Research and development tax credits

What is R&D tax relief and what savings can it bring?

R&D tax relief was established to encourage innovation and offers the opportunity for UK companies who carry out R&D activities to reduce their tax bill. Following a simple volume-based approach, the scheme provides relief for each pound of qualifying R&D expenditure.

There are different rules for SMEs and large companies:

• SMEs can deduct up to 150% of qualifying expenditure on R&D activities when calculating their profit for tax purposes. In certain circumstances, SMEs can surrender this tax relief to claim payable tax credits in cash from HMRC if they have losses in the accounting period.
• Large companies can deduct up to 125% of qualifying expenditure when calculating profit for tax purposes. Under this regime, there is no credit repayment available in the case of losses in the accounting period - the uplift simply increases the losses available for use.

For example, on £100,000 of qualifying spend, you could expect to receive:

There is also a capital expenditure scheme (R&D Allowance) for both SMEs and large companies. This allows for a 100% reduction of qualifying capital R&D spend in the year of expenditure.

What R&D activity qualifies for the incentive?

The definition of qualifying R&D activity is wide-ranging and sometimes challenging to apply in practice. HM Revenue & Customs (HMRC) and the Department of Trade and Industry (DTI) have issued guidelines to help companies identify their eligible activity.

The activity has to:

• constitute an advance in the field; and
• resolve scientific or technological uncertainty.

And it is worth noting the following points:

• A project does not have to result in a success to qualify for the incentive.
• SSAP13 disclosure is not an essential prerequisite for a claim.
• R&D is not just done in laboratories: for example,engineering can qualify, as can back-office software infrastructure projects or improvements to manufacturing processes.
• R&D activity need not be undertaken in the UK to qualify.

What R&D costs are eligible for the incentive?

There are four main categories:

• Staffing costs - salary, national insurance costs, pension contributions (and benefits in kind, for a limited period).
• Consumable and transformable materials - materials consumed/transformed in the R&D process, software used directly in the R&D and limited overhead payments for power, fuel and water.
• Externally provided workers - agency staff and workers provided by group employment companies.
• Payments to qualifying bodies/contributions to independent R&D efforts.

There are also detailed rules around sub-contracting for the SME regime and important differences in effective dates for some categories of expenditure.

What do I need to think about when approaching an R&D tax relief claim?

There are three main areas to think about:

• Project qualification - You need to identify your main R&D experts, or as HMRC define them; 'competent professional users in the field'. You should leverage these experts' knowledge and involve them in the process of deciding what constitutes qualifying activity.
• You need to be able to back up these decisions with satisfactory documentation so that HMRC can be sure that its guidelines are being adhered to.
• A clear, effective methodology to support your R&D professionals in their decisions can help you develop best practice within your organisation and ensure that you remain compliant with HMRC legislation.

Cost quantification & HMRC liaison

You'll want to identify as much eligible expenditure as possible but it's important to balance this with the associated administrative burden of justifying the claim and the methodology you use for quantifying costs should suit the form of your R&D organisation, build on your existing reporting systems and help you comply with HMRC legislation. In addition, your process should be simple to operate on an ongoing basis, providing certainty for future years and ensuring a claim can be made easily within an agreed framework with HMRC.

Liaising with HMRC is a key part of the successful claim process. You need to be confident that your claim approach is robust and communicate this effectively to HMRC.

To find out more on this topic contact Diarmuid MacDougall

How can we support you?

Our approach focuses on partnering with you, supporting you through the claim process and ensuring a successful claim both now and in future accounting years.Our specialists can:

• take you through the entire process with as much, or as little assistance as you desire
• navigate you through the application procedure,
• liaise with HMRC and develop a bespoke methodology for your organisation that ensures compliance with legislation.

For the latest tax developments please see our Bugdet analysis