The UK government has an ambition 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 (through deductions of corporation tax or offering cash rebates). As a result, it is critical to keep the relief schemes competitive (hence making UK an attractive location for R&D investment), and well-targeted (to reduce fraudulent claims and abuse of the schemes).
Following the announcement of proposed changes in the 2021 Autumn Budget, in July 2022 HMRC has issued a draft legislation for R&D tax relief amendments, detailing the specifics of the new measures. The changes will apply to enterprises claiming under either of the two R&D tax relief schemes (SME or RDEC), and will affect accounting periods starting on or after 1st April 2023.
R&D Tax Relief Reform
1. Extending qualifying expenditure
HMRC plans to extend and include costs of datasets and cloud computing as qualifying expenditure to support modern research methods. Specifically, the following costs will become eligible:
- Licence payments for datasets (but not those that can 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; and
- Cloud computing costs that can be attributed to computation, data processing, and software
Where payments have been made on a cloud computing package that includes a range of functions, the claimants will need to identify the costs that relate directly to R&D activities and exclude the costs incurred in non-R&D related activities. This can be done by reference to the billing details from suppliers or using an appropriate apportionment.
The UK Patent Box regime uses R&D definitions of qualifying expenditure as part of its calculations. As a consequence of the expansion of qualifying cost categories to include data and cloud computing costs, the relevant sections of the Patent Box rules will also require consequential amendment.
In addition, any research undertaken in the area of ‘pure mathematics’ will become a qualifying R&D activity. This is to support the growing volume of R&D underpinned by mathematical advances in particular sectors such as AI, quantum computing and smart manufacturing.
2. Refocusing R&D tax relief on activities performed within the UK
In an effort to retain R&D activities within the UK, payments made to Externally Provided Workers (“EPWs”) and subcontractors based outside the UK will no longer be eligible (albeit the local EPWs/subcontractors who are subject to UK PAYE/NIC will still be eligible).
However, exemptions apply to where it was not possible to carry out the R&D work in the UK. For example:
- Materials/Geographical factors which restrict R&D to be undertaken abroad (e.g. deep ocean research); or
- Regulatory/environmental requirements which require R&D to be performed outside of the UK (e.g. clinical trials and medical studies in specialised patient groups, or developing equipment intended for extreme environments).
It is worth noting that, the proposed law explicitly removes the new restriction on overseas expenditures from the R&D ‘nexus fraction’ necessary to compute Patent Box relief. This implies that overseas R&D costs will still boost the proportion of tax relief that can be claimed under the Patent Box scheme.
3. Tackling abuse of R&D tax reliefs
To assist HMRC in combating misuse of the R&D tax relief schemes, additional due diligence and filing processes will be put in place. To target “tackle abuse” and improve compliance, the claimants will need to adopt the following administrative changes:
- 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).
- Companies will need to provide a technical report to demonstrate how the costs and activities claimed are associated with R&D.
- New claimants will need to inform HMRC in advance that they intend to make a claim. They will need to do this, using a digital service, within 6 months of the end of the period to which the claim relates. However, companies that have claimed (or made a notification) in one of the preceding three accounting periods will not be considered “new”, hence will not need to pre-notify.
- Claims will need to disclose any agent advising the claimant on preparing the claim.
- Claims will need to be endorsed by a named senior officer of the claimant company.
4. Additional measures to address anomalies and unforeseen consequences
The UK Government intends reshape the R&D rules to correct anomalies within the legislation that affect the operation of the reliefs. These include:
- Allowing claimants to file an updated claim within 30 days if HMRC rejects a claim under the RDEC regime. This assures that making an error in an RDEC claim does not result in the loss of the right to make a corrected claim (which was previously only possible for SME claims).
- Allowing companies to claim under the RDEC regime instead where they had previously erroneously claimed SME relief. This is permitted even if the time limit for amending claims has expired.
- Amending the time limit for making a claim to two years from the end of the period of account to which they relate, rather than 12 months from the statutory filing date. This will prevent companies which do not receive a notice to file (either because they fail to register or notify HMRC that they are dormant) from benefiting by having more time to make a claim.
- 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. From 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.
Assistance With Your Future R&D Claims
As the amendments in legislation are being finalised, the forthcoming regulations will bring in changes to the methods under which R&D tax relief claims will be processed post 1st April 2023. Not to deny that the scrutiny of claims will be on a higher extent and the new rules will have to be considered by all claimant companies, specifically where R&D projects are being conducted overseas.
ResearchQX can help you plan your R&D tax relief claims and future R&D strategies whilst considering all the new changes enforced by HMRC. Our team of experienced R&D tax consultants carry a firm understanding of the R&D tax regulations and the changes in legislation.
Contact us to understand how the R&D tax relief reform may affect your R&D claims.
