Based on our extensive experience of preparing R&D tax credit claims, we have compiled a list of the key considerations for a company when making a claim for R&D tax relief. If you can avoid falling victim to the most common pitfalls you should be able to maximise your R&D tax credits claim and the tax relief available to your company.
- Identify whether your activities qualify under the R&D legislation
This one might sound simple, but the first stage in considering any R&D claim is ensuring that the work the company has undertaken meets the specific criteria set out in the R&D legislation and guidance.
Many companies can miss out on potential tax benefits as they don’t believe the rules apply to them. Research and development activities are not just carried out by scientists in white lab coats; it can apply to many different industries as long as the following key characteristics can be established:
- That the work undertaken must seek to achieve an advance in science or technology (ie improving the overall knowledge or capability in a field of science or technology)
- That the advance is achieved through the resolution of a scientific or technological uncertainty (ie the solution is not readily deducible by a competent professional working in that field)
- Be clear on which R&D regime you are making a claim under
There are two separate R&D regimes in the UK and each has different rules regarding the expenditure that can be claimed and how the relief is received. The next step in preparing an R&D tax credits claim is therefore to determine the regime which your company falls under, which is based on the size of your company (and any linked companies).
If your company is an SME, it will normally fall under the SME R&D tax relief regime. If your company is large (or you elect to be treated as large) it will make R&D claims under the RDEC regime. A larger company is one with:
- More than 500 employees; and
- An annual turnover exceeding €100 million and/or a balance sheet totalling more than €86 million.
- Have an understanding of which costs do and do not qualify
A company can only include certain expenditure in an R&D claim according to specific categories established under the tax legislation. These costs include:
- Staff costs – A proportion of salary costs, employer’s NICs and employer pension contributions can be included for all staff that work on the R&D project. Where founding shareholders are remunerated via dividends rather than salary, these costs cannot be included in the claim. Travel expenses are also unable to be included unless an employee pays for them directly and the company reimburses them.
- Consumables – Any materials used up or transformed by the R&D project can be included in a claim. This can include raw materials for prototypes, software purchased for R&D purposes and potentially utilities such as heat and light utilised in R&D facilities.
- Subcontracted costs and externally provided workers – If you employ a consultant or use agency workers to help undertake parts of the R&D work which are outside the skill set of your current employees, these costs can also be included in the claim. As such workers will include a profit margin in their fee, HMRC will only allow you to claim 65% of the total cost the company incurs.
We would suggest that a thorough review of all costs in respect of the R&D projects is undertaken in order to maximise the claims as far as possible. The rules determining whether costs can be included in a claim can be complex depending on the particular circumstances for each company, and therefore it is important to seek advice to ensure costs are included correctly.
- Give careful thought to the most beneficial way of claiming the relief
Depending on the company’s situation, there are a variety of ways to claim the R&D tax relief. For companies that are not profitable, an R&D claim will increase the amount of losses available in the company going forward, rather than reducing the corporation tax liability. However, there is also a mechanism under the SME regime whereby those losses can be surrendered to HMRC in return for a tax free cash payment.
The cash repayment is generated at a rate of 14.5% of the losses surrendered and is therefore less beneficial than carrying the losses forward and offsetting them against future profits of the company at the current corporation tax rate of 19% (reducing to 17% from April 2020). However, the position in respect of losses depends on the forecasted position for the company in the future; if your company is not expected to generate profits within the next few years, it may be more beneficial for the company to surrender the losses now and claim the cash injection which can be so vital to start up businesses.
- Consider any other reliefs you get in respect of the same expenditure
HMRC are not comfortable with companies claiming multiple reliefs on the same type of expenditure. For example, if your company receives grant funding in respect of a particular project, it may limit the amount of R&D tax relief that can be claimed. It is important to fully consider the terms of the grant funding to determine the impact this may have on your claim before you proceed.
- Include a supporting narrative with your claim
Whilst the Government is actively encouraging companies to make R&D claims, it also wants to make sure that they are only made by companies in the correct circumstances. In order to demonstrate clearly to HMRC that your company qualifies, we would always suggest a supporting narrative is included alongside the claim in your corporation tax return.
This narrative should set out specific details about the type of R&D work being undertaken, the costs included in the claim and how each of these meets the specific criteria set out by HMRC as qualifying R&D. In our experience, the more information that is included in the report, the better, as this demonstrates clearly to HMRC why the company qualifies for R&D relief and reduces the risk of HMRC asking for additional information or opening an enquiry into the company.
- Make sure the claim is submitted within the appropriate time frame
An R&D tax relief claim is made within a company’s corporation tax return, which must be submitted within a year of the company’s accounting period end. The company then has a further year to amend that return, for example to include an R&D claim. Therefore, a company can usually consider up to two year’s worth of expenditure when it first begins making R&D claims. We recommend taking action sooner rather than later if you believe you may qualify for R&D to ensure a claim period is not missed.
If you are unsure as to whether you would qualify for R&D tax relief or would like some assistance from our tax team with a claim, please email us at firstname.lastname@example.org and we would be happy to provide additional guidance and advice.