R&D Tax Relief 

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Overview

R&D tax relief is about reducing your corporation tax bill, or even getting cash in exchange for your losses if you are a loss-making SME.  There are two main regimes currently in place in the UK; the SME regime and the Large Company regime.  It should be noted that an SME may be able to claim under the large company scheme in certain cases where it is precluded from gaining benefit under the more generous SME regime, though this can be complex in practice.

How is the relief given?

For both regimes, the relief is provided in relation to revenue expenditure that is incurred during an accounting period.  Where a company has eligible activities, certain revenue expenditure will qualify for an additional deduction in calculating taxable profits for that period.  For example, a large company performing eligible work may have £100k of qualifying revenue expenditure in a specific period and, by making a claim for R&D tax relief, will be able to deduct £130k (£125k up to 31 March 2008) in relation to that spend when calculating its taxable profits for that period.  For an SME with £100k qualifying revenue expenditure, the deduction would be £200k (£175k up to 1 April 2011).

Furthermore, for an SME which is loss-making, the additional deduction referred to above will serve to increase the company’s losses and this loss generated through the claim can be surrendered for a cash payment of up to 25% of the qualifying R&D spend (note that the cash payment is often referred to as a “tax credit” and is currently capped by the total PAYE and NI the company has paid in the relevant accounting period).

When should I make a claim?

A claim must be made within two years of the end of the company’s accounting period.  For example, a company with an accounting year end of 31 December 2009 can make a claim at any time up to 31 December 2011. 

What are the key stages in the claim preparation process?

There are three key stages which are the same for both SMEs and large companies:

  • Determine the scope of eligible activities - which activities meet the criteria set out in the 2004 DTI Guidelines? This process is the same for both the SME and large company regimes and is often where companies underestimate the extent of their eligible work and exclude eligible activities from the scope of the claim, thus reducing the benefit.  It is important that the key technical personnel within the business are involved in this process and Gareth’s background means he can understand the science and technology relating to the business and can help draw the boundary line between eligible and non-eligible activities.
  • Quantify the claims – which costs should be included in the claim within the tax computation? Although the legislation very carefully sets out the categories of cost that qualify for relief, there are specific rules relating to each of those categories of cost, some of which are particularly difficult to understand if you have no experience of making a claim. The types of cost that qualify for relief differ depending on whether you are claiming under the SME or large company regime and therefore particular care must be taken to ensure that the correct costs are included in the claims.  A claim which includes costs which are not within the scope of the legislation may undermine the entire claim and may cause HMRC to scrutinise all aspects, including the assessment of eligibility. Teresa's experience in quantifying claims means that you can rely on her knowledge and understanding of cost categories and how these are reviewed in practice by HMRC.
  • Submit the claim to HMRC and deal with any enquiries. HMRC have specialist units to deal with the review of claims for R&D tax relief.  We have to date agreed all claims submitted on behalf of our clients with HMRC with little or no amendment following their enquiries. We understand the nature of the questions they are likely to raise and often provide sufficient detail in our claim support documentation to pre-empt any queries they may have had.

    • SME Regime

    This regime was first introduced in April 2000 and is the most generous.  In order to qualify as an SME, a company must meet certain criteria (which were revised from 1 August 2008):
    These limits must be considered in the context of the company itself plus any related enterprises. A partner enterprise is any entity which is related by at least a 25% shareholding, and special rules apply where more than a 50% (controlling) shareholding is involved (linked enterprises). The simplest example is where an apparent SME is a wholly-owned subsidiary of a large group, and so is a large company itself for R&D tax purposes. The rules for aggregating the critical metrics are complicated, with some latitude for certain types of investment organisation - it is not always straightforward to determine the company status. Under certain conditions companies can even be linked through common ownership by individuals.

    The SME regime also includes some rules regarding receipt of grants and other funding (including when being paid to do the work by another organisation) and also, for accounting periods ended before 9 December 2009, ownership of the IP resulting from the R&D efforts.  Furthermore, where an SME is precluded from making a claim under the SME regime for a number of reasons it may be able to claim under the less-generous large company scheme - but care must then be taken to ensure that the large company regime rules are applied appropriately.  These rules can be difficult to understand in practice and need careful consideration when preparing a claim.

    The SME regime provides for an additional deduction of 100% (75% up to 1 April 2011), giving an effective after-tax benefit up to 26% depending on the company’s corporation tax rate.  For a loss-making SME, any losses generated through the R&D claim can be surrendered in exchange for a cash payment (“tax credit”) of up to 25% of the qualifying costs.

    Large Company Regime

    This regime was first introduced in April 2002 and applies to companies that are not SMEs (as defined above). For large companies, there are no rules relating to the receipt of grants or funding, or in respect of IP ownership.  This regime intends to reward the company actually undertaking the R&D work, not those paying for it. The large company regime provides for an additional deduction of 30% (25% up to 31 March 2008), giving an effective after-tax benefit of 7.8% for a company paying tax at 26%. For loss-making large companies, there is no option to surrender the R&D losses for a cash payment; the additional deduction in this case will only serve to increase the company’s trading loss which can be used in the usual ways under the corporation tax regime - in particular can be carried forward indefinitely.
     

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