R&D tax relief changes

The government published draft legislation earlier this year, for the merger of the RDEC and the SME R&D relief schemes. In the Autumn Statement (November 22 2023) it was announced that for periods commencing on or after 1 April 2024 there will be a single merged scheme; the proposed merged scheme (SME and RDEC schemes) as well as an SME intensive scheme.

Autumn Statement 2023 updates*

The Autumn Statement announced the merger of the small and medium sized enterprises (SMEs) and the Research and Development Expenditure Credit (“RDEC”) schemes.

Draft legislation on the merger of the schemes had previously been published earlier this year with a view to enabling the schemes to be merged from 1 April 2024, but there remained a lot of speculation as to whether the change would be made as quickly as the Government envisaged.

Following today’s announcement, the merger will come into effect for accounting periods beginning or after 1 April 2024. In practice for most SMEs this will see the abolition of the more valuable SME scheme with the replacement of a slightly modified RDEC, enabling them to claim an above the line 20% taxable credit on its qualifying R&D expenditure.

For eligible loss-making SMEs however, it was announced that the R&D intensity threshold, which gives an increased rate of relief will reduce from 40% to 30%, along with the inclusion of a one year grace period for small fluctuations in expenditure, which are expected to be welcome changes by smaller R&D focused businesses.

The change is also expected to be welcomed by those companies historically claiming R&D relief under the RDEC scheme, which will see a number of enhancements as a result of the merger, including lifting some of the restrictions for subcontracted expenditure and the use of the more generous SME scheme PAYE and National insurance contributions cap.

Additionally, the policy paper published alongside the Autumn Statement set out that:

*Rules relating to subsidised expenditure in the existing SME scheme are no longer relevant, so these sections will be removed from the legislation for the merged scheme before it is published in the Autumn Finance Bill 2023.

For example, if a company receives a grant that covers part of the cost of its R&D, or if the cost of the R&D is otherwise met by another person, then (subject to the contracting out rules above) this will not reduce the amount of support available under the merged scheme.

This suggests that there will not be any exclusion of any form of R&D relief where a project and/or expenditure is subsidised as previously suggested.

*Wording taken from HMRC.

*[Article last reviewed and up to date as at March 22 2024 ]

8 August 2023 Update

For all R&D claims submitted from 8 August 2023, companies are required to submit an additional information form to HMRC. This will be a significant additional requirement for all companies claiming R&D tax relief and the form must be submitted before filing the company tax return, otherwise the R&D claim will be removed from the tax return.

The form can be completed by the company itself via its Government Gateway account or an agent acting on behalf of the company who is registered with an agent services account.

What details are included in the additional information form?

Company details

The form must include the company’s:

  • Unique taxpayer reference (UTR)
  • Employer PAYE reference number
  • VAT registration number
  • Standard industrial classification (SIC) code

Contact details for the main senior R&D contact at the company, e.g. a director, and any agent involved in the R&D claim must be given. Also, the accounting period start and end date for which the claim is being made must be stated.

Qualifying expenditure details

The company must also include details of the qualifying expenditure included in the claim. This may include:

  • Staff costs
  • Consumables, such as materials or utilities
  • Software
  • Subcontractor costs
  • Externally provided workers
  • Payments to participants of a clinical trial
  • Contributions to independent R&D costs (RDEC only)
  • Cloud computing costs, including storage (accounting periods beginning on or after 1 April 2023 only)
  • Data licence costs (accounting periods beginning on or after 1 April 2023 only)

In addition, the company should separately include the amount of qualifying indirect activities (those that do not directly lead to resolving the uncertainty) for each project.

Project details

The company must include the number of projects being claimed and a description of the key projects included in the claim. The number of project descriptions required depends on the number of R&D projects being claimed.

  • For 1 to 3 projects, the company must describe all of the projects being claimed and covering 100% of the qualifying expenditure.
  • For 4 to 10 projects, the company must describe those projects that account for at least 50% of the total expenditure, with a minimum of 3 projects described.
  • For 11 or more projects, the company must provide details covering at least 50% of qualifying expenditure, with a minimum of 3 projects to be declared. If expenditure covers multiple smaller projects, descriptions for the 10 largest should be included.

Project descriptions

For the relevant number of projects above, the company must confirm which tax relief (SME or RDEC, or both) the company is claiming and answer the following questions for each project.

  1. What is the main field of science or technology?
  2. What was the baseline level of science or technology that the company planned to advance?
  3. What advance in that scientific or technological knowledge did the company aim to achieve?
  4. The scientific or technological uncertainties that the company faced?
  5. How did your project seek to overcome these uncertainties?
  6. Which tax relief you are claiming and the amount of qualifying expenditure for the project.

Can any further information be provided to support the R&D claim?

Yes, it is still possible to submit further detail to HMRC via a supporting report or other relevant attachments to the company tax return in addition to the above. HMRC have previously advised that submitting additional information to support an R&D claim, such as a narrative report, will help them to process claims quicker. In many cases, it could also mitigate the risk of HMRC enquiry where queries might be raised due to lack of detail.

For example, a supporting report may include relevant background to the company, analysis of the basis of the claim, the methodology used in identifying the qualifying R&D expenditure, details of the key competent professionals from the company and possibly images of the R&D activities if not easily explainable in writing.

Spring Budget 2023

Recent developments

In January 2023, HMRC undertook a targeted campaign by sending out over 2,000 “nudge” letters to raise taxpayers’ awareness of fraudulent claims and encourage voluntary disclosure of errors. These letters are not compliance checks into submitted claims, however are designed to encourage compliance and raise customer awareness of the qualifying conditions for R&D tax relief.

HMRC also opened a consultation into the possibility of introducing a single scheme for R&D tax relief. This closed in March 2023 and feedback is currently being reviewed.

Changes to tax relief

From 1 April 2023, there are changes to the rates of tax relief available under both the RDEC and SME schemes. The headline RDEC rate increases from 13% to 20%, albeit this is a taxable credit. In contrast, the SME additional tax deduction decreases from 130% to 86%, along with a decrease in the rate of SME tax credit from 14.5% to 10%.

Whilst some of the percentages might appear quite arbitrary, it is likely these were considered in line with the increase in the main rate of corporation tax from 19% to 25%, also effective from 1 April 2023.

The pre and post 1 April 2023 tax benefit of making an R&D claim under the SME and RDEC schemes is summarised below.

SME scheme RDEC scheme
Pre 1 April 2023 Post 1 April 2023 Pre 1 April 2023 Post 1 April 2023
Profitable company 24.7% Additional tax saving on qualifying expenditure (130% enhancement x 19% rate of corporation tax) 21.5% Additional tax saving on qualifying expenditure (86% enhancement x 25% rate of corporation tax) 10.53% Additional tax saving on qualifying expenditure (13% rate of RDEC taxed at 19% rate of corporation tax) 15% Additional tax saving on qualifying expenditure (20% rate of RDEC taxed at 25% rate of corporation tax)
Loss making company 33.35% Tax credit on qualifying expenditure (230% enhanced expenditure x 14.5% rate of tax credit) 18.6% Tax credit on qualifying expenditure (186& enhanced expenditure x 10% rate of tax credit)* 10.53% Tax credit on qualifying expenditure (13% rate of RDEC taxed at 19% rate of corporation tax) 15% Tax credit on qualifying expenditure (20% rate of RDEC taxed at 25% rate of corporation tax)

* A tax credit rate of 14.5% is available for “R&D intensive” companies – broadly those with qualifying expenditure of at least 40% of their total expenditure for the period. Draft legislation is due to be published later this year and therefore companies claiming the higher rate of tax credit will need to delay submission of their claim or amend their claim once the legislation is in place.

Companies that do not have a 31 March year end will need to apportion their qualifying R&D expenditure pre and post 1 April 2023 accordingly.

The change in rates alone is expected to significantly affect existing claimants’ budgets and cash flow, with an overnight boost to companies claiming under the RDEC scheme. For example, a loss making company claiming under the RDEC scheme will be able to claim an additional £4,470 for every £100,000 of qualifying expenditure. However, for the majority of loss making companies who claim under the SME scheme, there will be a tax credit reduction of £14,750 for every £100,000 of qualifying expenditure.

Data and cloud computing

From 1 April 2023, qualifying expenditure will be extended to include data and cloud computing costs. A “data licence” is a licence to access and use a collection of digital data. “Cloud computing services” include the provision of access to, and maintenance of, remote data storage, operating systems, software platforms and hardware facilities.

Pure mathematics

From 1 April 2023, projects seeking advances in pure mathematics will also qualify and have historically been excluded from the definition of qualifying R&D activities.

Pre-notification of claims

For accounting periods starting on or after 1 April 2023, companies making their first R&D claim or those which have not claimed within the previous three accounting periods must inform HMRC of their intention to make a claim within six months of the end of the accounting period to which the claim relates.

If no pre-notification is made within six months of the end of the accounting period for these companies, it will not be permitted to make a claim for that period. Companies that have claimed in one of the preceding three periods will not need to pre-notify.

Additional supporting information

From 8 August 2023, all R&D claims will have to be made digitally and provide a breakdown of the costs claimed across the qualifying categories of expenditure and provide a description of the R&D activities undertaken.

Each claim will also need to be endorsed by a named senior officer of the company and claims will need to include details of any agent who has advised the company on the claim.

Overseas expenditure

From 1 April 2024, overseas expenditure on subcontractors and externally provided workers will no longer qualify, subject to limited exceptions such as geographical, environmental or social conditions, or legal or regulatory requirements which mean the work cannot be carried out in the UK. This change was originally due to come into effect from 1 April 2023, however it has since been delayed a year by HMRC.

Earlier Discussion

Autumn Statement 2022

The 2022 autumn statement set out that “As part of the ongoing review of R&D tax reliefs, the government is reforming the reliefs to ensure taxpayers’ money is spent as effectively as possible. There is significant error and fraud in the SME scheme, with the generosity of the relief making it a target of fraud. By contrast, the separate RDEC credit is better value (to the taxpayer) but has a rate that is less internationally competitive. The Government is therefore rebalancing the rates of the reliefs.

HMRC Consultation

The government then published a consultation on the potential merger which ended on 13 March 2023, and has stated that the publishing of the draft legislation is as a result of consideration of the responses to this consultation. It has not yet been decided on whether to merge and HMRC intends to keep open the option of doing so from 2024. A decision on whether to merge will be made at the next fiscal event and therefore we expect further announcements at the Autumn Statement in November 2023.

What does this mean for future claims?

The proposal has always been described as a merged R&D tax relief scheme, but on examining the draft legislation it appears the proposal is essentially to abolish the more valuable SME scheme, whilst leaving a slightly modified RDEC which;

  • On the plus side, this widens payments to subcontractors which are currently restricted for those claiming under the RDEC scheme and provides a more generous PAYE/NIC ‘cap’ (adopting the cap currently used for SMEs- £20,000 plus 3 times the PAYE and NIC liability for the period covered by the R&D claim), but
  • On the downside, excludes any form of R&D relief where a project and/or expenditure is subsidised.

This isn’t such good news however, for the smaller start-up businesses engaging in R&D who would get less tax relief under the new scheme and for companies currently claiming under the RDEC scheme as a result of the R&D project/expenditure being subsidised in some way.

If the legislation is implemented as drafted, those companies will now need to choose between grant funding and R&D tax credits if both are available to pursue.

There may however be light at the end of the tunnel for some SMEs because whilst described as a merged scheme, it appears the proposed new merged scheme would run alongside the existing relief for loss-making ‘R&D intensive’ SME companies (companies with relevant R&D expenditure in a given claim period that amounts to at least 40% of its total relevant expenditure for the period).

In effect, there would therefore still be two schemes; an SME R&D intensive scheme and a slightly enhanced form of the existing RDEC.

With the likelihood of a single combined R&D scheme increasing, SMEs with R&D programmes and any company with subsidised projects might maximise R&D reliefs by accelerating them to take place, where possible, before 1 April 2024.

We always recommend that you seek advice from a suitably qualified adviser before taking any action. The information in this article only serves as a guide and no responsibility for loss occasioned by any person acting or refraining from action as a result of this material can be accepted by the authors or the firm.

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