What more is needed to spur innovation in Singapore SMEs?

Refining the existing IDI and R&D cash incentives can be a way to "reward" SMEs for the success of their R&D commercialisation efforts and continuous investment in R&D.

ACCORDING to the 2016 national R&D survey by A*Star, the average total sales revenue from commercialised products and processes attributed to research and development in Singapore per company grew by about 19 per cent over the preceding five years.

A closer look at the survey reveals that this growth rate was unevenly distributed amongst the various types of businesses. Growth in R&D in local large enterprises and foreign companies grew by 25 per cent and 30 per cent respectively, while a decline of more than 19 per cent was seen in small and medium-sized enterprises (SMEs). Local SMEs had also reduced their R&D expenditure from 8.1 per cent of total sales revenue to 7.5 per cent over the same period of time.

R&D - a key pillar of innovation - is key to unlocking productivity and sustained growth in the economy. Spurring innovation among Singapore SMEs, which employ about 65 per cent of Singapore's workforce and make up 99 per cent of all our enterprises, will be one of the key enablers in the transformation of the Singapore economy.

SMEs and startups in Singapore have no shortage of government-backed incentives and initiatives to entice them to jump onto the innovation bandwagon. These include the Startup SG programme, the Productivity Solutions Grant and the Enterprise Development Grant. These initiatives are meant to help SMEs with capability development and financing. These are useful, well-received and should be maintained.

Also, there is an existing broad-based R&D incentive scheme that provides all eligible taxpayers with enhanced tax deductions for qualifying expenditure incurred on qualifying R&D activities in Singapore. However, SMEs in a non-tax paying position have been slow to take up the current R&D incentive scheme as they are primarily focused on cash savings, rather than tax savings.

It would appeal to the SMEs if the existing R&D incentive scheme was to be modified, so that local SME claimants can have the option to convert qualifying R&D deductions into a non-taxable cash benefit at, for example, 40 per cent of the eligible R&D expenditure. To ensure the scheme is targeted at small companies, this cash benefit could potentially be capped annually and limited to SMEs.

Such R&D cash incentives can be very effective in partially offsetting the financial risk hurdles, especially for early-stage R&D projects. It provides that additional and consistent cash flow runway for businesses to iterate their new products and solutions, which may need more time to reach commercialisation potential. Overseas jurisdictions such as Australia have adopted this similar cashback features in their R&D regime.

Rewarding success and continuous R&D

Beyond these tried-and-tested approaches, can the government further catalyse growth in SMEs by "rewarding" them for the success of their R&D commercialisation efforts and continuous investment in R&D? After all, nothing succeeds like success.

The IP Development Incentive (IDI) announced during Budget 2017 was a nod in this direction. The IDI aims to encourage the use and commercialisation of intellectual property rights arising from R&D activities.

Qualifying companies can enjoy concessionary tax rates on income derived from qualifying intellectual properties (IP) such as patents and copyrighted software. The incentive is targeted at IP developed or are being developed locally in Singapore, instead of acquired IP.

Under the IDI, there are a couple of salient features that make it highly suitable for catalysing the growth of IP development and commercialisation in Singapore. First, the tax benefits of the IDI incentive would increase proportionately to the R&D activities carried out in Singapore, measured through expenses paid for R&D activities in Singapore; second, the concessionary tax rate feature encourages businesses to accelerate the successful commercialisation of these Singapore-generated IP and generate a business profit.

Consistent with other discretionary incentives such as the Development Expansion Incentive (DEI), to be awarded the IDI, companies need to be prepared to make sizeable economic investments such as additional skilled jobs, and SMEs may not be in a position to do so. The government can consider liberalising the IDI award and making it accessible to companies both big and small. This ensures that size does not matter in seeking to be rewarded for innovation; only actual commercialisation successes matter.

In addition, as Singapore looks to tap the opportunities in the digital economy, the government can leverage the IDI to promote software-based and digital IP creation and commercialisation among our local companies, which in turn will help them to access the regional marketplace virtually.

To achieve this objective, the authorities will need to relook the interpretation and assessment of qualifying software R&D for purposes of the R&D tax deduction as it affects the proportion of the IDI tax benefits available to businesses. The current strict interpretation of software R&D definition could limit the ability to enjoy the benefits of the IDI and, more importantly, curtail Singapore businesses in reimagining their business model through software and digital innovation.

Undisputedly, SMEs are core to business ecosystems and their ability to grow and punch above their weight through innovation will shape the future competitiveness of Singapore's economy. While other barriers to innovation may exist, refining the existing IDI and R&D cash incentives are low-hanging fruits that can be harvested quickly - perhaps at this year's Budget announcement.

  • The writers are Chai Wai Fook, partner, Tax Services and Johanes Candra, director, Business Incentives Advisory. Both are from Ernst & Young Solutions LLP.
  • The views reflected in this article are the views of the authors and do not necessarily reflect the views of the global EY organisation or its member firms.