HM Treasury is currently consulting on the scope of qualifying expenditure for Research & Development (R&D) Tax Credits.
The consultation is welcome, not least because the last one was almost a decade ago.
AAT agrees with the Government that R&D tax credits must be optimised while continuing to deliver good value for money for the taxpayer.
In a modern, dynamic economy with a strong commitment to R&D investment, all software costs should be recoverable for R&D. Likewise, all costs associated with the generation, processing or analysing of datasets should be recoverable too. They are not, which demonstrates the difficulty the Government has in ensuring tax credits are relevant to businesses.
For several years the Government has repeated that it has an “ambitious” objective of reaching R&D investment equating to 2.4% of GDP by 2027.
The increase is welcome. But a more ambitious target is needed. The UK should aim to be one of the top ten countries for R&D spend by 2027. This is what AAT will be pushing for in our submission.
It’s easy to see why a bigger target is needed. The 2.4% target is well below what the leading countries are investing (UNESCO Institute for Statistics):
- South Korea (4.3%),
- Japan (3.4%),
- Finland (3.2%),
- Switzerland (3.2%),
- Austria (3.1%),
- Sweden (3.1%),
- Denmark (2.9%),
- Germany (2.9%),
- USA (2.7%).
Put another way, the Government hopes that in 7 years’ time, the UK is investing the same percentage of GDP as Slovenia invests today.
If we are going to lead the world in this area, greater ambition is required.
Start-up tech companies developing new products and services utilising machine learning and Artificial Intelligence can often only do so by investing large sums of money in what are ordinarily very expensive datasets.
These datasets cannot usually be claimed for under existing R&D tax credit definitions because they are not considered to be “consumables”. This inevitably hampers the R&D activities of many of these small start-up companies.
Many start-up companies utilise cloud computing providers for the processing power needed to interpret datasets and develop new algorithms when researching and developing their new products and services. So, for many start-ups, cloud storage is a very important R&D cost and to deny tax credits for such a vital piece of their R&D activity makes no sense.
This outdated approach is brought into even sharper focus when you consider the UK is now the sixth largest user of cloud based technology.
HMRC published new guidance on the applicability of R&D Tax Credits to Software in October 2018. This was most helpful as definitions and examples had become obsolete and many wrongly believed that claims could not be made as a result. Some companies did not claim at all, some under claimed and others may have overclaimed.
So, a commitment to publish updated guidance every two years (or annually if the need arises) would help to ensure legitimate claims are made and that no business, especially small business, is wrongly encouraged or discouraged from claiming due to outdated guidance. That’s another AAT recommendation that we will be making in our submission next month.
Identifying potential savings in the R&D field is understandable in seeking to free up funds for more productive investment. It is also essential in the current financial climate.
That said, it is worth noting that a 2015 HMRC research paper evaluating the effectiveness of these tax credits found that between £1.53 and £2.35 of R&D expenditure was stimulated by every £1 of tax forgone.
This is an impressive return and not something that should be put at risk by a desire to reduce spend.
One area where a saving could certainly be made is in clamping down on unregulated tax advisers encouraging businesses to overclaim R&D Tax Credits. Late last year, this was estimated to have cost the taxpayer over £600m.
Only last month, AAT responded to the HMRC call for evidence on “Raising standards in the tax advice market,” and highlighted that the problem of unregulated tax and accountancy service providers could easily be solved if Government were simply to require anyone giving paid for tax and accountancy services, to be a member of any of the many relevant professional bodies. One of the numerous benefits of such an approach is that the likelihood of encouraging the misuse of R&D Tax Credits, or any tax relief, would be significantly reduced.
To have your say on the Treasury review of R&D Tax Credits please click here and submit your comments before 13 October 2020
Sharpen Your Tax Skills Online – a virtual masterclass in taxation
Sharpen Your Tax Skills is back with another masterclass from tax expert Michael Steed. Now completely online, you’ll get more for your booking than ever before with almost seven hours of expert insight and advice, interactive training and in-depth analysis of all the latest taxation issues.
Phil Hall is AAT's Head of Public Affairs and Public Policy.