In response to the Income Tax Earnings and Pensions Act 2003 (Schedule 22), which introduced changes designed to close tax loopholes, Gordon Brown in his pre-Budget report announced that, in valuing a shareholding acquired by an academic in a spin-out company, any value attributed to the intellectual property transferred to the company by the university will be disregarded.
This means that if a spin-out company is set up before outside funding is required, the shareholding is generally likely to have little or no value. However, if the company is set up in order to access such funding, disregarding the value of the intellectual property does not necessarily mean the shareholding will have little or no value. The concern remains among the academic community that academics will, in spite of the announced changes, still suffer a tax charge in cases where spin-out companies are set up primarily to access funding from venture capitalists or other outside funders that would not otherwise be available. And this in turn looks likely to affect university spin-out activity.
Universities can exploit their intellectual property in a number of ways. These include licensing the intellectual property in return for a royalty, selling the intellectual property for a cash sum and transferring the intellectual property to a company (a spin-out company) in which the university takes a shareholding.
Academics often have revenue-sharing arrangements with universities whereby they are entitled to a share in the revenue generated from the exploitation of intellectual property which they have helped to create. Generally, academics will be taxed on what they receive. Where they receive their share in the form of cash that will not be a problem because they will have the funds to meet the tax liability. However, where they receive their share in the form of a shareholding in a spin-out company, they will have to meet the tax liability from other resources, which may be a problem because they many not have any other funds, and, at the time they acquire the shareholding, they will not have agreed its value with the Inland Revenue. In many cases, this has proved to be such a deterrent to academics that universities have found it difficult to persuade them to become involved in spin-out companies. And this has had a detrimental effect on the exploitation of university intellectual property – for more commentary see EVCJ September 2004, page 4.
Jeremy Smith, partner at Dickinson Dees commented: “We welcome the Government’s attempts to ameliorate the tax treatment for academics acquiring shares in spinout companies. However, we remain concerned that academics will, notwithstanding the announced changes, still suffer a tax charge in cases where spinout companies are set up primarily to access funding from venture capitalists or other outside funders that would not otherwise be available. At best, the changes will mean that spin-out companies will need to be established earlier than universities or academics would otherwise require. At worst, the new tax rules will continue to provide a deterrent to the establishment of spin-out companies, particularly if the Inland Revenue continues to refuse to allow academics to agree share valuations at the time the spin-out company is established.”