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The Business Times

Boosters for S'pore's R&D nursery

A fiscal regime with fewer restrictions and a supportive financial environment would encourage higher investment

TECHNOLOGICAL pro- gress will be crucial in determining the competitiveness of Singapore firms, nationally as well as internationally. Hence investments in research and development (R&D) should help Singapore businesses to develop new products, improve productivity and succeed in competitive markets.

At the launch of the Agency for Science, Technology and Research's (A*Star) 20th anniversary commemorative publication last Nov 29, Prime Minister Lee Hsien Loong also emphasised the need for Singapore to continue pursuing R&D in order to stay ahead of the competition. He said the Republic should aim to spend 3.5 per cent of its annual gross domestic product on R&D by 2015. While the private sector currently accounts for about 60 per cent of national R&D spending, Mr Lee felt it could do more.

Obviously, for the private sector to do more, it needs a fiscal regime with fewer restrictions and a supportive financial environment that encourages R&D investors to invest more.

There are several fiscal options to enhance R&D activity:

* To increase investment in R&D from private sector players, the government needs to continue providing fiscal support with minimal restrictions. This will encourage private sector firms to invest in R&D projects, whether performed in-house or outsourced. Unfortunately, Singapore's current tax system has the effect of indirectly penalising R&D investors if R&D performed to kick-start their new businesses is not successful.

For example, if the R&D project of a new start-up fails, the investor is not allowed to claim a tax deduction and carry forward the expenses for offset against its future business income. Similar restrictions also apply to R&D failures suffered by existing companies which are forced to outsource R&D work related to new businesses outside Singapore (since relevant research capabilities or facilities may not exist in Singapore).

Given the inherent risk of failure associated with all R&D projects, these restrictions discourage Singapore-based R&D investors from making their R&D investments under certain circumstances. In the interest of supporting entrepreneurship and encouraging more R&D investments, necessary fiscal changes should be made to liberalise the existing tax system.

* While the existing tax relief for claiming enhanced deductions (of 150 per cent) for qualifying R&D costs (only consumables and staff costs) should be retained, the categories of qualifying R&D expenditure should be widened to include other costs such as utilities, rentals, professional and licence fees, etc, incurred in undertaking R&D in Singapore.

Also, the level of relief should be raised to 200 per cent for qualifying SMEs (as in the United Kingdom) and the claim process simplified. Currently, companies are required to submit an R&D claim form along with their tax returns. Further, where they incur $150,000 or more net of government grants or subsidies on R&D projects, they are required to provide detailed project descriptions using IRAS guidelines.

* Most businesses have traditionally developed their research capabilities in-house. But SMEs and new start- ups are fast realising the need to de-risk themselves and therefore take advantage of collaborating on R&D projects with other organisations, such as public research institutes. This may be achieved by either fully outsourcing the R&D work or by entering into R&D cost-sharing agreements with public research institutes. Such collaborations, in effect, will help to attain Singapore's policy objectives of creating more public-private R&D partnerships.

To encourage the outsourcing of R&D work to approved public research institutes or R&D organisations in Singapore, the current tax system should be suitably modified to allow an enhanced tax deduction (such as 200 per cent) to be claimed automatically for costs incurred by private firms on R&D projects outsourced to such institutes or organisations. Also, the current need for submitting a breakdown of expenses incurred by an R&D service provider should be scrapped - more so, if the list of qualifying R&D expenditure as mentioned above is widened.

Likewise, private firms which are currently entitled to a 100 per cent deduction should be allowed to claim an enhanced tax deduction of 150 per cent (and also enjoy the benefits prescribed under the Productivity and Innovation Credit scheme) when they collaborate with approved public research institutes under an R&D cost- sharing agreement, particularly where the R&D activities are undertaken in Singapore.

There are various options to encourage R&D funding:

* Inadequate access to external finance (debt or equity) at a reasonable cost is a common problem for SMEs and notably for small and newly established companies. The problem is even more acute for R&D financing because of the risks involved. As a result, many potential investors and entrepreneurs avoid R&D investments, even in those R&D projects with favourable risk-return profiles, as they are unable to obtain external financing.

Given this inherent funding limitation, it may be worthwhile for Singapore to consider introducing loan and equity guarantee schemes specifically designed to support prospective R&D investors.

Loan guarantee schemes enable the specified risks (for example, risk of a project failure) to be transferred to the guarantors (for example, a government agency). Lenders (for example, banks) would therefore be more willing to provide loans as the risk is effectively hedged out. For borrowers, the guarantees secure finance which would not have been possible otherwise, or which would have been received under less favourable conditions. Borrowers could pay the guarantors a risk-adjusted guarantee fee to defray potential losses.

Likewise, an equity guarantee scheme spreads some of the risks of failure (loss risks) associated with equity investments. This scheme could be used to support the equity financing of new technology-based and entrepreneurial start-up companies by business angels. The guarantor (for example, a government agency) would bear the loss risk in exchange for a guarantee fee, while the business angels would be protected against the high risk of financing these start-up companies. For start- ups, this scheme would enable them to have additional capital to invest in innovative and creative R&D projects.

Under such schemes, the government basically would undertake to share the funding risk associated with R&D projects, thus reducing the exposure of borrowers/investors and companies. This would be an attractive means of increasing the availability of capital and reducing access costs, while potentially exerting leverage on private investment in R&D at a lower cost than direct or fiscal measures.

Singapore's long-term aim is to be one of the most research-intensive, innovative and entrepreneurial economies in the world. The creation of a platform for high-value jobs and prosperity for Singaporeans is closely tied to this aim. Some of these suggestions might be appropriately combined to stimulate private sector R&D. In doing so, this could transform Singapore into a vibrant R&D hub that contributes towards a knowledge-intensive, innovative and entrepreneurial economy, and eventually make Singapore a talent magnet for scientific and innovation excellence.

The writers are tax partner and tax manager respectively at PricewaterhouseCoopers Services LLP Singapore

Going higher-tech is the name of the game: A more research-friendly environment could transform Singapore into a vibrant R&D hub that contributes towards a knowledge-intensive, innovative and entrepreneurial economy, and eventually make Singapore a talent magnet for scientific and innovation excellence

Abhijit Ghosh and Anson Ws Lim