The AAT has upheld the Commissioner’s decision to reduce a taxpayer’s claim for the research and development (R&D) tax offset because the latter could not prove that the disputed expenditure was incurred.
The taxpayer was incorporated in 2006. It registered its R&D project for the 2006/07 income tax year with AusIndustry. The R&D activities involved manufacturing a children’s multi-layered “stacker” toy using an experimental and novel injection moulding process. The taxpayer claimed expenditure that included fees for personal services by a director, prototype costs, consultancy fees and travel expenses.
In 2007, the taxpayer paid Intellec Development Group Pty Ltd (Intellec) to provide it with design and tooling services in relation to the development of the toy. In 2009, the taxpayer negotiated with Intellec to purchase its assets in return for cash and shares in the taxpayer. Intellec repudiated its agreement in 2010. As a result, the taxpayer’s personnel were locked out of its business premises and it lost access to its documents and records.
The taxpayer claimed an R&D tax offset of $369,999 in its tax return for the 2007 income year. Following an ATO audit, the Commissioner issued a notice under s 73IA(1) of ITAA 1936, reducing the amount of the offset to $24,916. A shortfall penalty of $172,541 for “recklessness” was also imposed.
The taxpayer sought a review by the AAT of the Commissioner’s R&D objection decision and a review of the penalty objection decision. The main issue for consideration was whether the disputed expenditure was “research and development expenditure” for the purposes of former s 73B(1) and (14) of the ITAA 1936.
The AAT upheld the objection decision. It agreed with the Commissioner that the taxpayer had not produced adequate records and documentary evidence to demonstrate that the disputed expenditure was incurred by it in the 2007 year, directly in respect of its R&D activities. The AAT said evidence that one of the directors had maintained a detailed diary and a logbook in 2007 in relation to the development of the toy did not assist the taxpayer to substantiate the claims.
The AAT also observed that, even if they had been substantiated, some of the expenses claimed were clearly excluded from being eligible R&D expenditure, including the travel and marketing expenses. It decided to partly remit the administrative penalty for reasons that included the evidence about the director’s record-keeping practices.
AAT ref:  AATA 156 (C Walsh, Senior Member), 20 March 2014, Perth.