How the Patent Box works
The Patent Box in Part 8A of the Corporation Tax Act 2010 lets a qualifying company elect to pay corporation tax at 10% on its relevant IP profits: profits earned from patented inventions and certain other qualifying IP rights it owns or holds an exclusive licence over. The lower rate is not applied directly. Instead the company claims a Patent Box deduction in its tax computation, sized so that what remains, taxed at the normal rate, produces the same bill as taxing the relevant IP profits at 10%.
Under section 357A(3) the deduction is:
Relevant IP profits × (AR − 10%) ÷ AR
AR is the applicable rate. For accounting periods beginning on or after 1 April 2023 it is the 19% small profits rate where the company's profits are charged at that rate, and the 25% main rate in every other case, including companies receiving marginal relief. HMRC's guidance at CIRD201020 confirms that the test uses profits before the Patent Box deduction.
| Profits before the deduction | Applicable rate | Deduction | Saving per £100,000 of relevant IP profits |
|---|---|---|---|
| Up to £50,000 | 19% | RP × 9/19 | £9,000 |
| £50,001 to £249,999 (marginal relief) | 25% | RP × 15/25 | Depends on how marginal relief applies to the reduced profits |
| £250,000 or more, and still at least £250,000 after the deduction | 25% | RP × 15/25 | £15,000 |
The £50,000 and £250,000 limits are divided by one plus the number of associated companies, and reduced proportionately for short accounting periods.
Working out relevant IP profits
For accounting periods beginning on or after 1 July 2021, every company uses the streaming method in section 357BF. In outline:
- Steps 1 and 2: stream the income. Split trading income, excluding finance income, into relevant IP income (sales of patented items and items containing them, licence fees, sale proceeds, infringement damages) and everything else. Divide the IP income into sub-streams by right, product or process;
- Step 3: allocate costs. Allocate trading debits to each stream on a just and reasonable basis. Finance costs and R&D additional deductions are excluded debits;
- Step 4: remove the routine return. Deduct the costs allocated to the sub-stream and a routine return of 10% of routine deductions: staff, premises, plant and machinery, capital allowances, and certain professional and miscellaneous services. The result is the qualifying residual profit;
- Step 5: remove the marketing assets return. Deduct the notional marketing royalty less any actual marketing royalty. It is nil if the actual royalty is at least the notional one, or if the difference is under 10% of the qualifying residual profit;
- Step 6: apply the R&D fraction. Multiply by (D + S1) × 1.3 ÷ (D + S1 + S2 + A), capped at 1;
- Step 7: add the sub-streams together. A positive total is relevant IP profits; a negative one is a relevant IP loss.
Small claims treatment
A company with one trade whose qualifying residual profit does not exceed the greater of £1 million and £3 million (divided by one plus the number of associated companies that have elected into the Patent Box) can elect for a small claims figure instead of working out the marketing assets return. If 75% of qualifying residual profit is below the small claims threshold (£1 million, divided by one plus the number of associated companies that have elected into the Patent Box), the figure is 25% of the sub-stream. Otherwise relevant IP profits before the R&D fraction are capped at the threshold. Where qualifying residual profit is over £1 million, the election is barred if the company used the streaming rules for an accounting period beginning in the previous four years without making it (section 357BN(3)).
The R&D fraction
In the fraction, D is qualifying expenditure on R&D done in-house, S1 is R&D subcontracted to unconnected persons, S2 is R&D subcontracted to connected persons and A is the cost of acquiring qualifying IP rights. Only in-house and unconnected work goes into the top line, with a 30% uplift. A company that developed its patent entirely itself has a fraction of 1. In HMRC's Kleenerjel example at CIRD277000, £1 million of in-house R&D and a £500,000 licence purchase give (1,000,000 × 1.3) ÷ 1,500,000, roughly 0.87.
Worked example
A company with one trade has taxable profits of £400,000 before the Patent Box. Its patented product line earns £600,000 of relevant IP income, and £350,000 of costs are allocated to it, of which £250,000 are routine deductions. It has no significant brand, and all R&D was done in-house.
| Step | Amount |
|---|---|
| Relevant IP income less allocated costs | £250,000 |
| Less routine return (10% × £250,000) | −£25,000 |
| Qualifying residual profit, R&D fraction 1 | £225,000 |
| Patent Box deduction (£225,000 × 15/25) | −£135,000 |
| Taxable profits after the deduction | £265,000 |
| Corporation tax at 25% | £66,250 |
Without the election the company would pay £100,000. The Patent Box saves £33,750, which is the same as taxing £225,000 at 10% (£22,500) and the other £175,000 at 25% (£43,750). These are the calculator's default inputs.
What this calculator does not cover
- Marginal relief. Where profits before or after the deduction fall between £50,000 and £250,000, the calculator shows the deduction but not the tax figure;
- Several sub-streams. It models one stream of relevant IP income; with more, each stream needs its own routine return, marketing assets return and R&D fraction;
- Relevant IP losses. Set-off against other streams or group companies and carry-forward are not modelled;
- Qualifying company tests. The development and active ownership conditions, and the election deadline, are assumed to be met;
- Special cases. The pre-grant profits election, cost sharing arrangements, the exceptional-circumstances R&D fraction, ring fence profits and short accounting periods.
Getting the claim right
The figures that drive a Patent Box claim are judgement calls: how income is streamed, what counts as a routine deduction, and how R&D spend is tracked to each product. Our Patent Box specialists prepare the computation and the evidence behind it, and we often review it alongside a company's R&D tax credit claim. To estimate the R&D relief on the same spend, try our R&D tax credit calculator.