Indicators of R&D Tax Support
Investment in research and development (R&D) is a key driver of innovation and economic growth. In addition to funding R&D within public institutes or universities, governments within the Organisation for Economic Co-operation and Development (OECD) and beyond actively incentivize R&D by private companies, which conduct the largest share of R&D in the OECD area.
Evidence shows that tax incentives have become an increasingly popular instrument to promote business R&D investment, displacing direct funding such as grants and public procurement. In 2017, 30 out of 35 OECD countries gave preferential tax treatment to business R&D, up from 16 OECD countries in 2000. Other major governments such as Brazil, China, and the Russian Federation also provide R&D tax incentives.
OECD monitors how the design of R&D tax incentives may influence business decisions to increase R&D efforts or move R&D activities into a given country. Because each country has its own distinctive tax system and relief provisions, OECD analysis converts each tax structure into a comparable R&D tax subsidy indicator that can be analyzed alongside the resulting cost to the government.
The OECD R&D tax incentive indicators show the estimated cost of providing R&D tax support to businesses. This is a combination of foregone tax revenues and, in some cases, payable subsidies when companies do not have sufficiently large tax liabilities to benefit from earned allowances or credits.
Despite the growing literature on the impact of different forms of support for business R&D, there is no simple, widely applicable answer to the question of what are the right volume of total support and the appropriate mix of tax and direct support within countries. Tax incentives are not equally beneficial to all types of R&D performers. The impact of tax incentives may depend on the nature and structure of a country’s innovation system, as well as current conditions such as the business cycle. Indicators such as those presented in this report help provide an illustrative benchmark against which countries can compare themselves and bring about relevant dimensions that raise follow-on questions and avenues for analysis.
All of the data cited here are from the OECD R&D Tax Incentive database. Much more detailed data and analysis on the incidence and impact of tax incentives as business innovation policy tools are available on the OECD Science, Technology, and Innovation website on R&D tax incentives at http://oe.cd/rdtax.
By adding tax support to direct government research spending, it is possible to provide a more complete picture of the full extent of government support for business R&D across OECD, EU, and other major economies. In 2015, the Russian Federation, Belgium, France, Korea, and Hungary provided the most combined support for business R&D as a percentage of gross domestic product (GDP). The average rate of tax support in the OECD area—including countries that do not provide this type of support—is close to 0.09% of GDP. Tax support accounts for 5.4% of business R&D (BERD) in the OECD area.
Whereas direct support is by and large determined by government officials, the share of R&D tax support accounted for by small and medium-sized enterprises (SMEs) tends to be more closely aligned with the SME share in BERD, confirming that tax incentives are generally a more demand-driven instrument than direct government support. The SME share in tax support exceeds the share of direct funding in countries such as Austria, Canada, France, the Netherlands, Norway, and the United Kingdom, which offer refundable R&D tax incentives that target smaller R&D performers.
The relative importance of tax incentives is increasing among a majority of countries for which data are available. The United States makes relatively limited use of tax incentives, but use has increased slightly. Canada, which had been making extensive use of tax incentives, shifted its emphasis somewhat toward direct support. Mexico abolished its R&D tax credit during this period but reintroduced it in 2017. Germany and Switzerland, two countries with high business R&D intensity despite not offering tax incentives, are considering introducing tax relief for R&D.
Between 2000 and 2017, implied marginal tax subsidy rates for R&D increased significantly in the OECD area for both SMEs and large firms, regardless of their profit situation. Tax subsidy rates are measured as the difference between one unit of investment in R&D and the pre-tax income required to break even (B-index). They increased on average from approximately 0.06 to 0.17 in the case of profitable SMEs (0.04 to 0.15 for loss-making SMEs), and from approximately 0.04 to 0.14 in the case of large profitable firms (0.03 to 0.12 for large loss-making firms). Throughout this period, SMEs faced on average a higher marginal tax subsidy rate than large firms, comparing either profit-making or loss-making firms.
An indicator of the relationship between government support for R&D and business R&D performance shows that changes in total measured government support appear to explain around one tenth of the observed variation in BERD intensity. Changes in R&D tax support alone explain nearly 6% of the observed variation in the data.
These descriptive indicators raise research policy questions about how to measure the causal effects of support and improve the efficiency of existing instruments. They also call for better measurement of other forms of indirect support business R&D and innovation that still go unaccounted for.
Fernando Galindo-Rueda is a senior economist and Silvia Appelt is an economist in the Economic Analysis and Statistics Division of the OECD Directorate for Science, Technology, and Innovation. Ana González-Cabral is a junior economist at the OECD Directorate for Science, Technology, and Innovation and the OECD Centre for Tax Policy and Administration.