Research and development tax relief 

This increase will see both profitable and loss-making Research and Development Expenditure Credit (RDEC) claimants generate greater benefits from R&D claims. The RDEC is claimed by large non-SME companies but is also available to SMEs, e.g. where their relevant expenditure is met by grants or where they are acting as subcontractors in relevant circumstances.

The RDEC calculation methodology sees the RDEC itself subject to corporation tax, so it’s important to look at the net return from a claim. The changes in UK corporation tax from 1 April 2023 play a part in the calculations also.

Example: RDEC claimant with £100,000 qualifying R&D spend.

SME additional deduction rate decreasing from 130% to 86%.

SME payable R&D tax credit rate decreasing from 14.5% to 10% except for ‘R&D Intensive’ SMEs as announced at Spring Budget 2023.

SME’s will see a reduction in the benefits generated from R&D claims, with SME’s with profits below £50,000 (and as such remaining subject to the 19% tax rate come 1 April 2023) and loss-making SME’s worst affected by the changes.

The Chancellor announced in the Spring Budget 2023 that ‘R&D Intensive’ SMEs would keep the 14.5% payable credit rate. ‘R&D Intensive’ means broadly 40% of total spend is on qualifying R&D. While badged as an ‘additional tax relief’ to these businesses, in reality their tax relief will still see a drop in real terms come 1 April 2023, as a result of the decrease in the SME additional deduction rate.

Example: SME claimant with £100,000 qualifying R&D spend. For loss making companies, we assume they will surrender losses for the payable credit, but other options include carrying back losses (if profits in the prior period) or carrying forward to offset future profits (such actions could create tax relief at 19% or 25% depending on the relevant tax rate to the otherwise taxable profits).

The government stated its intention with these changes was “to ensure the maximum benefit to the UK from the spillovers of R&D activity incentivised by the reliefs.” Draft guidance as to how this would work was published 20 December 2022, and will be part of the Finance Bill 2022-23.

The Chancellor announced in the Spring Budget 2023 that the implementation of this measure would be delayed by a year – it was due to come into force for accounting periods beginning 1 April 2023, and will now be 2024. Welcome news, although perhaps frustrating timing for those companies which have already made changes to how they engage workers and who they contract with, perhaps now shouldering additional costs unnecessarily for a year.

Qualifying expenditure on EPWs will require that the EPW is subject to PAYE and NIC, unless it is qualifying overseas expenditure (see below).

Qualifying expenditure on subcontractors must meet one of two definitions:

It is worth remembering that costs with subcontractors and EPWs often fall into two camps, those incurred with connected parties and those incurred with unconnected parties. Hopefully, it will be possible in a connected relationship for a claimant company to identify what is UK and what is qualifying overseas expenditure. However, this may be increasingly challenging where independent parties are involved.

A key impact of this change will be on multinational groups where the non-UK personnel of overseas group companies contribute to R&D and recharge costs to the UK.

• UK expenditure – activities take place in the UK, for example because the subcontractor’s employees engaged in the R&D activities are carrying out their duties in the UK.
• Qualifying overseas expenditure – the conditions necessary for the R&D must be present in the overseas location, not present in the UK and not reasonably replicable in the UK. Conditions could include geographical, environmental or social conditions, or a legal or regulatory requirement for activities to take place in specific territories. Examples given by HMRC include tracking active volcanoes or deep ocean activities. Notably, cost and availability of workers are specifically excluded factors which will be disappointing to many business owners given the UK’s current skills shortages.

Expenditure on data licences and cloud computing services added to qualifying expenditure definition

It will be welcome news for technology businesses, where data licences and cloud computing costs are rarely insubstantial, that they can reclaim some of these costs via R&D tax reliefs.

It will be necessary that the data licence and cloud costs are connected with activities directly contributing to R&D. Where there is use for multiple purposes, a reasonable apportionment should be made. There are exclusions where rights for onward sale or sharing of data exist.

R&D definition expanded to include activities relating to pure mathematics

The R&D incentives support those making advances in science and technology. The R&D guidance previously stated “Mathematical techniques are frequently used in science, but mathematical advances in and of themselves are not science unless they are advances in representing the nature and behaviour of the physical and material universe.” GOV.UK 

HMRC confirmed that this limitation will be removed so that activities relating to advances in pure mathematics will qualify for accounting periods beginning on or after 1 April 2023. It is not uncommon for there to be an overlap in translating mathematical principles into software, which has created some uncertainty about whether costs qualify or not. The expansion of scope to include advances in mathematics offers a welcome reduction of uncertainty here.

HMRC’s guidance confirms that companies which have not claimed R&D tax reliefs in the previous three years, and first-time claimants, will be required to supply a claim notification to HMRC.

Timing is key:

• the deadline for submission of the claim notification is six months after the end of the financial accounting period which includes the tax accounting period. For example, if a company prepares accounts for an 18-month period to 31 December 2024, and is making a claim relating to the 12-month tax accounting period to 30 June 2024, the claim notification deadline is 30 June 2025 (six months from 31 December 2024)
• if an actual claim is made before the claim notification deadline, no claim notification is required
• the three year test is three calendar years and connects with the date of submission of a claim (not the tax period the claim actually related to).

The claim notification itself includes only basic information although we note from a recent demonstration given by HMRC of the notification portal that it includes a field ‘overview of the R&D projects’ which is notably absent from HMRC’s own list of information required, per its draft guidance.

HMRC have introduced this requirement to tackle abusive R&D claims but it is inevitable that it will also affect businesses who are undertaking genuine R&D but are initially unaware that they could be entitled to claim. Companies may wish to consider making protective notifications where they have not fully explored their claim prospects within this narrow timeframe.

As a reminder, a company has two years from the end of a financial accounting period to make a claim for R&D tax reliefs (provided they have notified within the time limit where required).

New digital claim submission requirements

HMRC is introducing an online ‘Additional Information Form’ which has to be submitted before or at the same time as an R&D claim is submitted (the claim itself still being submitted with the tax return).

The form will be accessible on GOV.UK from April 2023. We have been able to have a preview and can confirm It’s a simple style of form with fields to enter basic company and agent information, details of the projects undertaken and the costs associated with the projects. The form also has built in rules around the proportion of projects HMRC expects to receive information on, and when it comes to narrative there is scope for considerable word count.

This is another step taken by HMRC to enable it to identify and tackle fraud in R&D claims and it can only be good news for improving standards. As a firm, it has been our practice to prepare and submit detailed claim reports when supporting our clients in their R&D claims. We can see the benefits to the tax system in having this information mandated for all R&D claims and being received by HMRC in a consistent, digital manner. We hope that HMRC’s next step will be to analyse the information they receive to allow it to focus their R&D enquiry efforts accordingly!