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The Research and Development (R&D) tax credits scheme offers businesses the ability to invest in new technologies and scientific development in exchange for generous tax reliefs.
Businesses investing in R&D projects can benefit from a significant reduction in their Corporation Tax bill.
For tax purposes, the requirements that must be met for R&D to qualify for relief include creating new processes, products or services, making appreciable improvements to existing ones and even using science and technology to duplicate existing processes in a new way.
R&D activities can qualify for tax relief even if the project in question failed and both profitable and loss-making companies can benefit from making a claim.
R&D tax relief is available on qualifying expenditure and reduces the amount of Corporation Tax payable by profitable companies, allows for a cash credit for loss-making companies, or a combination of the two. The amount of R&D tax relief available depends on the total qualifying spend on R&D activities.
There are two schemes for claiming relief - the Small or Medium-sized Enterprise (SME) Scheme and the R&D Expenditure Credit (RDEC) Scheme for large companies. The SME scheme offers more generous reliefs. However, SMEs can elect to claim relief under the RDEC scheme if they are unable to claim relief under the SME scheme because of a grant or subsidy, or because they are carrying out subcontracted R&D work.
A company is defined as an SME if staff headcount is less than 500 and either turnover is less than €100m, or the balance sheet total is less than €86m. There are also a number of further considerations that must be taken into account when determining if a company is defined as an SME such as group structures and whether grants are being received. If an SME does not qualify, the company can elect to claim using the less generous RDEC scheme.
SMEs can claim R&D tax credits of 230% on qualifying expenditure. This effectively means that for every £100 a company spends on qualifying R&D, they can deduct £230 from their profits when calculating profits chargeable to Corporation Tax.
The RDEC allows companies to claim an enhanced Corporation Tax deduction or payable credit on qualifying R&D costs. The RDEC replaced the large company scheme that was withdrawn in April 2016. This credit helps large companies to claim more support for their R&D activities.
The way the relief is calculated is very different to that for SMEs. Large companies claim RDEC. The RDEC rate increased from 12% to 13% for expenditure incurred after 1 April 2020. The RDEC allows companies to claim an enhanced Corporation Tax deduction or payable credit on qualifying R&D costs.
For loss making companies using either the SME or RDEC schemes the tax credit is fully payable (subject to certain restrictions).
Individuals, partnerships or Limited Liability Partnerships are not eligible to use the scheme. However, we would recommend that careful analysis is undertaken before a partnership invests in significant R&D expenditure as it may be more beneficial to look at incorporating.
Companies making their first R&D claim can qualify for Advance Assurance from HMRC. If Advance Assurance is granted, any R&D claims in the first 3 accounting periods will be accepted once they are in line with what was agreed. Obtaining Advance Assurance can give companies confidence to invest in R&D knowing they will benefit from the stated tax relief.
The rules as to what qualifies in this regard are complex. In general, however, a project qualifies as R&D if:
- It seeks to achieve an advance in science or technology.
- The research is relevant to the business.
- The business is of a trading nature as distinct from someone working in a profession or vocation.
Any qualifying costs for claiming R&D tax relief must be of a revenue nature. However, capital costs relating to R&D work may qualify for R&D capital allowances using a separate procedure. The company must also have already spent the money on qualifying projects. A claim cannot be made proactively.
HMRC will generally accept any reasonable method for calculating amounts that need to be apportioned between relating to R&D and non-R&D expenditure.
There are specific guidelines as to what qualifies as R&D expenditure. These guidelines state that the activity must contribute directly to seeking the advance in science or technology or must be a qualifying indirect activity. The R&D must be related to the companies’ trade or intended trade.
Qualifying revenue costs include:
- Staff costs relating to staff actively engaged in carrying out R&D.
- Materials consumed or transformed in the R&D process.
- Utilities - power, water, fuel used directly in carrying out R&D.
- Software - computer software used directly in the R&D.
- Subcontracted R&D expenditure.
In order to make a claim, businesses need to perform a detailed review of all their activities and isolate all expenditure relating to R&D projects.
Record keeping for R&D Relief
There is no specific record keeping requirement for R&D Relief claims but the general Corporation Tax requirement to keep sufficient records still applies. However, it may be pertinent to keep records that allow for easy access to R&D related expenditure.
When to claim
Companies must make any claim for R&D Relief in their company tax return or amended return. The normal time limit for making a claim is two years after the end of the relevant Corporation Tax accounting period, and HMRC aim to settle claims within 28 days.
You claim for R&D Relief by putting an X in either Box 99 for an SME or Box 100 for a claim made by a large company in the Company Tax Return. For both types of claims the amount of R&D enhanced expenditure is entered in Box 101. Box 102 applies to an SME on work sub-contracted to it by a large company.
HMRC recommends that companies present the following questions, with their own answers, when filing a Company Tax Return. This will allow HMRC to see your view of how the definition of R&D applies to your project or projects. However, this is not a legal requirement for making a claim.
- What is the scientific or technological advance?
Rather than stating the name of the product, process, functionality, etc, being developed you should consider what scientific or technological advance is being sought. This focuses attention on the project's aim for an advance, which is the key issue in judging whether R&D for tax purposes is being undertaken.
Science does not include work in the arts, humanities and social sciences (including economics).
It's not enough that a product is commercially innovative. You can't claim in respect of projects to develop innovative business products or services that don't incorporate any advance in science or technology.
- What were the scientific or technological uncertainties involved in the project?
Scientific or technological uncertainty exists when knowledge of whether something is scientifically possible or technologically feasible, or how to achieve it in practice, is not readily available or deducible by a competent professional working in the field.
But uncertainties that can be resolved through relatively brief discussions with peers are routine uncertainties rather than technological uncertainties. Technical problems that have been overcome in previous projects on similar systems are not likely to be technological uncertainties.
You should set out at a high level, in a form understandable to the non-expert, what these uncertainties were and when they started and ended.
- How and when were the uncertainties actually overcome?
Describe the methods adopted to overcome the uncertainties and the investigations and analysis undertaken. This should not be in great detail, simply sufficient to show that the matter was not straightforward. Describe the successes and failures and the impact of these on the overall project. If the uncertainties were not overcome, explain what happened.
- Why was the knowledge being sought not readily deducible by a competent professional?
It might be publicly known that others have attempted to resolve the uncertainties and failed, or perhaps that others have resolved the uncertainties but that precisely how it was done is not in the public domain. In either case a valid technological uncertainty can still exist.
Alternatively, if the project is one where there is little public information available, you'll need to show that the person/persons leading the R&D project are themselves competent professionals working in the relevant field. This might be done by outlining their relevant background, professional qualifications and recent experience. Then have them explain why they consider the uncertainties are scientific or technological uncertainties rather than routine uncertainties.