Starting January 1, 2008, Indiana-based technology companies can now take advantage of a tax exemption for revenues from patents issued after January 1, 2008. Indiana is the first state to offer this type of exemption.
The exemption applies to license fees, royalties and receipts from licensing or sale of a “qualified patent.” A “qualified patent” is US utility or plant issued after December 31, 2007, for an invention “resulting from a development process conducted in Indiana.”
Any technology-based busienss, especially software companies whose predominant revenue source is license fees, should consider seeking patent protection for their products. This could allow them to take advantage of this significant exemption from revenue.
Small businesses with fewer than 500 employees and affiliates that receive patents after 2007 may exempt up to half of the income they receive from using the patents for the first five years. The exemption tapers off in subsequent years, and expires after 10 years.
The exemption may only be claimed by the owner or seller of the patent, meaning buyers or licensees may not claim an income exemption as well. The amount of the exemption may not exceed $5 million per year.
The full text of the law is here:
Exemption for certain income derived from patents
Sec. 21.7. (a) This section applies to a qualified patent issued to a taxpayer after December 31, 2007.
(b) As used in this section, “invention” has the meaning set forth in 35 U.S.C. 100(a).
(c) As used in this section, “qualified patent” means:
(1) a utility patent issued under 35 U.S.C. 101; or
(2) a plant patent issued under 35 U.S.C. 161;
after December 31, 2007, for an invention resulting from a development process conducted in Indiana. The term does not include a design patent issued under 35 U.S.C. 171.
(d) As used in this section, “qualified taxpayer” means a taxpayer that on the effective filing date of the claimed invention:
(1) is either:
(A) an individual or corporation, if the number of employees of the individual or corporation, including affiliates as specified in 13 CFR 121.103, does not exceed five hundred (500) persons; or
(B) a nonprofit organization or nonprofit corporation asspecified in:
(i) 37 CFR 1.27(a)(3)(ii)(A) or 37 CFR 1.27(a)(3)(ii)(B); or
(ii) IC 23-17; and
(2) is domiciled in Indiana.
(e) Subject to subsections (g) and (h), in determining adjusted gross income or taxable income under IC 6-3-1-3.5 or IC 6-5.5-1-2, a qualified taxpayer is entitled to an exemption from taxation under IC 6-3-1 through IC 6-3-7 for the following:
(1) Licensing fees or other income received for the use of a qualified patent.
(2) Royalties received for the infringement of a qualified patent.
(3) Receipts from the sale of a qualified patent.
(4) Subject to subsection (f), income from the taxpayer’s own use of the taxpayer’s qualified patent to produce the claimed invention.
(f) The exemption provided by subsection (e)(4) may not exceed the fair market value of the licensing fees or other income that would be received by allowing use of the qualified taxpayer’s qualified patent by someone other than the taxpayer. The fair market value referred to in this subsection must be determined in each taxable year in which the qualified taxpayer claims an exemption under subsection (e)(4).
(g) The total amount of exemptions claimed under this section by a qualified taxpayer in a taxable year may not exceed five million dollars ($5,000,000).
(h) A taxpayer may not claim an exemption under this section with respect to a particular qualified patent for more than ten (10) taxable years. Subject to the provisions of this section, the following amount of the income, royalties, or receipts described in subsection (e) from a particular qualified patent is exempt:
(1) Fifty percent (50%) for each of the first five (5) taxable years in which the exemption is claimed for the qualified patent.
(2) Forty percent (40%) for the sixth taxable year in which the exemption is claimed for the qualified patent.
(3) Thirty percent (30%) for the seventh taxable year in which the exemption is claimed for the qualified patent.
(4) Twenty percent (20%) for the eighth taxable year in which the exemption is claimed for the qualified patent.
(5) Ten percent (10%) each year for the ninth and tenth taxable year in which the exemption is claimed for the qualified patent.
(6) No exemption under this section for the particular qualified patent after the eleventh taxable year in which the exemption is claimed for the qualified patent.
(i) To receive the exemption provided by this section, a qualified taxpayer must claim the exemption on the qualified taxpayer’s annual state tax return or returns in the manner prescribed by the department. The qualified taxpayer shall submit to the department all information that the department determines is necessary for the determination of the exemption provided by this section.
(j) On or before December 1 of each year, the department shall provide an evaluation report to the legislative council, the budget committee, and the Indiana economic development corporation. The evaluation report must contain the following:
(1) The number of taxpayers claiming an exemption under this section.
(2) The sum of all the exemptions claimed under this section.
(3) The North American Industry Classification System code for each taxpayer claiming an exemption under this section.
(4) Any other information the department considers appropriate, including the number of qualified patents for which an exemption was claimed under this section.
The report required under this subsection must be in an electronic format under IC 5-14-6.