, the employee’s activities are directed at earning assessable income, the expenditure incurred in remunerating that employee should be on revenue account and is likely to be deductible.
The policy behind the disparate tax treatment relates to the nature of the benefit. The capital allowance regime seeks to match the tax benefit with the benefit of the expense — an upfront deduction for capital expenditure would represent a windfall.
The categories of IP which are “depreciating assets” roughly correlate with items that are realistically likely to lose value over time. Copyright and patented material is at its most valuable when it is new and “cutting edge”. It is expected to be less valuable when nearing the end of its protected life. On the other hand, the market value of the excluded items, such as trademarks and plant breeders’ rights, normally start low then often appreciate.
The income tax regime seeks to encourage research and development (R&D) in Australia by offering favourable tax treatment for “eligible R&D activities”. These concessions comprise two accelerated rates of deduction for certain R&D expenditure.
Eligible R&D activities are:
(a) systematic, investigative and experimental activities that involve innovation or high levels of technical risk and are carried on for the purpose of:(i) acquiring new knowledge (whether or not that knowledge will have a specific practical application), or(ii) creating new and improved materials, products, devices, processes or services, or
(b) other activities that are carried on for a purpose directly related to the carrying on of activities of the kind referred to in paragraph (a).
Certain activities, such as market research, quality control and standards compliance generally do not qualify as eligible R&D activity; neither does expenditure incurred by a company in carrying on R&D activities on behalf of another.
The standard accelerated rate of deduction is 125%, which is available in respect of labour costs, and other expenditure directly incurred in respect of R&D activities (but not plant and equipment expenditure).
The accelerated rate normally only applies where the “aggregate R&D amount” exceeds $20,000. (The “aggregate R&D amount” is a wider definition than “eligible R&D activities”.)
A further accelerated deduction rate of 175% is available to the extent that expenditure is incurred above a three-year average expenditure in respect of eligible R&D activities, and the entity is either eligible for the 125% deductions or has received a Commonwealth grant.
Legislative amendments to the scheme, assented to in September 2007, make the 175% concession available when R&D is undertaken in Australia, irrespective of whether IP is itself owned by a foreign company. Previously, the 175% deduction was only available where beneficial ownership of any IP rights vested in Australian residents. Industry, Tourism and Resources Minister Ian Macfarlane suggests that this change “will give businesses a strong reason to expand their operations here. Their investment creates jobs, brings the latest technology to Australia and enhances the skills of our workforce”.
The availability of this favourable tax treatment is tightly controlled, and dependent on the approval of the Industry Research and Development Board (the Board). To be eligible for the concession, entities must register with the Board, and must submit and have an approved “R&D Plan”. This plan must be highly specific, setting out the technical, strategic and commercial objectives of the project, time lines, allocated resources, etc.
There are also several anti-abuse provisions and a “recapture” process. In particular, if the concession provisions are manipulated to manufacture unrealistic deductions, the regime allows the Commissioner to adjust an entity’s liability. Further, if the Board determines that an entity exploits the “results” of any concession expenditure other than on commercial terms, the Commissioner may regard the entity as never having been entitled to the deductions and may assess it for tax accordingly. Clawback provisions also exist where government funding is made available to an entity that has previously claimed the accelerated deductions.
In the next Report, this article continues with a discussion of the exploitation and realisation of IP, considering the impact of GST and touching on various international aspects of the taxation of IP.
The following decision illustrates the court’s wide discretionary powers in assessing additional damages for copyright infringement under s 115(4) of the Copyright Act 1968.
The applicant had agreed to participate in various paid media interviews after his children were murdered by his de facto partner. The interviews were apparently given in order to raise funds for the children’s funerals.
One such interview was with New Idea magazine in which the applicant allowed New Idea to use some of his personal photos of the children in their story. The photographs were taken by the applicant at one of his daughter’s birthday parties and appeared in an edition of New Idea published on 17 July 1999. The photos were the subject of “a limited 1 off licence”.
Some years later, on 9 April 2006, the Sunday Times published an article on their front page titled “Special Investigation: Staggering Toll of Domestic Murder Revealed” and “Victims of an Epidemic”. The article was a general item on domestic violence and the applicant’s photos were used to demonstrate the victims of such violence.
The Sunday Times sourced the pictures from the respondent’s (Nationwide News Pty Ltd) photographic archive. There were no warnings attached to the photos which would have alerted potential users to any copyright or reproduction restrictions and it is not in dispute that if the images had been marked as restricted, the Sunday Times would not have published them without first obtaining the applicant’s consent to do so. However, there was no evidence that any enquiries were made by the Sunday Times as to any publication restrictions on the photographs.
The author of the article asserted that she tried to contact the applicant prior to the article’s publication, but that a search of the electoral roll and white pages telephone directory proved fruitless.
The applicant asserted that prior to seeing the publication, he had began to recover emotionally from the tragedy. However, he suffered considerable distress after seeing the photographs again.
The applicant contacted the author of the article. There is some dispute as to what transpired during the conversation but it appears on the evidence that the applicant at least raised the issue of copyright in the pictures by indicating to the author that the Sunday Times had not sought his permission to use the photographs. It was also evident that the applicant made it clear that he was not granting permission for the photographs to be republished.
However, a week later on 16 April 2006, the Sunday Times published another story, written by the same author, titled “Jail them before they kill” which was accompanied by the applicant’s photographs. Again the applicant’s permission to use his photographs was not sought and the applicant was not warned prior to the article being published, despite the author now having the applicant’s contact details.
The applicant sought (inter alia), a declaration that the respondent had infringed his copyright by publishing the photographs, and damages for such breach, including additional damages, pursuant to s 115(4) of the Copyright Act 1968.
The respondent did not deny that if the applicant was the owner of the copyright in the photographs, it breached the applicant’s copyright by publishing the photographs, but claimed that it did so inadvertently. The respondent did deny, however, that the applicant claimed copyright in the photographs prior to publication of the articles and because of these factors, the applicant was not, pursuant to s 115(3) of the Copyright Act, entitled to damages.
The court determined that the respondent had breached the applicant’s copyright and that the respondent was incorrect in asserting that the applicant was not entitled to damages pursuant to s 115(3) of the Copyright Act.
Section 115(3) only precludes the award of damages for copyright infringement where at the time the infringement occurred, the defendant was not aware and had no reasonable grounds for suspecting, that the act constituting the infringement was an infringement of the copyright.
The court noted that whilst the evidence indicated that the respondent was not aware of the applicant’s copyright in the photographs when the first article was published on 9 April 2006, in light of the later conversation between the author of the articles and the applicant, the respondent was either aware or ought to have been aware (and therefore had reasonable grounds for suspecting) that republication of the photographs in the second article might infringe the applicant’s copyright.
In addition to damages in the amount of $250 per photo (being the amount that the Sunday Times would have paid per photograph per publication), the court awarded additional damages in the sum of $7,500. The court noted that under s 115(4) of the Act, it has the widest discretionary power to compensate for loss and damage caused by copyright infringement, including the power to award damages for hurt feelings and shock.
The court found that the infringement of the copyright was flagrant and there was a need to deter similar infringements. The respondent’s conduct was “blasè and uncaring in respect of the possible effect of the republication of the photographs upon the applicant”.
Citation: Goodall v Nationwide News Pty Ltd (No. 2) (2007) AIPC ¶92-249.
The following decision from the Federal Court emphasises that where a patent has been held to be invalid, the court will only grant a motion to amend the patent in very limited circumstances.
The respondent, Ajinomoto Co Inc, owned a patent for a high intensity sweetener composition.
In a 2005 action brought by Nutrasweet Australia Pty Ltd (the applicant in these proceedings), the respondent’s patent was held to be invalid on the ground of obviousness.
However, no revocation order was made at that time because the respondent had previously, in 2004, filed a motion to amend the patent and that motion was still outstanding. The respondent did not request that the application be dealt with at the trial, nor did it seek to defer the trial. Instead the motion was stood over, with the respondent reserving its position. The requested amendments were (inter alia) to amend the patent to bring into the specification, new and narrower claims to meet the applicant’s objections to those claims.
The applicant objected to the amendments on the basis that the amendments were not allowable under s 102 of the Patents Act 1990, because if the amendments were made, the specification would not comply with s 40 of the Act. An objection was also made on discretionary grounds in that it would be an “inappropriate exercise of the court’s discretion and a waste of court time and resources for the court to now consider the validity of the proposed fall back claims”.
The Federal Court found in favour of the applicant, and dismissed the respondent’s motion to amend.
The court noted that previous authorities have emphasised that a patentee is not entitled following a trial on validity, to bring an application to amend invalid claims, except in very limited circumstances.
The court in Sara Lee Household & Body Care U.K Ltd v Johnson Wax Ltd (2001) 17 FSR 261 for example, referred to the case of Raleigh Cycle Co. Ltd v Miller H. & Co. Ltd (1950) 67 RPC 226, where it was noted that having been put on notice that there is an attack on the validity of their patent, a patentee has to choose between (a) amending these claims and (b) continuing their action without amending while maintaining that the claims are valid. Where a patentee chooses option (b), they are disentitled from pursuing the first option, except in very special circumstances. Such circumstances may be where a patent is held to be invalid in part and the amendment is required to excise the invalid part.
It was determined that no special circumstances existed in this case however, and clearly the respondent should have brought on its application to amend so that it could be dealt with at or before the trial.
The court identified two further impediments to the respondent’s course of action in that it is inappropriate for the court to allow an amendment to a patent that has been found to be invalid and will in due course be revoked. The respondent had also indicated that it would not contest obviousness, meaning that it was seeking to add invalid claims to the patent.
Citation: Nutrasweet Australia Pty Ltd v Ajinomoto Co. Inc (No. 3) (2007) AIPC ¶92-251
The Copyright commentary in the Service from ¶16-050 onwards has been updated to incorporate the new moral rights provisions introduced by the US Free Trade Agreement Implementation Act 2004.
The following cases have also been included in the Service:
• Re Redbank Long Paddock Pty Ltd (2007) AIPC ¶92-252, a Trade Marks Office decision concerning the registrability of the trade mark “Redbank” which is the name of a wine producing area in Victoria
• Re Kuntstreetwear Pty Ltd (2007) AIPC ¶92-253, a Trade Marks Office decision concerning the registrability of the trade mark “KUNT”. The examiner had reported grounds for rejecting the application to register the mark on the basis that the mark consisted of scandalous matter as it was phonetically equivalent to an obscenity
• Cadbury Schweppes Pty Ltd v Darrell Lea Chocolate Shops Pty Ltd (2007) AIPC ¶92-254, a Full Federal Court decision whereby Cadbury, in its bid to secure the exclusive right to use a particular shade of purple, was appealing against the trial judge’s decision to exclude certain evidence adduced by Cadbury during the trial which related to consumer behaviour when purchasing chocolate
• Aristocrat Technologies Australia Pty Ltd v IGT (2007) AIPC ¶92-255, a Patents Office decision concerning an application by an opponent to a patent, to serve further evidence. The decision looks at the factors the Patents Office will take into account in determining whether or not to grant such an application
• Pierre Fabre Dermo-Cosmetique v Senator Automation Pty Limited (2007) AIPC ¶92-256, regarding an appeal against a trade mark opposition decision, on s 44 and 60 grounds, and
• Aristocrat Technologies Australia Pty Ltd v D.A.P Services (Kempsey) Pty Ltd (2007) AIPC ¶92-257, a Full Federal Court decision concerning an appeal against an assessment of damages for copyright infringement.
IP Australia has announced that it is consulting on the preferred incorporation model for patent and trade mark attorneys following discussions with peak representative organisations.
A Consultation Paper has been released, outlining the proposed model which provides for:
• individual patent attorneys to retain personal responsibility for discipline and complaints
• a Code of conduct to apply to all individual attorneys within a company, and
• an incorporated patent attorney company to have at least one director who is a registered patent attorney.Additionally, there will also be a compulsory requirement for all patent attorneys (whether they are incorporated or not) to have professional indemnity insurance.
The consultation Paper is available on IP Australia’s website. Written comments on the Paper are sought by 30 November 2007.
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