Carrying out research and development (R&D) can be an expensive part of developing your product/service and growing your business. So, finding a way to claim back tax against your R&D costs is a sensible way to reduce your costs and free up more cash for growth investment.
Expenditure on your R&D can be claimed against tax at a rate of up to 230% of the actual costs for small to medium-sized enterprises (SMEs). If your company is loss-making (and therefore has no tax liability) then a payable tax credit can be claimed.
Is my company eligible for the relief?
To be eligible for the R&D tax relief for SMEs, your company must have:
- Less than 500 employees, and either
- Turnover below EUR100 million, or
- Assets below EUR86 million.
Where you have qualifying expenditure that’s been incurred on R&D projects, allowable costs are increased by an additional 130% for tax purposes. So, for every £100 spent, £230 can be deducted from your profits when calculating tax – a helpful relief against your tax costs.
How does the relief work?
So, how does the R&D tax relief work in practice?
- The project you’re working on must be more than just applying existing solutions to a routine problem. The BEIS guidelines say that, for tax purposes, an R&D project is one that seeks to achieve an advance in science or technology through the resolution of scientific or technological uncertainty. The knowledge being sought must not be already available in the public domain.
- This definition of ‘advancing knowledge in science or technology’ is wide-ranging, and has encompassed a range of projects including developing ways of artificially ageing materials to produce bespoke ‘antique-looking’ furniture, developing packaging to improve the shelf-life of perishable goods or creation of software for either sale or internal use. It’s not just restricted to activities carried out by scientists in lab coats.
- The guidelines include work on both products and services for sale and developing equipment and processes for internal use. It doesn’t cover the cost of projects where you are carrying out R&D work as a chargeable service to your clients, as that is seen as just normal cost of sales.
- The costs to use in calculating the claim include salaries of staff working on, or supporting, the project (pro rata, if not wholly involved). Where employees are provided by third-parties, e.g. agency workers, they must be paid through a UK payroll. It also includes the associated employer National Insurance and pension contributions for these employees, plus the costs of software, cloud computing costs, online storage, materials consumed and an appropriate share of the utility bills. Where you subcontract part, or all, of the work to a third-party, 65% of those charges go into the calculations, provided that the work is physically carried out in the UK.
- To claim the allowance or payable tax credit you will need to provide a report explaining what scientific or technical uncertainty you were trying to overcome. You also need to explain how your project attempted to resolve it and why it couldn’t be easily worked out by a professional working in the specific field or sector. NOTE: the project doesn’t have to be successful to qualify for the relief.
What if you are making losses?
Using the current 19% corporation tax rate, every £1,000 of qualifying expenditure will result in a tax saving of £437. If you’re making a loss, rather than carrying it forward, you can opt to surrender it for a payable tax credit of 14.5% of the loss – that’s a cash receipt of £333.50.
- For accounting periods beginning on or after 1st April 2021 this payable tax credit is capped at a maximum of £20,000 plus 3 times relevant expenditure on workers during the accounting period.
- For accounting periods shorter than 12 months, the £20,000 amount is reduced proportionally.
The ‘relevant expenditure’ is the total due for the accounting period in respect of PAYE and Class 1 NI contributions (both employer and employee contributions) for all employees. Any deductions for statutory parental leave should be ignored. Where R&D is subcontracted, or where workers engaged on R&D are externally provided by a connected company, an appropriate amount of PAYE and NI in respect of those workers can also be included in the cap.
The cap does not apply where the company meets both of the following conditions:
- Condition A is that the company is creating, or preparing to create, relevant intellectual property, or performing significant management activities in respect of its existing IP.
- Condition B is that no more than 15% of the qualifying R&D expenditure must be for work subcontracted to a connected company or for externally-provided workers from a connected company.
Under all circumstances, the maximum amount that can be surrendered for a payable tax credit is the lower of the unrelieved trading loss for the period and 230% of the qualifying R&D expenditure.
Whether or not a cap applies, it may be better not to surrender the loss, but instead to carry it forward to reduce future tax payable. You should also be aware that any amount payable may be offset against other amounts due to HMRC for corporation tax, VAT and PAYE.
Talk to us about exploring the R&D allowances
It’s possible that your company has been carrying out qualifying R&D work without even realising it. If you are, that’s a substantial tax relief that could be lost.
Come and chat to us about your recent development work. We’ll be able to let you know if your R&D work is eligible and can help you to prepare the complex claims documentation.