IP Strategy
The strategic foundation of the IP Strategy is this: if you already have Legacy IP in South Africa, then your South African company starts by licensing that IP to your offshore company.
However, if the offshore company licenses IP from the South African company, then the offshore company must share its revenue with the South African company in the form of license fees. On the other hand, any revenue that the offshore company earns from sale of its own IP, does not need to be shared with the South African company. This “Independent Revenue” is earned from the offshore company’s own IP/products and business operations. It will be clear therefore that the more Independent Revenue earned by the offshore company, the more it establishes its own independent value from the South African company. Strategically then, the offshore company’s goal is to decrease its commercial dependence on the South African company’s IP. The offshore company will therefore aim to earn revenue that is not attributable to the South African company IP, but rather which is attributable to the offshore company’s own IP (created by the offshore company’s own commercial functions, contributed investment and for which the offshore company assumed the risks).
The underlying principle of the IP Strategy is that the offshore company can claim ownership and revenue attributable to products, services and know-how (and any other “IP”) which it builds if:
- it performs the “significant functions”, including new product conceptualization, governance processes for risk management, control of the development process and sales/business development functions,
- it can show that it independently provided the funding for the development process as well as the resources required to manage, control and commercially exploit the IP, and
- it bears the essential commercial risks of success or failure of the IP, and manages those risks.
So, our focus is to help to you show that your Offshore Company holds and performs those significant functions.
The international tax “code” (i.e. the OECD Guidelines) describe these as DEMPE functions (development, enhancement, maintenance, protection and exploitation) but we prefer to present this using plain language and following the actual creative and development process of a typical High Growth Client.
IP Strategy Flow
This proposes a practical structure for developing an IP Strategy. Successful implementation is achieved by establishing the “practical” process, function and human resource described for each phase. Below are the typical functions we’d expect the offshore company to perform (and to be able to show that it performed).
Beware of the Risks
The beauty of this IP strategy is that it is extremely simple in concept. The activities, functions and decisions required to be made by an offshore company (in order to claim IP ownership from scratch) are clear. However, it is crucial that you authentically and transparently implement your IP strategy. It must be possible for the South African Reserve Bank and the South African Revenue Services to verify that the importance activities, functions and decisions are indeed made by the offshore company claiming ownership.
In a South African context, Exchange Controls require any export of capital to be approved by the South African Reserve Bank. If the offshore company can’t adequately demonstrate that it performs these functions, then the parties may be seen as colluding to export a capital asset (the IP) out of South Africa, infringing Exchange Controls and attracting criminal penalties. In addition, the profit earned from commercialization of the IP developed in South Africa could be taxed in South Africa; and the tax authority in the offshore jurisdiction may not give up its taxing rights, resulting in double taxation (subject to double taxation agreements between SA and that country.)
Complexity Warning
Creating an offshore structure requires your group to be very clear on the taxation challenges, and the practical requirement of real human beings performing real activities, functions and decisions in the offshore company’s chosen jurisdiction. These “substance” requirements are the condition for the offshore company to be a tax resident of this chosen offshore jurisdiction (effective management, amongst other requirements). Even if it is a tax resident in that jurisdiction, the offshore company must also show that it has an authentic business establishment (employees, equipment and premises) if it is to practically to earn and retain profit in the offshore jurisdiction (here we are referencing the controlled foreign company legislation South Africa). The offshore company must also take care not to employ South African residents directly, as this could create a permanent establishment and a possible taxation obligation in South Africa as a consequence. There are a number of other related considerations which need to be addressed through clear governance, operational and infrastructure organization in the offshore company’s jurisdiction of choice. Please do reach out to the Dommisse Attorneys team if guidance is required in this regard.
Not Advice
Beware, on its own, this IP Strategy is not legal advice, tax advice or financial advice and every user should take care to seek their own advice before applying the principles described here. By using this website you acknowledge that you have no rights or claims against (and you waive all rights or claims against) the team of entities that created it (including the SA SME Fund, Dommisse Attorneys Inc., SAVCA or any other contributing party).Feel free to reach out to Dommisse Attorneys for guidance.
