Updated 22 March 2024
R&D tax credits could reduce your company’s tax bill or provide a cash sum if you haven’t yet made a taxable profit.
The R&D tax credit regime has undergone significant changes over the past few years but still proves significant incentives for companies undertaking truly ground-breaking work.
What are the tax reliefs currently available?
If your company is a small or medium sized enterprise (SME) that satisfies the qualifying conditions below, you can make a claim to uplift its qualifying expenditure on R&D by 86% for tax purposes. This means that for every £100 of qualifying expenditure, your company can claim £186 as a deduction against its taxable income. Prior to 1 April 2023, the rate of super-deduction was 130%.
Loss-making companies can also claim a repayment of tax equivalent to 18.6% of their qualifying costs, as defined below, albeit so-called R&D intensive companies may be able to claim at a higher rate of 27%. This can result in a significant cashflow benefit, particularly in the start-up phase or early years of the business.
The above credit is capped at broadly three times the claimant company’s total PAYE and NIC costs for the year plus £20,000 (subject to certain exceptions).
The above reliefs apply only to expenditure which is revenue in nature and not externally subsidised. Capital costs (for example, those relating to the purchase of laboratory used in the R&D process) may instead qualify for enhanced 100% capital allowances.
What does ‘Research and Development’ cover?
The R&D of the company must entail an appreciable element of novelty that results in:
- a scientific or technological advance, or
- clarification of an area of scientific or technological uncertainty.
For example, in a software project, you may need to demonstrate that software relies on newly developed algorithms or architectures which break new ground in the industry sector as a whole.
R&D can also include the design of products, services and software involving new technology or substantially improving existing products and services. This definition also includes the construction of prototypes, provided that these were not intended for resale.
HMRC do not consider gradual improvements of an existing product or service to be R&D. Instead, your company must be able to demonstrate to HMRC that the product or service is a technological advance on what is currently available in the market.
What is a ‘small or medium sized enterprise’?
For these purposes, an SME is a company which
- has less than 500 employees; and
- has an annual turnover not exceeding €100 million; or
- has gross assets on its balance sheet not exceeding €86 million.
If your company is part of a group, the group must satisfy these limits. Special rules can also apply where a party has at least a 25% interest in another company or vice versa.
What expenditure qualifies for R&D tax relief?
- Gross employee costs, including 65% of subcontracted R&D expenditure and agency staff plus the cost of items used up in the development process. Benefits in kind are generally excluded
- The cost of software and power, such as gas and electricity directly used in the R&D process
- Staff and subcontracted costs related to so-called indirect qualifying activities such as security, training and equipment maintenance
- From 1 April 2024, cloud computing costs also qualify.
However, only expenditure incurred in the UK will generally be qualifying with effect from the above date.
What about large companies?
Large companies have a different scheme: they are entitled to claim a 20% tax credit on their qualifying R&D expenditure. This refund is itself taxable (and recognised within other operating income in the statutory accounts).
The new merged regime
From 1 April, the SME regime is to be merged into the large company regime, albeit loss-making R&D intensive companies (ie those broadly spending more than 30% of their costs on R&D) will continue to be able to claim under the old rules with a 27% effective credit.
What hasn’t changed!
Whereas the definition of R&D has not been amended, HMRC are policing claims far more closely and expecting clear evidence of a technological advance rather than the mere use of technology or piecemeal improvements, using existing techniques.
Not only are claims being routinely rejected, HMRC are also actively seeking penalties for claims that cannot be fully substantiated.
How do I claim?
For accounting periods beginning after 1 April 2023, any new claimants are required to make a notification of the intended claim within six months of the end of the accounting period.
In addition, all companies are required to make a digital submission, setting out clearly the existing technological baseline, the issue and how this was overcome by the company.
We also recommend the preparation of synopsis of your R&D project, supported by a breakdown of the qualifying costs. These should be attached to the tax return.
How we can help
BKL’s tax consultants, supported by specialist consultants, have generated significant tax refunds and savings for clients investing in R&D. The projects have ranged from fingerprint recognition systems to robotic machinery for the flat-glass industry. Many of the clients we’ve assisted have undertaken groundbreaking software work.
There are pitfalls in the legislation and there are time limits for making claims. But by addressing these issues early, we have succeeded in obtaining HMRC’s agreement to the vast majority of claims submitted – without adjustment, and extremely cost-effectively.
To learn more about how the relief may apply to your business or for assistance with making a claim, please get in touch using our enquiry form.
