Spring Budget 2017: R&D Tax Credits to Get Better

Philip Hammond delivered his Spring Budget Statement today kicking off his first tax announcement directly addressing the importance of the UK R&D Tax Credit incentive to business and the UK's worldwide competitiveness

"As I committed at the Autumn Statement, we’ve reviewed, with business, our R&D tax credit regime and concluded that it is globally competitive.

But to make the UK even more attractive for R&D we have accepted industry calls for a reduction in administrative burdens around the scheme and will shortly bring forward measures to deliver them"

- Rt Hon. P Hammond, Chancellor of the Exchequer​

Any efforts to reduce the administrative burden and make the R&D tax relief more accessible to companies is welcomed. 

We look forward to hearing more about proposed improvements and helping companies make the most of this most generous UK Government tax incentive​

Research and Development Expenditure Credit (RDEC) Guide

The Research and Development Expenditure Credit ('RDEC') is a Government tax incentive available to Large companies and replaces the legacy enhanced corporation deduction (30%) with effect from 1 April 2016

This supplements the SME R&D Tax Relief and applies to companies that are not defined as SMEs or certain situations where the SME R&D tax relief is not available to SMEs (see further below)​

What are the key tax benefits of the RDEC?

The RDEC provides a reduction in corporation tax payable for profitable companies or a repayable tax credit for loss making companies that equates to 8.8% of the total qualifying R&D expenditure in the period

  • The RDEC allows loss making Large Companies to claim cash tax credits from HMRC - previously only available to SME companies 
  • The RDEC provides a net cash tax benefit of 8.8% on qualifying R&D expenditure (at a corporation tax rate of 20%)
  • The RDEC allows for greater flexibility for Large Companies as they were previously ineligible for tax credit payments up until 1 April 2013

Who is eligible for the RDEC?

Large Companies

SME subcontractor

SME - subsidised expenditure

SME > €7.5m

Companies (or groups) that fail the SME thresholds for R&D tax purposes - see further below

SMEs acting in capacity of subcontractors on behalf of Large Companies

SMEs in receipt of grant funding or other subsidised R&D work

SMEs that exceed the maximum SME project expenditure limit of €7.5m 

What is the definition of an SME for R&D tax purposes?

A SME is defined for R&D purposes as a company with:

  • ​< 500 employees AND either:
  • turnover < €100m OR
  • gross assets < €86m

Group companies need to be considered plus linked or partner enterprises as part of this test​

What costs are eligible under the Large Company RDEC scheme?

​The following costs are eligible under the Large Company RDEC scheme:

  • staffing costs paid to directors / employees
  • expenditure on externally provided workers
  • software and materials
  • contributions to independent research
  • subcontracted - limited to qualifying bodies and individuals / partnerships

​This is broadly similar to the definitions for SME R&D tax credits although particular note should be taken of the more restrictive interpretation of qualifying subcontracted costs

What is the RDEC uplift?

The current rate of uplift on qualifying expenditure under the RDEC is 11% (10% up until 1 April 2015)

The 11% uplift is applied to the total of the qualifying expenditure for R&D tax purposes under the Large Company scheme​

​Up until 1 April 2016, companies could elect to claim the enhanced R&D tax deduction under the Large Company Scheme of 30%. No R&D tax cash credit was available under this legacy scheme. This legacy Large Company enhanced R&D relief was phased out in full with effect from 1 April 2016

How is tax relief given under the RDEC for Large Companies?

The RDEC operates differently to the SME R&D tax scheme in that the uplift on qualifying costs creates a taxable receipt in the profit & loss account - this compares with the SME scheme that recognises the benefit of the R&D tax relief solely through the company's corporation tax line in its statutory accounts

​The credit to the profit and loss account increases profits or decreases losses in the period. This is why it is often referred to as an ' above the line' credit

It is recognised above the line in order to reflect the benefit of the R&D tax relief to the company as it can otherwise be overlooked when processed solely through the tax line - treated in this way, it is more akin to a grant in how it is reflected in the company's accounts

​The credit is taxable and - assuming a corporation tax rate of 20% - the cash tax benefit is currently 8.8% of the qualifying R&D expenditure

Example calculation of how the RDEC works - profitable company

Profitable company example

Pre R&D

Post R&D

£

£

Turnover

1,200,000

1,200,000

Less: qualifying R&D tax costs

(400,000)

(400,000)

Other costs

(200,000)

(200,000)

R&D Tax Credit @ 11%

44,000

Profit before tax

600,000

644,000

CT @ 20%

(120,000)

(128,800)

Less: R&D Tax Credit

44,000

Revised tax payable

(120,000)

(84,800)

R&D Cash Tax Benefit = £35,200 or 8.8% of the £400,000 qualifying R&D spend 

Example calculation of how the RDEC works - loss-making company

Loss-making company example

Pre R&D

Post R&D

£

£

Turnover

1,200,000

1,200,000

Less: qualifying R&D tax costs

(400,000)

(400,000)

Other costs

(900,000)

(900,000)

R&D Tax Credit @ 11%

44,000

Loss before tax

(100,000)

(56,000)

CT @ 20% (on R&D tax credit)

(0)

(8,800)

Less: R&D Tax Credit

44,000

R&D cash tax credit payable to company *

35,200

R&D Cash Tax Benefit = £35,200 or 8.8% of the £400,000 qualifying R&D spend *

* Note that there are other conditions that must be satisfied before a cash tax credit is payable to the company under the RDEC scheme (see further below)

7 stages to receiving cash tax credit rebate under RDEC scheme

The 7 stage process is designed to ensure that only those companies that are up-to-date with their tax affairs and payments can benefit from the cash tax rebate option

We are going to simplify the 7 step test to 'just' 5:

1

Deduction of corporation tax at main rate

The repayable tax credit is payable only after first deducting the corporation tax due (including on the tax credit) in the period

2

PAYE / NIC cap

The repayable tax credit is capped by the PAYE/NIC amount paid by the company in the period in relation to the staff engaged in the R&D - note that this cap does not take into account the % apportionment applied to the employee staff costs as part of the claim calculation

3

PAYE / NIC / VAT arrears payable first

The repayable tax credit is payable to the company only after HMRC has checked for any arrears in relation to corporation tax, PAYE / NIC or VAT that will be deductible against the credit in advance

4

Optional set off against group company CT liabilties

The repayable tax credit is offsetable against corporation tax liabilities of group companies in the period

5

Going concern requirement

The company must be a going concern to be entitled to the cash tax credit

Yes, you read it right - we've simplified the 7 stage test into 5 to capture the essence of HMRC's requirements 

Other differences between the RDEC and SME R&D Tax Credit Scheme

Aside from the fundamental difference in application and approach to give effect to the tax relief within the financial statements of a company, the definitions of R&D remain the same

A company is required to prepare and file a justification report that supports the underlying nature of the qualifying project work along with supporting claim calculations​

In terms of the qualifying expenditure there is one key difference and this is in relation to subcontracted costs

Subcontracted costs to companies are not eligible under the Large Company scheme. It should be noted that 'externally provided workers'​ (EPWs) are an eligible cost and therefore it is more important than ever to get the distinction right between EPWs and subcontractor relationships

It should also be noted that in the more restricted situations where the subcontracted costs do apply (e.g. for work subcontracted to qualifying bodies such as Unis or to individuals), the 65% cap that applies under the SME relief does not apply

Practical issues to consider in relation to the RDEC incentive

The RDEC is applied in a fundamentally different ways to the SME R&D tax credit scheme and therefore there are number of issues to consider:

  1. How the tax credit is treated in the profit and loss account under accounting standards - sometimes it is classified as a grant; however, this is for discussion with your accountants or auditors 
  2. Impact on the financial accounts going forward if an estimate is of the tax credit is included or the claim is later challenged by HMRC and subsequently reduced. It is important to track the credit subject to tax in the accounts and to make any adjustments in the tax computation for under or over charges to taxation
  3. Impact on quarterly instalment corporation tax payments should be considered for cashflow planning purposes given that the tax credit calculation has the effect of increasing taxable profits 
  4. Impact on the effective tax rate for group tax planning given the higher profits subject to tax after taking into account the above the line tax credit

Don't forget about the Patent Box

The RDEC has been designed to work alongside the Patent Box and therefore companies with qualifying patents should ensure that they have considered how to optimise the Patent Box tax relief in addition to the RDEC

How we can help

We are specialists in R&D tax advisory and can offer an end-to-end solution in preparing and filing your RDEC claim with HMRC

We are also accountants so this means that we can also advise on how your claim fits into the 'bigger picture' of your overall company tax profile

Give us a call for a no obligation discovery call:​


HMRC R&D Tax Credits Simple Guide

HM Revenue & Customs has recently released a "simple" guide for companies seeking to claim research and development tax relief (R&D tax credits)

With the subtitle "Making R&D easier for small companies", the guide is useful for companies that may be new to this tax incentive as it seeks to cover the key principles for qualification, eligible costs and some common areas of complexity (e.g. SME definition, subcontractor status etc).​

Here's what we like about it:

  • Useful summary of how to show that your project qualifies within the R&D tax rules
  • Clear illustrated example on applying the SME definition in group situations
  • Example of a project timeline and elements that might fall in / out of qualifying costs  
  • Clear explanation of eligible and ineligible expenditure
  • Some good case studies - to help bring it to life
  • FAQs section and glossary - to help with the jargon!

There's not a lot not to like about this guide and it is a useful addition to the overview that HMRC already provides (which is a bit more generic). 

You can download the R&D Tax Relief Simple Guide here. ​

Tech Startups – Boost Your Funding with R&D Tax Credits

It is all too easy for UK technology startups to get bogged-down in the red-tape of running a business. Founders are frequently caught up trying to keep on top of books and records to ensure compliance with UK government and HM Revenue & Customs requirements - especially with one eye on a 'clean' future exit event.

This compliance distraction is often at the expense of the myriad of government tax incentives that exist to provide financial and cashflow support to UK startups and fast growing clever companies (potentially a significant expense if missed...).

During the early funding rounds, the Seed Enterprise Investment Scheme ('SEIS') and Enterprise Investment Scheme ('EIS') can provide a much welcomed boost to equity financing - It seems that the attraction of the SEIS and EIS tax incentives have caught the imagination of many tech startup entrepreneurs and business angels alike and we continue to help increasing numbers of start-up companies access and navigate these tax incentives.

​"Yet we continue to be surprised by the number of tech company founders who are unaware of the R&D tax credits incentive and the potential positive impact this tax relief could have on the company's cashflow (potentially year on year)"

The R&D tax incentive can be claimed alongside the SEIS and EIS tax reliefs to help provide a further boost to the cash equity injection. Also, don't forget that the R&D tax credit relief aims to complement the UK Patent Box tax incentive.

Tech startups can recover up to 33% of the costs that they have incurred on qualifying R&D projects and with the level of innovation across the UK in the tech space, these claims are becoming increasingly commonplace.​

​So if you are the founder of a tech company in the UK (or from abroad if you have a UK branch), make sure you don't miss the cashflow funding benefits of the R&D tax credits incentive.

Yet More R&D Tax Credits Success for CRM Software Development company

Following on from a successful R&D tax credits claim totalling £245,000 when we were first engaged to act last year, our client has just secured a further £188,000 in cash tax relief under the UK R&D Tax Incentive! 

Our initial claim totalling £245,000 covered two accounting periods and has since allowed the company to expand its software development team thereby accelerating its progress.

The company was profitable in its most recent financial period and therefore our claim for enhanced R&D tax relief wiped out a corporation tax liability of £54,000 AND created a tax loss that the company could surrender for R&D tax credits totalling £134,000. 

The Company is engaged in the development of CRM software architecture. The nature of its technical work involves the development of proprietary algorithms capable of optimising the interactions of the CRM system with its users. 

If your company is engaged in the field of software development, please contact us to discuss your potential eligibility for R&D Tax Credits further

You got SEIS / EIS Advance Assurance – Now What?

"SEIS" and "EIS" are very much buzzwords in the world of startups and funding right now. You may have already secured advance assurance from HMRC that your company qualifies under either or both schemes but then you start to wonder - what next...?

Here we share some practical pointers on what you as the Founder should consider as your next steps:

1. GET READY TO OFFER SHARES IN YOUR COMPANY TO INVESTORS

Understand your obligations to your investors. Take professional advice particularly in relation to your offer document and any shareholders agreement. It is fresh issues of shares only that qualify under SEIS & EIS. Also, remember your obligations extend for at least three years beyond the issue of the SEIS / EIS shares to your investors

2. DRAW UP A DETAILED SHARE CAPITAL TABLE (IN SPREADSHEET FORMAT)

No Founder can be without a detailed spreadsheet share cap table with each step mapped out from the Founder (subscriber) share issues and then for each round thereafter (SEIS, EIS and onwards). This allows the Founder to keep track of respective valuations, % shareholdings and to observe dilutions at each stage

3. SEIS FIRST, EIS AFTER (ALWAYS)

That order ONLY. So if you are planning on fundraising for both (and you have advance assurance for both) ensure that you allow at least ONE day to pass between the issue of the SEIS shares and the EIS shares thereafter

4. WATCH THE GROSS ASSETS LIMITS FOR SHARE SUBSCRIPTIONS

A ‘nice to have’ problem that many Founders would be envious of (!) but make sure that any share subscriptions from investors do not breach the ‘gross assets’ test at the time of the share issue. More likely to be a problem under SEIS with its lower £200k gross assets limit

5. DON’T LET ANY SEIS / EIS INVESTORS BREACH THE 30% LIMIT

This is where your nifty spreadsheet will come into play. Make sure that % shareholdings are shown and that no SEIS / EIS investors ever exceed 30%. Watch out for “associates” whose shareholdings will be aggregated e.g. spouses, parents, grand-parents, children, grand-children (brothers & sisters are okay)

We have a further 5 tips for Founders (so 10 in total) that we have pulled together into a handy one-pager PDF tip sheet. You can download it now via the link below

R&D Tax Credits Claims on the Increase for SMEs

HMRC has released its annual Research and Development Tax Credits Statistics for the years 2014-15 that show an increase in R&D tax credits claims

Here is a summary of the key points:

  • ​16% increase in number of SME R&D tax credits claims from 16,005 (2013-14) to 18,630 in 2014-15
  • £325m increase in tax relief claimed by SMEs topping £1bn in total in 2014-15
  • £21.8bn of R&D expenditure qualifying for R&D tax relief  
  • Manufacturing, Professional, Scientific & Technical plus Information & Communication sectors made the greatest volume of claims - 77% of total claimed

16% increase in number of SME R&D Tax Credits claims up to 18,630 in 2014-15

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But it wasn't all necessarily good news - reading between the lines:

  • 22,445 total number of R&D tax credits claims out of c5m companies in the UK - suggests many are still missing out...
  • The North East, Wales and Northern Ireland appear to under claiming relative to other areas of the country (with the South East, West Midlands, North West and London fairing well)
  • Construction, Wholesale / Retail, Transport and Food are sectors that are under-represented in R&D tax claims relative to number of returns filed 
  • Overall growth in claims falls behind the previous year's growth

22,445 total number of R&D Tax Credits claims V c5m companies in UK - suggests many still missing out...

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Here are our thoughts on the statistics announced:

"We are continuing to see increasing numbers of claims for R&D tax credits as general awareness seems to be on the increase - our experience in relation to the sharp increase in IT & Software related claims definitely bears this out with huge numbers of successful claims

But more evidently still needs to be done as the growth in number of claims has slowed in 2014-15

For the total number of companies that are taking a risk in seeking to develop new products or services to be pegged at 22,445 looks like an understatement to us - 22,445 out of c5,000,000 companies....really?"

There is a time-lag as these stats relate to 2014-15 - we expect to see a further uptick to the stats for 2015-16. 

How do you claim R&D Tax Credits?

R&D Tax Credits Claims Explained

It can often be confusing understanding how R&D tax credits are actually claimed by companies.

After all, there are a whole myriad of funding options out there including:

So where do R&D Tax Credits fit in and how are claims made?

R&D Tax Credits claims are filed with HM Revenue & Customs (HMRC) within your company's corporation tax return - called a Form CT600.

CT600 to claim R&D tax credits

​Your company is required to file a corporation tax after each financial accounting period in order to calculate and disclose to HMRC the amount of corporation tax payable or tax losses claimed.

The CT600 is normally accompanied by a Corporation Tax Computation which shows the details behind the calculations shown in the CT600. To most people, the CT600 is hard to follow as it simply plucks out relevant figures from the corporation tax computation to allow HMRC to extract and process the information they need.

The processing of tax returns is largely automated these days as tax returns, computations and accounts are ​coded into a form of computer language called iXBRL - but you don't need to worry about this (unless you are filing your return yourself!).

Where does the R&D Tax Credit claim go in the CT600 tax return?

The R&D tax credits claim figures for an SME that is claiming an R&D tax credit payment from HMRC will complete the following boxes within its CT600: 

  • Box 530 - Research and Development Credit - the amount of the R&D tax credit claimed
  • Box 545 - Total of Research and Development credit, and creative tax credit - in most cases the same figure as in Box 530
  • Box 570 - Surplus Research and Development credits or creative tax credit payable  - in most cases the same figure as in Box 530
  • Box 660 - R&D Enhanced expenditure - the enhanced R&D tax deduction i.e. the uplifted 230% figure
  • Box 670 - R&D and creative enhanced expenditure - in most cases the same figure as in Box 660

Note that our comments are in italics above and that this relates to a new version of the CT600 for accounting periods starting on or after 1 April 2015

A couple more important Boxes not to miss out on the CT600 if you want to ensure a speedy processing of your R&D tax credits claim by HMRC:

  • Put an 'X' in Box 40 to confirm that a repayment is due for the period - for your R&D tax credit payment
  • Don't forget to include your bank details in page 10 to allow HMRC to process a bank transfer - much quicker than a cheque (especially when you take into account the fact that HMRC send mail second class!

Can I file my R&D Tax Credits claim early?

As noted above, your R&D tax claim is filed within your CT600 tax return. A return is necessary after each accounting period. 

This can cause potentially severe cashflow problems for some companies - especially early stage companies.

Imagine the worst case scenario in which a company elects to have an 18 month accounting period and bumps up against its statutory deadlines at each stage:

  • 18 months to the end of the period of account - before it can even start the process of recovering some of the R&D expenditure
  • Up to 9 months to prepare the accounts 
  • A further 3 months to prepare and file the CT600 including the R&D tax credit claim
  • 30 days for HMRC to process the claim
  • 10 - 14 days to receive payment

​That's nearly 2.5 years beginning to end!

Many entrepreneurs and founders are unaware of the potential time lapse between incurring the expenditure on qualifying R&D activities and getting a cash rebate from HMRC. Hopefully this highlights the potential issue...

A better plan for an early stage company might be to map out its cashflow and specific R&D milestones and consider 'shortening' (rather than lengthening as so many companies seem to do) its first accounting period to say 6 months. 

With a bit of impetus and focus, a well planned startup might be in a position to recover some of its R&D expenditure within less than one year from incorporation.

How far back can I make a claim for R&D tax credits?

A company is required to file a corporation tax return within 12 months of its accounting period end. So a company with a 31 December 2015 period end is required to file its corporation tax return by 31 December 2016.

​R&D Tax Credit claims have a two year time-limit in order to make a valid claim.

This means that it is possible to file a claim not only for its most recent period end (31 Dec 2015 in our example above) but also for accounting periods ended within the past two years. If the company had followed 31 Dec calendar year ends in previous periods, then it would be possible to file an amended return for the period ended 31 December 2014 before this time-limit expired on 31 December 2016.

​It is possible to make a claim for two or even three periods if a company had changed its accounting period end in the past two years and therefore these period ends still fall within the last two years. 

It is worth noting that an accounting period for corporation tax purposes cannot last longer than 12 months. So an 18 month period of account would actually be made up of one corporation tax return covering the first 12 months and a second accounting period lasting 6 months. ​This is an example of where a company may have more than two open periods within the past two years.

Finally, don't dismiss how far you can go back in time to recapture historical R&D activities and expenditure if the opportunity of claiming R&D tax credits had previously perhaps passed you by....

At the time of writing this article (21 Sept 2016) a company with a period ended 30 Sept would find that it has its periods ended 30 Sept 2015 and 30 Sept 2014 still open for retrospective R&D tax claims.

Taking the 30 Sept 2014 period, a company might have carried out some R&D work in the first three months of this period - that's way back in 1 Oct 2013 - 31 Dec 2013 and this is still open for a claim - for 9 days (and counting.....).

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