If your UK company is working on innovative projects in science and technology, and you have spent money on this, you may be able to claim a Research and Development tax relief (R&D tax relief) from the UK government. The purpose of R&D tax relief is to incentivise companies to increase their R&D spend. Research and development tax credits can be complex so this article aims to help UK companies and startups understand what R&D tax relief is, what qualifies for an R&D claim and the R&D tax credit claim process.
What is R&D tax relief?
An R&D tax relief can be granted to companies carrying out work that qualifies for R&D relief. The tax relief can be given in the form of a reduction of the current or future corporate tax bill or in the form of a payable tax credit if the company is loss making. The amount and type of relief a company will claim will depend on its size and whether it has been subcontracted for the R&D project.
Small and medium sized enterprises (SME scheme) with less than 500 staff and a turnover of under 100 million euros or a balance sheet total under 86 million euros can claim SME R&D relief. This type of relief allows eligible SMEs to:
- deduct an extra 130% of their qualifying costs from their yearly profit, as well as the normal 100% deduction, to make a total 230% deduction which will effectively reduces a company’s taxable profits.
- claim a tax credit in the form of a cash payment if the company is loss making, worth up to 14.5% of the surrenderable loss.
A company has a surrenderable loss if it makes a trading loss in an accounting period.
Large companies can claim a Research and Development Expenditure Credit (RDEC scheme) for working on R&D projects which is currently 13% of your qualifying R&D expenditure.
What qualifies for an R&D claim?
R&D Projects which advance science and technological fields related to a company’s trade can be eligible for R&D tax credits. To make a successful R&D claim a company will need to explain how a project:
- looked for an advance in science and technology
- had to overcome technological uncertainty
- tried to overcome this uncertainty
- could not be easily worked out by a professional in the field
A qualifying R&D project may research or develop a new process, new product or service or improve on an existing one.
The R&D activity costs which companies can claim relief for are:
- some direct R&D costs such as staff costs, payments for externally provided workers and for clinical trial volunteers, and the cost of software and consumable items
- certain payments for subcontracted R&D activities – those made to individuals or partnerships of individuals or to charities, universities, and health service bodies
- contributions made to charities, universities, and health service bodies for their own research
- SMEs can also claim relief for payments for subcontracted R&D activities in general (the amount they can claim will depend on whether they are connected with the subcontractor)
A company can’t claim the costs for:
- the production and distribution of goods and services
- capital expenditure
- the cost of land
- the cost of patents and trademarks
- rent or rates
Under the current rules for both the RDEC and SME scheme, UK companies are able to claim relief on R&D activity that is conducted overseas. In the government’s November 2021 tax reliefs report, companies will only be able to claim relief on qualify R&D activities conducted within the UK.
How to claim R&D tax relief?
A company can apply for advance assurance before making and R&D tax relief claim to HM Revenue & Customs (HMRC). A successful advance assurance application will give a company a guarantee that any R&D claims will be accepted if they are in line with was discussed and approved by HMRC and claimed within the first 3 accounting periods.
An advance assurance is not required to make an R&D tax relief claim.
The R&D tax claim process is to first calculate the allowable expenditure for the R&D work which was carried out for the qualifying activities. The next step for SMEs is to obtain the enhanced expenditure amount by multiplying the allowable expenditure by 230%. The enhanced expenditure amount for SMEs and allowable expenditure for larger companies should then be submitted in the R&D section of the company tax return.
An SME claiming a tax credit repayment will need to calculate the payable tax credit by multiplying the enhanced expenditure amount by the payable tax credit rate. HMRC aims to deal with 95% of payable tax credit claims within 28 days of receiving the claim.
R&D tax reliefs are a great tax incentive for companies in the UK to advance their technology as it allows them to recoup a portion of their R&D costs. To claim the right amount, companies must determine their qualifying R&D activities and the associated costs they can claim. To ensure that the intellectual property rights of your R&D projects are properly secured, it is important to have robust employment and consultancy service agreements in place.
What are the new changes to the UK SME tax relief scheme?
On the 17th of November 2022, Jeremy Hunt, The Chancellor of the Exchequer delivered the Autumn statement announcing new fiscal changes planned in the coming years. The Chancellor stated that the budget will prioritise "stability, growth and public services"
The Autumn budget touched on many changes, including new rules regarding the R&D tax relief.
Hunt announced that the government plans to reduce the deduction rate from 130% to 86%. This means SMEs will be able to deduct fewer qualifying costs from their yearly profits resulting in higher taxes.
There was also a cut to the tax credit rate from 14.5% to 10%. The tax credit allows SMEs to claim in the form of cash payment if they are loss-making. For larger companies, the Research and Development Expenditure Credit (RDEC scheme) for working on R&D projects is currently 13% of qualifying R&D expenditure, this has been increased to 20% in this autumn statement.
The Chancellor pointed out that the changes to R&D tax relief are said to have no impact on the level of R&D investment in the UK economy.
Why did the government cut tax relief for SMEs?
In the Autumn statement, Hunt outlined that the cuts were a result of "concerning reports of abuse and fraud in R&D tax relief".
In HMRC's annual report for 2021/22, it was reported that around £429m has been fraudulently or incorrectly claimed in the form of R&D expenditures. The monetary value of the error or fraud represents 4.9% of total R&D tax relief expenditure which is an increase from 3.9% reported the previous year.
How does this affect SMEs?
The changes are sure to affect the business sector. Loss-making SMEs and start-ups, which frequently make significant R&D investments, have the highest fall in benefit. This is especially true for UK businesses operating in the tech industry.
As part of the UK Innovation Strategy, by 2035, the UK government hopes to establish itself as a hub for leading innovation. However with attractive reliefs for foreign direct investment and the benefit for start-ups reduced, one might doubt whether such changes may have a detrimental effect on the Innovation Strategy and growing the UK's position as a leader in the tech industry.
Jeremy Hunt reassured that in the next year the government will work "to understand what further support R&D intensive SMEs may require" however how this may be reflected in policy we are yet to find out.
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The opinions on this page are for general information purposes only and do not constitute legal advice on which you should rely.