Is Royalty Income passive or active?

When a company registered in Malta generates Royalty Income from Intellectual Property, it is exempt from corporate tax. How do you know if your income is active or passive?

The successful development and deployment of Intellectual Property lead to economic gain for the holder. All while offering benefits to society at large through the exploitation and utilisation of what has been created.

To encourage further development of Intellectual Property, it is crucial to protect it and offer incentives to companies that develop a concept and deploy it on the market.

In recognition of this, Malta provides very attractive fiscal incentives for companies to hold intellectual property. These incentives include patents, trademarks and copyrights through Malta Enterprise and the Malta Taxation Department.

Corporate Taxation of Intellectual Property

When a company registered in Malta generates royalty income from Intellectual Property, it is exempt from corporate tax. This exemption extends to any other IP, even if developed and held outside of the country.

Malta is a solid jurisdiction for the structuring of intellectual property holding and licensing activities. In 2010 the Maltese Government approved the ‘Exemption on Royalties derived from patents rules’ issued as subsidiary legislation under the Malta Income Tax Act (Chapter 123 of the Laws of Malta). It was revisited in 2012 when the national parliament approved amendments to the Income Tax law.

The new developments extended the scope of the royalty exemption for patents to cover income from some copyrights. They lead to the exemption of royalties derived from qualifying copyrights, including art, sound and screen production, literary and musical works. The legislation also covered copyrights that may be directly relevant to the gaming industry.

The Royalty Exemption is optional. The option exists for the taxpayer to subject the income generated to tax. For companies, the shareholder has the right to claim a refund of tax ranging between 5/7 or 6/7 of tax paid on dividends.

Determining the type of income: Passive or Active

Royalty Income can be either passive or active. The major takeaway is that Royalty Income is exempt from tax regardless of whether the income gained is Passive or Active.

If the company in question is engaged in marketing and generating income from the Intellectual Property in question, it is regarded as trading in the field, which means that the income is classified as Active. A practical example of this could be the development, marketing and promotion of a new software package.

Whether levied directly or indirectly or through the withholding tax mechanism, if the Royalty Income is subject to at least 5 percent tax, it is classified as Active royalty income.

However, Passive Royalty Income is when a company holds Intellectual Property that is not registered or being marketed or traded. When taxed at a rate of less than 5 percent in any form, Royalty Income is also regarded to be Passive in nature.