Innovation and technological advancements have always been at the forefront of a nation’s growth, driving economic prosperity and global competitiveness. The United Kingdom, with its rich history of innovation, has taken a significant step forward in fostering research and development (R&D) activities through comprehensive tax reforms. As of August 2023, the HMRC has announced pivotal changes to the R&D tax landscape, aiming to provide substantial incentives for businesses to invest in groundbreaking research. In this article, we’ll delve into the intricacies of the UK R&D tax reform and the notable changes announced about by HMRC.
Introduction
The landscape of R&D tax incentives in the UK has witnessed a transformative change with new changes announced throughout the year, driven by the vision to create an environment conducive to innovation-led growth. With the global competition intensifying, the UK government recognised the need to revamp its R&D tax framework to remain at the forefront of technological advancements.
What are the changes & how they affect your claims?
The UK government remains committed to increase the overall R&D investment to 2.4% of the country’s GDP by 2027. R&D tax reliefs play an important role in incentivising innovation investments. As a result, it is critical to keep the relief schemes competitive and well-targeted to make UK an attractive location for businesses to grow through investments in science and technology. Below represents a series of changes as part of the R&D tax reforms as it has been an important topic in the government and among businesses in the UK with consultations being held on a number of key aspects.
Changes in R&D Tax Relief and R&D Expenditure Credit (RDEC) Rates
Since 1 April 2023, there has been a rebalancing of the relief between the Small & Medium-sized Enterprise (“SME”) and Research & Development Expenditure Credit (“RDEC”) schemes.
The table below highlights the changes in the headline rates in both corporation tax and the two categories of R&D schemes. SME claim benefits have been hit with a reduction in benefits, while there has been an increase in the RDEC benefits. The UK government’s intention is to ultimately achieve a simplified single scheme for all claimant entities in the near future that is similar to the RDEC going forward. Whilst the possibility of doing so has not yet been confirmed, a draft legislation has already been published.
*This means that for every £1 the company spends on R&D activities, the tax payable is reduced by 24.7p as a result of the R&D claim.
** Based on corporation tax at 19% – 25%. (For more information on Corporation tax rates and relief rates visit www.gov.uk).
***Calculated as cost plus uplift of 130% pre-1st April 2023 and 86% thereafter.
Extending qualifying expenditure
From the accounting periods beginning on or after 1 April 2023, the following key changes have been introduced:
Inclusion of Data licences & cloud computing services costs
The following costs will become eligible:
- Licence payments for datasets used for the purposes of R&D. However, costs cannot be included if the data is to be resold or with an ongoing value to the business once R&D has been completed.
- Costs of staff involved in collating data that directly contributes to R&D.
- Cloud computing costs that can be attributed to computation, data processing, and software, if used solely for the purpose for undertaking R&D. Appropriate apportionments should be done where the cost include both R&D and non-R&D purposes.
Inclusion of pure mathematics as a field of science and technology
Any research undertaken in this area will become a qualifying R&D activity, as HMRC has recognised that Mathematical techniques are frequently used in science. Hence, from April 2023 mathematical advances in themselves are treated as science for the purposes of these guidelines.
Refocusing R&D tax relief on activities performed within the UK
The 2023 Spring Budget has announced a delay to restrictions on overseas expenditure in R&D tax reliefs. This restriction, aimed at retaining R&D in the UK, will now take effect from 1 April 2024 to allow the government to consider the interaction between this new change and the design of a potential new R&D tax relief scheme (merging the SME and RDEC regimes as mentioned above).
Read more about these restrictions
Once this restriction is launched, payments made to only those contractors/ subcontractors who are based in the UK will be eligible, i.e., the ones based outside the UK will no longer be eligible. However, HMRC does allow certain exemptions, where it was not possible to carry out the R&D work in the UK, such as:
- Materials/Geographical factors which restrict R&D to be undertaken abroad e.g.: Deep Ocean research.
- Regulatory/environmental requirements which require R&D to be performed outside of the UK, such as:some text
- Clinical trials and medical studies in specialised patient groups, or
- Developing equipment intended for extreme environments.
This change however won't impact the calculation of tax relief under the Patent Box scheme for overseas research and development (R&D) costs. These costs will still contribute to the tax relief proportion available.
Tackling abuse of R&D tax reliefs
To ensure the R&D tax relief scheme benefits businesses effectively, the government continuously monitors its impact on innovation and the economy. To prevent misuse, HMRC is implementing additional due diligence and filing processes. Claimants must adopt the following administrative changes to tackle abuse and improve compliance.
R&D Additional Information Form
The claims will need to be made digitally (except for those exempt from the requirement to deliver a Company Tax Return online, e.g., insolvent companies who are subject to a winding up order or in formal administration). A new digital information form is required for all claims made on or after 8 August 2023, and the form must:
- Be signed by a named senior officer of the company.
- Disclose any agent who advised the company making the claim.
- Include a breakdown of costs claim by cost category.
- Include details of projects being claimed.
Please see more details below. This form will need to be submitted before the company’s tax return is filed. Failing to do so will disqualify the R&D claim. A separate R&D report (usually prepared by diligent advisers) can still be submitted alongside the new digital form, to set out the claim methodology, use of sampling and details of the competent professionals etc. This document (although not mandatory) is still recommended by HMRC to further support the claim.
Advance notice of making a claim
First time claimants, or those not claiming in the last three accounting periods, are required to inform HMRC before claiming, from accounting periods starting on or after 1 April 2023. This needs to be done using a digital service, and it can be done from the first day of the accounting period until 6 months after the accounting period in concern has ended. This can be submitted by a company representative or an agent.
What should this include?
- A high-level summary of planned activities.
- No evidence is required on the notification form however, the new information form will need further projection information.
For other information required to complete the notification form, please refer to the “Who can submit?” and “Company details” sections below (which are the same information required for completing the new digital information form).
It is important to note that failing to notify HMRC, the claim will be rejected. If companies previously claimed using the paper Company Tax Return, they should submit a claim notification form to avoid any queries or delays when HMRC process the claim.
R&D Additional Information Form
Who can submit?
You can complete the additional information form if you are:
- A representative of the company.
- An agent acting on behalf of the company.
- Note: you will need the Government Gateway user ID and password you used when you registered for Corporation Tax / agent services account (depending on who is submitting), if you do not have a user ID, you can create one the first time you sign in.
Company Details
- The Unique Taxpayer Reference (UTR) number of your company.
- Employer PAYE Reference number.
- VAT registration number.
- Main type of business carried out (e.g., SIC code).
- Contact details of:some text
- The main senior internal R&D contact in the company who is responsible for the R&D claim (e.g., company director).
- Any agent involved in the R&D claim.
- Accounting period start and end date (this must match the one shown in the claimant’s company tax return).
Qualifying expenditure details
- Staff/employee costs.
- Externally provided workers.
- Sub-contractors.
- Software.
- Consumable items.
- Data licence costs and cloud computing costs, including storage (for accounting periods starting on or after 1 April 2023).
- Payments to participants of a clinical trial.
- Contributions to independent R&D costs (RDEC only).
- Amount of the above that is qualifying indirect activities (“QIAs”) (Note: This cannot include any costs related to data licensing or cloud computing.).
Eligible Project details
- Number of projects that you are claiming for in the accounting period.
- Project description should include:some text
- The main field of science or technology.
- The baseline of level of the science or technology that the company planned to advance.
- Advance in that scientific or technological knowledge that the company aimed to achieve.
- The scientific or technological uncertainties that the company faced.
- How did your project seek to overcome these uncertainties?
- Which tax relief you are claiming for and the amount?
- Number of EPWs who worked on the projects.
- PAYE scheme reference for those EPWs.
Further (project) details
If you are claiming:
- For 1 to 3 projects, you need to describe all the projects you are claiming for that cover 100% of the qualifying expenditure.
- For 4 to 10 projects, you need to describe those projects that account for at least 50% of the total expenditure, with a minimum of 3 projects described.
- For 11 to 100 (or more) projects, you need to describe those projects that account for at least 50% of the total expenditure, with a minimum of 3 projects described — if the qualifying expenditure is split across multiple smaller projects, describe the 10 largest.
Additional measures to address anomalies and unforeseen consequences
The UK Government intends to reshape the R&D rules to correct anomalies within the legislation that affect the operation of the reliefs.
Read more what these include
- Allowing claimants to file an updated claim within 30 days if HMRC rejects a claim under the RDEC regime. This assures them the right to correct any possible errors. (which was previously only possible for SME claims).
- Allowing companies to claim under the RDEC regime if they had previously erroneously claimed under the SME relief. This is permitted even if the time limit for amending the SME claim has expired.
- Clarifying that expenditure generally qualifies where a payment is made within two years of the end of the accounting period in which the expenditure was incurred. This is in response to a Tribunal finding of 2016 (TC/2015/06833).
- Amending the time limit for making a claim to two years from the end of the relevant accounting period, preventing undue benefits for companies not receiving a notice to file.
- Supporting businesses growing and transitioning from SMEs to large companies. Traditionally, if an SME becomes a large company due to organic growth (as opposed to being acquired by another entity), the company itself is allowed to continue claiming tax relief under the SME scheme in the year of change, whereas other members of its group lose their SME status instantly. For accounting periods starting on or after 1 April 2023, this transition rule will be available to all group companies.
- Where a company is no longer considered a 'going concern' merely due to the transfer of a trade to a connected party, but if it is otherwise financially sustainable, the company will still be entitled to claim R&D relief.
Potential Merger of SME & RDEC Schemes
The government intends to keep open the option of implementing a merged scheme from 1 April 2024. The draft legislation on a merged scheme has been be published for technical consultation alongside the publication of the draft Finance Bill this summer, with a summary of responses to the consultation.
Although having two schemes might seem simple because there are clear boundaries for SME and large companies, there are a lot more pitfalls when it comes to making a claim. For example only certain subcontractor costs are allowed under the RDEC scheme, and there are transition rules when an SME becomes a large company (or vice versa) etc. Having a single scheme will also fall in line with other countries (e.g., Canada has a very mature R&D scheme). This would align with international practices and provide simpler guidelines to follow.
Consequences for businesses making R&D Tax Credits
Whilst not all the changes are encouraging news (e.g., reduction in the benefit of the SME scheme), certain changes which have been put in place are likely to tackle the abuse of the scheme. The inclusion of pure mathematical advances and licence payments for datasets used in R&D will unlock more aspects of the R&D scheme in terms of new knowledge and that means new eligibility. However, it is likely that the addition of cloud computing costs will have the broadest impact on R&D claims for companies working at the frontiers of these sectors as it will fall under the same time spent.
For more information and details on the new changes, feel free to contact us.
