Advantage Australia

I was there when John Newcombe, slightly past his prime, defended Australia’s honour on the Kooyong grass against an American upstart. Jimmy Connors grimaced and grunted ... swinging his metal racket - how vulgar!

Newcombe had the Australian grasscourt style from central casting. A great first serve, the best second serve there was, and a first volley to die for - and for opponents to dive for. Connors was best on the latest thing - synthetic hardcourt - to which the US Open would soon switch.

A decade later, Australian officialdom had one of those out-of-body experiences in which, in striving for us to become “world class”, it somehow fails to notice that we already are. It then confuses modernisation with slavishly imitating others and so sabotages our own interests. In moving to a bigger, shinier venue, we replaced those fusty, high-maintenance grass courts with ... synthetic hardcourt.

We’ve never won our own Open since.

I shared this story with other panel members on the Innovation Review which has just proposed changes to the R&D tax concession. The current concession works by entitling firms to deduct more than 100 per cent of their R&D spending. This lowers their taxable income.

But the assistance it provides is inefficient, capricious and tilts the playing field invidiously.

First, it appears “below the line” in company accounts. So it’s often invisible to company decision makers.

Second, its after tax value falls with corporate tax rate reductions. Its after tax value began at 24.5 cents per dollar spent on R&D in 1985. But falling corporate tax rates and halving of the rate of concessionality - from 150 to 125 per cent - mean it’s now worth only 7.5 cents.

With R&D suddenly plunging after more than quadrupling its share of GDP from 1982 to 1996, the Howard Government refused to acknowledge its mistake and restore 150 per cent deductability. Instead, like a development aid donor funding brand new projects while past projects slowly rot, it introduced a plethora of new schemes alongside the now eviscerated concession. As the Innovation Review heard, the current system is underpowered and overcomplicated.

And, like the switch from Kooyong’s grass, the tax concession tilts the playing field against the players we most want to win. Startup firms are particularly innovative and, being cash strapped, are most likely to channel assistance into additional R&D.

But you can’t pay less tax than zero. And startups can take eight years or so to turn a profit and pay tax - particularly in biotech. All that paperwork for 7.5 cents in the dollar paid eight years later! And many startups fail, and so never access the concession.

In fact one of the Howard Government’s new R&D schemes - the R&D Tax Offset - enables tax loss firms to cash in the concession. But to contain costs it was withdrawn once firms’ turnover rose above $5 million or their R&D spending broke $1 million.

The Innovation Review proposes refashioning the concession as a tax credit. This brings it “above the line” for accounting purposes, improving its visibility to company decision makers and protecting the incentive from dilution from any future company tax reductions (which we strongly supported).

For all Australian firms with a turnover of under $50 million, we proposed a 50 per cent refundable tax credit. For each dollar they spend on R&D, firms would get 50 cents from the government. But they’d lose the ability to deduct their R&D spending from their profits. So profitable firms would keep 20 of the cents - up from 7.5 cents today. But at current corporate tax rates of 30 per cent, the other 30 cents in each R&D dollar spent would be returned because - being unable to deduct their R&D - their profits would be one dollar higher.

But here’s the thing. Because the tax credit is refundable, instead of having to wait for their money, tax loss firms would be given extra money until they become profitable. The 50 cents goes straight to their bottom line. As with profitable firms, 20 cents is theirs to keep. But the loss of deductability only hurts them after they become profitable. So they keep the additional 30 cents until then. In place of the firm giving the government an interest free loan until it becomes profitable, under our proposal, it gets one.

This neat policy detail tips the playing field back towards the most innovative firms.

Next stop, a grasscourt on Rod Laver Arena.