Research & Development (R&D) Tax Relief

R&D tax relief was Introduced in 2000 by the UK government to encourage advancements in science & technology within United Kingdom and can be a valuable source of funding for companies involved in innovation. The main objective behind the relief was to increase R&D spending by businesses to 2.5% of GDP by 2014 but despite of encouragement from HMRC and the government; very few small businesses come forward and actually apply for the claim. One of the reasons for this is that businesses often do not realise that they are involved in R&D activity and presume they don’t qualify.

In case you have developed any new product or process or improved an existing product or process, you may be eligible for R&D tax relief. In order to test your eligibility, you need to evaluate that if your company is involved in a project that is seekingto achieve advancement in science or technology, then you are likely to be eligible for research and development relief.

R&D Tax Relief Guide

• What is R&D tax relief?
• Which projects qualify for R&D tax relief?
• What are the different types of R&D schemes?
• What costs qualify for R&D tax relief?
• What costs does not qualify for R&D tax relief?
• What is the deadline for making a R&D claim?
• Which industries qualify for R&D tax relief?
• Whether or not small businesses receiving government grants or subsidies can claim R&D incentives?

What is R&D Tax relief?

R&D tax relief is a relief which can only be claimed by those companies who are currently engaged or have completed innovative projects in the field of science and technology. Any scientific or technological research or advancement carried out in an eligible business or industry qualifies for R&D claims.

R&D relief allows companies that carry out qualifying R&D related to their trade to claim an extra Corporation Tax (CT) deduction for certain qualifying expenditureor, in some circumstances, the company may receive a payable tax credit. Since, it is CT relief it can only be claimed by limited companies.The level of relief available depends uponwhich scheme the company uses.

An innovation can come from any qualifying business or company or industry. It also includes activities like software development which can be done by any company irrespective of their size – whether two persons operating a company from their garage, any sophisticated company dealing with international banks – It can apply to a limited company of any sector or industry.

For example - Soap paste offered to online customers, Space Exploration Company involved in collection of soil samples from Mars etc.

Also See: Advantage of R&D Tax Relief?

Which projects qualify for R&D tax relief?

R&D tax relief has certain qualifying conditions which the company has to meet while applying for R&D claim –

1. The company must be a part of a specific project in order to make advancement in science & technology.
2. Advancement in social science such as economics or theoretical field like pure maths doesn’t qualify for R&D relief.
3. A specific project in which the company is involved in or initiating based on R&D results must be related to its trade.

In order to claim R&D relief, the company will need to explain following things about the project –

1. Explain how the project seeks to achieve advancement in science & technology?
2. Explain if some uncertainty existed when the project was undertaken?
3. Explain how the project tried to overcome this uncertainty?
4. Explain how it could not be easily worked out by a competent professional in this field?

Types of R&D Schemes

There are two types of R&D schemes based on the size of the company and whether the project has been subcontracted -

• Small & medium sized enterprises (SME) R&D relief:

  A company is eligible to claim R&D relief if it meets the following conditions mentioned below –

  1. Company must have a staff of less than 500.
  2. Company must have a turnover of less than 100 million euros or a total balance sheet of less than 86 million euros.

  The headline rate for small and medium enterprises is 230% that is the R&D costs are enhanced by 130% more than 100% relief that company gets for Corporation Tax relief on the qualifying expenditure through its accounts. The company can even claim R&D tax credit in cash of up to 14.5% of the enhanced qualifyingexpenditure, in case the company incurred a loss.

• Research & development expenditure credit:

  Research & development expenditure credit can be claimed on R&D projects by large companies. SME’s who have been sub-contracted for R&D work by large companies are also eligible to claim research & development expenditure credit. Previously, RDEC was 11% of qualifying R&D expenditure but later from 31st December 2017, it was increased to –

  1. 1^st January – 31^st March 2020 – 12%
  2. From 1^st April 2020 onwards – 13% (Current rate)

Also See: Apply For the Coronavirus Large Business Interruption Loan Scheme

What costs qualify for R&D Tax relief?

Amount of R&D claim totally depends upon the amount the company have spent in qualifying R&D activity. Costs eligible or covered under R&D activity are as follows –

• Costs related to staff including National Insurance Contributions (NIC)& pensions

  A company may be eligible to claim R&D relief on costs related to those staff members who are directly and actively involved in the R&D project. Such costs include wages, salaries, Class 1 National insurance contributions & pension fund contributions. It doesn’t cover administrative or clerical staff except those who are involved indirectly in R&D activities. Indirect activities include clerical, administrative, maintenance and security work. In certain cases, qualifying travel and subsistence expenses reimbursed to employees can also be claimed.
  
  Note – Companies are not eligible to claim employment related benefits.

• Externally provided workers

  Staff costs paid to an external agency for staff who are directly engaged in the R&D project are also eligible for R&D relief. Relief is usually given on 65% of the payments made to the staff provider.

• Software & consumable items

  A company may claim for the software cost directly involved in the R&D activity. In case software is only partly involved in direct R&D activity, only an appropriate apportionment can be claimed. As far as consumable items are concerned, a company can claim the cost of those consumable items that are used & directly involved in R&D projects such as fuel & power, cost of materials, proportion of water etc. Note– From April 1, 2015, cost of materials incorporated in the sold products are not considered eligible for R&D relief.

• Subcontractors (Restricted to 65%)

  If your subcontractor is unconnected, a company can claim up to 65% of the cost paid to subcontractor for R&D activity whereas if your subcontractor is connected, a company can claim lesser of the R&D cost paid to subcontractors and their relevant expenditure.

Also See: What Expenses to Claim For When Working From Home In the Time of Coronavirus

Calculation of relief for profitable SME’s

Suppose a company named ABC ltd. earns a profit of £500,000 per annum and incurred an R&D expenditure of £100,000. How much corporation tax is saved?

Profit before R&D = £500,000

Corporation tax before R&D claim – 19% of£500,000 = £95,000

Qualifying expenditure = £100,000 (£100,00*230%) = £230,000

= £230,000 - £100,000 = £130,000

Revised profit = £500,000 - £130,000 = £370,000

Corporation tax = 19% (370,000*19%) = £70.300

Corporation tax saved = £95,000 - £70,300 = £24,700 (Approx. 25% saving)

Calculation of relief for loss making SME’s

Suppose a company named XYZ ltd. makes a loss of £500,000 per annum and incurred an R&D expenditure of £100,000. How much tax creditcan it claim?

Loss of the year = (£500,000)

Qualifying expenditure = £100,000 (£100,000*230%) = £230,000

= £230,000 - £100,000 = (£130,000)

Revised Loss = (£630,000)

Maximum loss companycansurrender to HMRC = 230% of £100,000 = £230,000

Maximum tax credit received = 230,000 * 14.5% =£33,350 (Approximately 33% saving)

Also See: How to Claim Animation Tax Relief?

What costs does not qualify for R&D tax relief?

Some costs qualify for R&D relief whereas some may not. A company cannot claim for R&D relief for the following costs –

1. Cost incurred in production & distribution of goods & services.
2. Cost of land.
3. Capital expenditure under both R&D relief schemes. However, R&D allowance of 100% may be due on capital assets can be used for R&D activity. Capital assets include plant, machinery, building etc.
4. Cost related to payments made for the creation and use of patents & trademarks involved in protection of R&D activity.

What is the Deadline for making a Research & Development claim?

A company can submit R&D tax claims for the qualifying expenditure within 2 years from the end of the accounting period.

For example – Suppose, if a company wants to claim R&D claims fortax year ending 31st August 2018, they can claim it within 2 years before the end of the accounting period i.e. before 31^st August 2020. Same deadline applies to reviewing and amendment of any existing claim. Companies can also apply for Advanced Assurance to HMRC, which means that for the first three accounting periodsof claiming for R&D tax relief, HMRC will allow the claim without further enquiries.

Which industries qualify for the Relief?

There are various industries that qualify for R&D relief. Take a look upon these industries and identify that whether you fall into it and eligible for R&D relief or not –

1. Agriculture food
2. Aero-space & defence
3. Alarms & CCTV
4. Automobiles & parts
5. Banking & finance
6. Chemicals, paints & adhesives
7. Clothing , textiles & fabrics
8. Construction & building materials
9. Electronic & electrical
10. Engineering & machinery
11. Food & drink producers & processors
12. Foundries
13. Games software industry
14. Retailers
15. Health
16. Household goods & textiles
17. IT hardware
18. Insurance brokers (software development)
19. Land remediation
20. Lighting
21. Marine
22. Manufacturing
23. Media & entertainment
24. Personal cares, cosmetics & household
25. Pharmaceuticals & biotechnology
26. Printing & construction
27. Software development
28. Telecommunication
29. Travel industry
30. Transport
31. Waste recycling
32. Water treatment

Also See: Claiming Tax Refunds/Rebates And Income Tax Reliefs

Companies Receiving Grant or Subsidies

There is a misconception in the minds of small business owners that if they are in receipt of government grantsor subsidies then they cannot claim the R&D incentives which is not 100% true. The value of R&D tax claim depends upon the nature of the grant. It also determines that whether the claim can be made under SME regime or large company scheme or mixture of both. It can be complex to decide interaction between grant and R&D tax claims. It is suggested that you must take advice of an expert to ensure optimisation of funding position.

Claiming R&D incentives

In order to claim the maximum amount from R&D, it is recommended that companies should submit a claim after taking expert advice so that it is not challenged by HMRC later.

Also See: COVID-19 Mortgage Payment Holiday

Disclaimer - "This article was correct at the date of publication. It is intended for general purposes only and does not constitute legal or professional advice. Independent professional advice should be sought before proceeding with any transaction".

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