Germany: innovation incentives overview

1. Research Allowance Act “Forschungszulagengesetz (FZulG)”
   1. Provides tax incentives
   2. Goal is to incentivise research activities for companies located in Germany
   3. Tax-free allowances within the scope of tax assessment
       
2. Horizon Europe
   1. Incentives programme for Research and Innovation
   2. Grants
       
3. Central SME Innovation Programme “Zentrales Innovationsprogramm Mittelstand (ZIM)”
   1. Funding programme for SMEs and research establishments co-operating with them
   2. Open to all technologies and sectors
   3. Grants

Research Allowance Act – FZulG.

All companies subject to unlimited or limited corporation tax or income tax, or their shareholders, are eligible for a ‘tax-free’ non-repayable grant of 25% (SMEs: 35%) of eligible research costs, in particular for staffing, and 15–17.5% of contract costs, in order to support innovation in Germany as an investment location.

The entitlement for the research allowance arises at the end of the fiscal year in which the eligible expenses were received by the employee, or the eligible expenses were incurred by the beneficiary.

• All companies subject to unlimited or limited corporate tax or income tax or their shareholders are eligible.
• Companies in financial difficulties as defined in Article 1(4)(c) and Article 2(18) of the AGVO are excluded.
• The research allowance is also granted to companies that contract with a third party which performs the research.
• Companies of any size (regardless the sector) which are subject to taxation in Germany can apply for the R&D tax incentive.
• Research activities which were started after 1 January 2020 are eligible.

Relevant R&D projects are Basic & applied research, Experimental development (guidance: OECD's Frascati Manual).

In general, the beneficiary R&D activities can be determined by the following five criteria (all 5 criteria must be fulfilled):

1. The R&D project should aim to gain new knowledge (the activity should be novel/innovative).
2. The R&D project must be based on primary, non-obvious concepts and hypotheses (the activity should be creative).
3. The activity should be uncertain in terms of the final result.
4. The R&D project must follow a plan and be budgeted (systematic).
5. The R&D project must lead to results that can be reproduced (the activity should be transferable and/or reproducible).

Do the R&D activities have to be performed within the country to qualify? If not, is there a distinction made between the country where the claimant company is resident, EU countries, and non-EU countries?

• As the law does not differentiate between unrestricted and restricted tax liability, foreign companies with domestic non-tax-exempt profit income are also entitled if they fulfil the other requirements of the FZulG.
• If a company commissions contract research, the client is only entitled to claim the research allowance if the research contractor has its registered office in an EU member state or in a state of the European Economic Area.
• If the R&D project is carried out as a cooperation, the cooperating company does not have to be liable for taxation itself or be eligible for benefit. It can also be a tax-exempt company – even one that is based in a third country. However, the subsidy is limited to the part of the R&D expenses incurred by the eligible company. 

Does the tax authority have to review the resultant developments to allow a deduction or credit?

Yes, the assessment of subsidy is performed by the certifying body and the responsible tax authority.

They review the information provided in the application and determine the research allowance a so-called research allowance notice, if all requirements are met.

Eligible expenses are:

• Salaries and wages of employees allocated to the certain R&D project and are subject to wage tax deduction
• Wages that are not subject to wage tax deduction due to a DTA with an EU/EEA country or Switzerland
• Expenses paid by the employer for securing the future of the employee (social security contributions)
• Own work/contribution of an individual entrepreneur
• Costs for contract research

A further pro rata refund of annual depreciation is possible for depreciable movable fixed assets that are used directly for a research and development project and were acquired/manufactured after 27 March 2024.

Are the incentives temporary or permanent?

Permanent, as long as the legislator does not amend or terminate the research allowance law.

The period for which an R&D project is eligible for funding is not limited generally but rather is based on the duration of the beneficiary R&D project.

How is the benefit obtained?

The benefit is obtained by a reduction in corporation or income tax. The research allowance is credited against the assessed tax amount/next income tax liability of the beneficiary.

If the R&D subsidy is higher than the tax assessed in the next annual tax declaration, the subsidy is paid out as an income tax or corporate income tax refund.

Are the incentives incremental in nature or volume-based?

See limitations section below.

The application represents a two-step procedure:

1.      Submitting an application to the certification authority (BSFZ)

• A certificate must be applied for stating that the project is an eligible R&D project to receive the research allowance – substantive review. 

2.      The application for the R&D allowance is submitted in a separate application to the tax office:

• Submitting the certificate from the BSFZ and all documentation of eligible expenses to the responsible tax office.
• Application via an electronic application form on the "My ELSTER" online portal and is then checked in detail by the tax office.

Is there a cap on the maximum level of benefit that can be received per year, per company, or for all the qualifying taxpayers together?

• The maximum research allowance is 25% (35% for SMEs from 28 March 2024) of the assessment base.
• The assessment base is the eligible expenses of the beneficiary incurred in the fiscal year.
• For eligible expenses incurred by the beneficiary after 1 January 2020 and before 1 July 2020, the annual assessment base is limited to €2 million, i.e. a maximum possible research allowance of €500,000 per year.
• For eligible expenses incurred after 30 June 2020 and before 28 March 2024, the assessment base is a maximum of €4 million (i.e. a maximum possible research allowance of €1 million per year).
• For expenses incurred after 27 March 2024, the assessment basis is up to €10 million, i.e. a maximum of €2.5 million (SME: €3.5 million) research grant per year.
• In case the research is done by a third party, 60% (from 28 March 2024: 70%) of the remuneration paid by the client to the contractor is considered as eligible expenditure.
• It should also be noted that the total amount of state aid granted for a research and development project, including research allowances under this Act, may not exceed €15 million per company and research and development project.

Are tax credits refundable?

If the research allowance approval is cancelled or amended, the credit made must be adjusted. If the amendment of a research allowance approval notice and the resulting change in the crediting of the research allowance leads to an additional claim for income or corporation tax, this claim must be paid within one month of the tax assessment notice.

Anyone who unlawfully obtains the research allowance by providing incomplete information is liable to prosecution.

Can surplus incentives be carried back or forward and used in years other than the origination years?

No, the research allowance is credited against the tax assessed when income or corporation tax is first assessed following the research allowance notice. As a result, the credit against the assessed tax amount results in a reduction of or is paid out if the amount exceeds the tax payable.

Are there any other types of limitations?

The sum of granted subsidies including research allowances shall not exceed the amount of €15 million per company and research and development project.

Are the R&D costs deductible when deriving taxable income? Are costs required to be capitalized for tax purposes?

As a part of the next tax assessment, the research allowance is deducted from the assessed tax amount.