What is changing in the world of R&D tax credits?

Research & Development (R&D) tax credits have been in the news a lot of late – two significant changes to the scheme are expected to take effect from April 2023 while more imminently, HMRC is investigating the huge volume of what they call ‘spurious’ claims which have increased over the past few years.

R&D tax credits are intended to support companies who are investing in science and technology projects or schemes. To qualify, companies need to already pay corporation tax and the associated project should involve either advancement, innovation or research in the science and technology areas. Staff costs, research contributions and software all qualify under the scheme.

For SMEs with less than 500 staff and a turnover of under 100 million euros or a balance sheet total of under 86 euros, they are entitled to a payable credit rate of 14.5 per cent and an enhanced rate of 130 per cent.

Larger companies who claim R&D tax credits under the Research and Development Expenditure Credit (RDEC) scheme are entitled to a 13 per cent RDEC rate.

Here’s what accountants – and businesses – need to know about activity around R&D tax credits:

HMRC investigations (ongoing): HMRC are now clamping down on ‘spurious’ R&D claims. Their own figures show that £612million has been lost through incorrect R&D claims. As part of this, HMRC have recruited 100 additional caseworkers to add a heightened level of scrutiny over R&D claims.

R&D tax credit changes (from April 2023): Chancellor Rishi Sunak announced during the budget that there would be two significant changes to the R&D scheme from April 2023 including:

• Extension of R&D scheme. Currently, cloud computing and data costs are not included in the scheme but under the changes, the scheme will be extended to include these key areas in recognition of increased use of cloud software and data hosting.
• Focus on UK-only innovation. From April 2023, R&D claims will be restricted to UK-only activity which may affect companies who subcontract R&D overseas.

We spoke to a few accountants across the industries to find out their views on the R&D reforms and recent HMRC investigations.

Carry out due diligence if outsourcing R&D tax relief xpertise on claims

Keiron Kelly, Tax Partner, Sherlock & Co

Two key sectors that seem to be attracting a lot of attention currently within R&D investigations are the software and construction industries. This isn’t a problem for businesses who have legitimate claims but, as it’s a highly technical area, we’d always recommend using an accountant who either has internal expertise or who opts to bring in outside help. There are a number of companies that specialise in R&D tax relief but they’re not all born equal so it’s important you do your due diligence. Investigations can be demanding, stressful and costly if a claim cannot be defended, and HMRC is increasingly involving their Chief Digital Information Officer (CDIO) and IT specialists to guide inquiries. The department also has a panel of construction specialists to steer challenges in that industry. Across all sectors, HMRC is demonstrating a determination to see evidence of payments after a high-profile R&D tax credit fraud.

Next steps: Carry out due diligence on companies specialising in R&D tax relief to ensure you receive the best advice.

Verdict: Carry out due diligence if outsourcing specialist R&D tax relief expertise

Ensure clients understand impact of latest R&D tax reforms

Nigel Holmes, head of R&D technical operations, Catax

There’s so much going on in the R&D tax credit arena. The Government announced cloud computing and data costs are to become eligible from April 2023 and this promises to be fertile ground for tech-focused UK companies. Many firms will be hoping these additional areas make up for shortfalls elsewhere because the Chancellor has also just declared that overseas R&D spending will no longer qualify.

A ‘PAYE Cap’ that links the maximum benefit for loss-making companies to their NIC and PAYE liabilities also came into effect in April this year, heavily impacting some smaller businesses. 

The pandemic has also complicated matters. Due to state aid rules, some R&D projects staffed by employees who received Coronavirus Statutory Sick Pay Rebate (CSSPR), must be claimed for under the less generous RDEC scheme, shrinking the overall benefit. 

Next steps: Accountants will need to explain to clients what the impact will be and advise on whether it’s worth bringing some or all of their R&D activity back to the UK. 

Verdict: Ensure clients understand the impact of the latest R&D tax credit reforms and how they apply to RDEC where relevant.

Tackling abuse of R&D tax reliefs

Jenny Tragner, director, ForrestBrown Ltd

Research and development (“R&D”) tax relief is a vital part of the ecosystem that supports innovation investment in the UK. With the Government doubling down on its commitment to turn the UK into a science superpower, it is more critical than ever that we have an effective and well-targeted tax incentive to encourage business investment in R&D.

There is much work to do if we are to secure the future success of R&D tax relief in the UK. We have already seen increased compliance activity from HMRC and legislative changes designed to improve targeting of the relief and tackle abuse.

Part of HMRC’s renewed compliance focus has been a spate of tax tribunal cases, many of which have revealed worrying shortcomings in the quality of taxpayer R&D claims. However, HMRC’s recent and notable loss on subsidised expenditure exposes a need for clearer guidance on some of the technicalities of the legislation to ensure that their compliance efforts remain within the intent of Parliament.

The accounting industry has also moved forward in its approach to R&D tax relief, with guidance published by the main accounting and tax professional bodies on professional standards and R&D tax advice.

However, there remains much disinformation about R&D tax relief, and too many businesses are falling foul of poor or negligent advice from unregulated agents. Greater awareness of the benefits of engaging with a properly qualified professional adviser would enable businesses to make informed decisions and protect themselves from the threat of bad advice. ForrestBrown and AAT have published an eBook guiding taxpayers on what they need to know before engaging with an accountant or tax advisers.

Next steps: Innovative businesses should ensure they understand the current environment and how this may affect the risk profile of their R&D tax relief claim. ForrestBrown and AAT’s guide can help them to make the right decision.

Verdict: The ongoing consultation is an opportunity for all relevant stakeholders to help shape the future of R&D tax incentives in the UK.

R&D claims must be properly considered and justified

Anthony Lalsing, Director and R&D specialist, Menzies LLP

R&D tax reliefs have had little change since their introduction in 2000. The Autumn Budget 2021 saw the Government announce welcome reforms to support modern research methods by expanding qualifying expenditure to include data and cloud costs.

The potential removal of overseas costs from R&D claims is significant and although the devil will be in the detail, there will be planning around commercial considerations vs tax relief.

Meanwhile, the ever-increasing number of spurious R&D claims has prompted the Government to act, whilst not discouraging companies making genuine claims.

For a number of years, HMRC adopted a light-touch approach with few disputes reaching First Tier Tribunal. Recent cases ruled in favour of HMRC show HMRC’s hardening stance and a willingness to challenge R&D claims.

Next steps: with increased scrutiny from HMRC, it is important that businesses engage with specialists to ensure claims are properly considered and justified.  

Verdict: R&D claims must now be properly considered and justified in order to avoid HMRC investigations.

Businesses should use their official tax agent for R&D claims to protect against rogue R&D advisers

Simon Littlejohn, Director and Founder, SLJ Accountants

Unfortunately, too many ‘rogue’ advisers are saying ‘yes’ to activities that do not qualify for R&D tax relief. For example, they may claim a company’s activity is a qualifying R&D project when it isn’t or that it’s a significant advance in science and technology.

In addition, some rogue R&D advisers may make claims without involving the company’s official tax agent, therefore side-lining this agent’s professional and correct advice. A tax agent’s solid professional relationship with a client can be threatened by an outsider saying ‘yes’ to what the agent may have already dismissed. 

Next steps: To protect themselves, businesses should only submit R&D claims through their own recognised tax agent. These claims must both identify and quantify R&D costs.

Verdict: A tougher approach is needed for advisers pushing spurious claims. We know that HMRC lacks the resources, but the plethora of incorrect claims is giving the profession a bad name. 

Consider wider relief claims such as Patent Box or Capital Allowance Super Deduction alongside R&D for maximum benefit

Jonathan Scott, Tax Partner at Haines Watts, Newcastle

The extension of the R&D scheme to include cloud computing and data costs is a huge step in the right direction.

Yet whilst it’s great to see the scheme is being modernised to include such costs, cases of fraud and improper relief are still on the rise. With HMRC making an active bid to clamp down on this, we can expect much more scrutiny going forward.

Some of these spurious claims are happening because the tax profession is unregulated which has created a rise in the number of tax boutiques, not all of them legitimate. Some aren’t members of professional bodies and don’t follow industry guidelines or a professional code of conduct. Without expertise, it’s easy to wrongly assess eligibility, give out misinformation, inaccurately assess expenditure or provide insufficient supporting evidence, which can result in lengthy, resource-draining HMRC enquiries and hefty penalties.

We’ve also seen an increase in R&D fraud. One of the worst cases to hit headlines involved a £30m claim where three individuals claimed they spent over £137m on a spurious IT healthcare system for two Middle Eastern countries. They provided falsified bank statements to HMRC which prompted an inquiry and was found to be fraudulent.

Next steps: In terms of advice for future R&D claims, keep wider reliefs in mind for clients who are claiming for R&D tax relief, such as Patent Box and the Capital Allowance Super Deduction. These reliefs very much sit hand in hand, and when claimed in addition to R&D they could act as a real lifeline for your clients.

Verdict: Always seek advice from a credible and established adviser, ideally one that is governed by an industry code of conduct and consider keeping wider relief in mind such as Patent Box and Capital Allowance Super Deduction alongside R&D claims.

Annie Makoff is a freelance journalist and editor.