Polish defence industry: tax aspects of investments in new software development facilities

It is often said how important it is, from the perspective of national security, to invest in the domestic defence industry. But is Poland truly an attractive location for businesses operating in this sector? To assess what our country offers defence companies, it is worth examining the tax incentives designed to encourage entrepreneurs to launch new projects, particularly those involving the development of new technological solutions.

In the current environment, it is difficult to manufacture advanced weaponry without equipping it with dedicated system software. Military operating systems are therefore increasingly being developed and enhanced by specialised teams of architects and software developers who use their expertise to address the needs of the modern battlefield. However, achieving the best business outcomes requires not only knowledge of information technology and modern military science, but also an understanding of taxation.

In this article, when discussing the tax aspects of investing in new software projects, we will use the example of software developed for loitering munitions.

Let us assume that the manufacturer of such a hypothetical weapon is working on the development of a long-range loitering munition capable of following a pre-programmed flight path and, during the final phase of its mission, operating with a significant degree of autonomy in target identification. The system consists of a powered munition, a communications module that can be selected depending on the mission type, and software used for navigation and autonomous target recognition during the final stage of flight. In the first phase of the project, the software will be designed to carry out search and destroy (S&D) missions. In the second phase, the software is intended to enable more complex missions conducted in cooperation with other systems.

To develop this software (and its subsequent versions), the manufacturer plans to construct a modern facility in which all related work will be carried out. This will be a greenfield investment involving the construction of a new building on land already owned by the company, adjacent to its existing facilities. All software development activities will take place in this facility, including software testing performed in a virtually and electromagnetically simulated battlefield environment.

What tax support is available for the construction of a facility for R&D activities and software testing?

In the case of constructing a new facility where research activities and software testing will be conducted, the project may benefit from support for new investments available under the Polish Investment Zone. Such support takes the form of an exemption from income tax on income generated by the completed investment, proportionate to the amount of eligible expenditure incurred.

The concept of a new investment is defined in the Act of 10 May 2018 on support for new investments. A new investment includes, among other things, an investment in tangible fixed assets or intangible assets related to the diversification of production at an existing establishment. This means that the completed investment must enable the company to introduce a product that it has not previously produced. The investment described in the example would indeed make it possible to develop a component for a new type of munition. In other words, this investment meets the definition of a new investment under the public aid regulations. It is also worth noting that, pursuant to Article 2(1) of the Regulation of the Council of Ministers of 27 December 2022 on public aid granted to certain entrepreneurs for the implementation of new investments, a support decision may be issued, among others, for activities classified under the Polish Classification of Goods and Services (PKWiU) 58.29, namely services related to the publishing of other software.

The preferences and public support available for investments related to the development of new software do not end there. Pursuant to section 4(5) of the aforementioned Regulation, all eligible costs of a new investment relating to services connected with the publishing of other software that an entrepreneur is required to incur in order to obtain investment support are reduced by 95% compared to the standard threshold amount. This applies to the thresholds established for large and medium-sized enterprises and, compared to other business activities, represents a significant facilitation in obtaining support. For example, in the case of an investor qualifying as a large enterprise, the criterion for obtaining support would generally require investment expenditure of PLN 100 million. However, for an investment in a software development centre, the required minimum investment value amounts to PLN 5 million.

At the same time, taking advantage of the above preferences may involve certain challenges. In practice, greenfield investments undertaken within an existing enterprise often create difficulties in separating expenditure attributable to the investment itself. For such expenditure to qualify, it must genuinely relate to the diversification of production. Consequently, analysing the new investment and mapping expenditure in advance becomes even more important.

R&D tax relief

Support under the Polish Investment Zone is not the only form of assistance available to entrepreneurs developing software for the defence sector. An alternative tax incentive is the R&D tax relief available under corporate income tax regulations. Entrepreneurs are entitled to deduct from their tax base the tax-deductible costs incurred in carrying out research and development activities. Such activities are understood as creative activities involving scientific research or development work, undertaken systematically for the purpose of increasing knowledge resources and using those resources to create new applications.

In practice, the application of this relief is based on the approach that work on new system software may be regarded as research and development activity. Consequently, the development of software for loitering munitions may benefit from the relief in question. The deduction from the tax base amounts to 100% of eligible costs.

Pursuant to Article 18d of the Corporate Income Tax Act, eligible costs include depreciation charges made during a given tax year and recognised as tax-deductible expenses in respect of fixed assets and intangible assets used in R&D activities, excluding passenger cars as well as structures, buildings and premises constituting separate property. This means that the value of the new building itself would not form part of the deduction available under the R&D tax relief. However, eligible costs also include the costs of expert reports, opinions and advisory services provided by certain categories of entities specified in the Act of 20 July 2018 – Law on Higher Education and Science, as well as the costs of acquiring the results of scientific research conducted by such entities. This category of eligible expenditure applies to expert services purchased from specialised research institutions and scientific entities, including research institutes, the Łukasiewicz Research Network and other eligible organisations.

Investors can benefit from support and tax incentives for software development in Poland, but they need a plan

As the above brief overview demonstrates, there are two forms of tax support available to entrepreneurs planning the development of software used in the defence sector or in other branches of the economy. While their scope is not identical, both are certainly worth considering. In each case, however, a number of factors that may significantly affect the final amount of the available reliefs and exemptions must be taken into account. Therefore, in order to achieve the best results, it may be particularly beneficial to adapt business activities accordingly and develop, together with a tax adviser specialising in this area, a phased strategy for making use of investment support measures.