Why are tax incentives so important for a country?

Countries across the world are waking up to the critical role Research and Development (R&D) tax incentives play in supporting innovation and growing economies. 

Justin Shein, Head of Global Operations at Catalyst Solutions says, “Encouraging R&D has become a core focus for many countries as they seek to enhance competitiveness, productivity, employment, and economic growth.”

Additionally, he says the COVID-19 pandemic has brought the importance of R&D into sharper focus.

“Businesses will require innovation to adapt to the ‘next normal’. Which is why a knowledge and innovation-led economy will support a faster recovery from the COVID-19 crisis, boosting the development of new products and services, improving inefficiencies, and solving new problems and challenges.”

R&D a lever for growth

The world standard definition of R&D comes from the OECD’s Frascati Manual, which describes R&D as “activities that comprise creative work undertaken on a systematic basis in order to increase the stock of knowledge, including knowledge of man, culture and society, and the use of this stock of knowledge to devise new applications.” 

Grant Thornton’s 2019  International Business Report shows that global net R&D investment expectations rose to 36% in the first half of 2019. This was up from 31% in the second half of 2018 and is the highest level on record.

Similarly,  EY’s Outlook for Global Tax Policy 2018, found 34% of countries were forecasting new or more generous R&D incentives.

Incentives critical drivers of innovation

The 2020 Global Innovation Index asserts technology and innovation are among the primary engines of a nation’s growth and economic development. 

Justin echoes these sentiments saying government tax incentives are one of the most effective ways to foster innovation as well as productivity.

Tax incentives are a vital tool for the development and  promotion of innovation, encouraging businesses of all sizes to generate new knowledge through research and development.”

Additionally, a report entitled Do tax incentives for research increase firm innovation? found incentives not only spur innovation by the firms that were its direct beneficiaries, but that it also had positive spillover effects on technologically related firms.

South Africa vs The World

A Unesco report found the leading global R&D performers are Israel and the Republic of Korea (4.6%) followed by Switzerland (3.4%), Sweden (3.3%) and Japan (3.2%). While the US R&D investment ratio to GDP is 2.8%, and the UK’s  is 1.7%. 

In an African context, despite the African Union setting a target of 1% of GDP invested on R&D,  data shows that only three Sub-Saharan African countries are close to this target: South Africa, Kenya and Senegal (around 0.8% in all three countries).

However, South Africa still compares favourably to other African countries, ranking 60 in the Global Innovation Index. Moreover, the report ranked South Africa 38th for quality of innovation and 42 for R&D. 

But, the Department of Science and Innovation has only supported about R49 billion in R&D expenditure since 2006. This is a nominal amount when compared to the country’s GDP over the same period. 

Looking forward

There’s no question the pandemic has spotlighted a need for greater emphasis on R&D in South Africa and the vital role it will play in helping to reboot South Africa’s economy.

Justin says looking forward, tax incentives will be instrumental in mitigating the economic impact of the COVID-19 pandemic. 

But, he says with most companies unaware of the various incentive programmes available from government, education is a critical first step. 

Approximately 85% of the companies Catalyst has dealt with don’t even realise that they qualify for the R&D incentive. It is therefore critical for government to create more awareness around their various tax incentives, especially as businesses try to recover from the economic shocks of the pandemic. While much is uncertain in a rapidly evolving business landscape, the message remains clear: Investing in R&D is investing in the future.”

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