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:​