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R&D Resources

What is the R&D tax relief scheme?

The HMRC R&D tax relief scheme was introduced in 2000, rewarding UK businesses for investing money in innovative projects. Through the scheme, UK businesses can claim a reduction in their Corporation Tax or even a cash repayment.

While the R&D tax relief scheme can be a lucrative source of funding for innovative businesses, a good application that is compliant with the legislation and addresses HMRC’s expectations is crucial to obtaining a good result.

There were two R&D schemes, the SME and RDEC schemes have been in place for many years; for small and large companies respectively. HMRC have introduced two new schemes, the Merged and the Enhanced R&D intensive support (ERIS) schemes, from the 1st of April of 2024.

Additionally, HMRC implemented more changes for costs incurred on or after 1st of April 2023.

This transition period between schemes can be difficult to navigate, and we are here to help!

What is an SME?

HMRC defines a business as being an SME if it has:

  • Less than 500 employees and,
  • a turnover of less than €100m, or
  • a balance sheet worth no more than €86m.

What is R&D for R&D tax relief?

In terms of qualifying activity, HMRC’s definition of R&D is broad. According to the guidelines, R&D takes place when “a project seeks to achieve an advance in the overall knowledge or capability in a field of science or technology”.

HMRC expect to see a clear description of the three main points below:

Technological baseline

HMRC defines baseline more broadly as pertaining to the capabilities in the field, not just a company’s own knowledge. You will need to show the existing technologies at the time, describe their limitations, and thus show why teh company had to undertake R&D work.

Advance

The development must then be an advance beyond that technological baseline. For example, the technological advance could be to make performance, efficiency, and capability improvements to a software platform. These improvements must be nontrivial and could not be easily deduced by a competent professional.

Technological uncertainty

It’s not enough to be making something better or more capable. But you must have resolved technological uncertainty to achieve an advance in the overall knowledge in the field. You can claim for the work that resolved technological uncertainty and this must have been overseen by competent professionals.

Do your projects qualify for R&D tax relief?

Below are a few questions that can help you figure out whether a company qualifies for the R&D tax credit scheme:

  1. Does the company develop projects that are new or make technological improvements on products that are currently on the market?
  2. Did the project represent an overall advance in a field of science or technology?
  3. Has the company had to scrap a project because it proved technologically unfeasible?
  4. Does the project overcome technological uncertainty?
  5. Can your project show that research, testing, and analysis have occurred?
  6. Do you employ qualified experts in the of field of science or technology of the project, either in-house, remotely, or as a contractor?

If you’ve answered yes to these questions, then your company could qualify for R&D tax credits. The R&D projects don’t need to have been successful, failure is very much a part of the R&D process.

A company does not need to be profitable to qualify.

What costs can you claim for?

Your business can claim for several categories relating to your R&D expenditure:

  • Salaries of staff involved in R&D projects (apportioned for time spent on R&D activities)
  • Subcontracted costs (development and testing)
  • External or agency workers costs
  • Software licenses
  • Data licenses
  • Cloud computing costs
  • Consumable costs (utilities, materials…)
  • Clinical trial costs

What if the business is receiving grant funding?

Businesses receiving financial aid in the form of grants may not be eligible for the SME R&D tax credit scheme – but some of those costs may be eligible for funding from the RDEC scheme. It’s possible, however, for the business to combine grant funding and R&D tax credits to maximise any potential funding.

Grant funding and subsidised expenditure is not treated differently in the new Merged and ERIS schemes (for claim periods starting on or after 1st April 2024), and grant funding expenditure can be included in R&D claims without special considerations.

Legislation applicable from April 2023

From 1st of April 2023, there are a few changes to the existing RDEC and SME schemes. These updates will continue to apply until the new merged and SME Intensive schemes kick-in for periods starting on or after 1st of April 2024:

Pre-notification of intention to claim – this applies to accounting periods starting on or after 1st April 2023 and does not apply to companies that have submitted a claim in the last 3 financial periods.

Expansion of the categories of qualifying expenditure – for periods starting after 1st April 2023, cloud computing costs and data license costs will be eligible.

Additional information forms (AIF) – these are a requirement for all claim submissions from 8th August 2023.

Rate changes from 1st April 2023 – HMRC has updated the R&D rates for expenditure incurred on or after 1st April 2023:

  • the SME additional deduction will decrease from 130% to 86%
  • the small and medium (SME) sized company credit rate will decrease from 14.5% to 10%*
  • the Research and Development Expenditure Credit (RDEC) rate will increase from 13% to 20%

Practically, this means that the costs within a period that straddles the date of 1st April 2023 must be split into two sub-periods to apply different rates for the calculations.

* Loss-making R&D intensive companies are those whose qualifying R&D expenditure constitutes at least 40% of total expenditure (for costs from 1st April 2023) retain the 14.5% credit rate.

Legislation applicable from April 2024

HMRC has formalised details for the new merged R&D scheme, which combines the current RDEC and SME scheme into a Merged scheme. A separate SME scheme for R&D-intensive SMEs will also be implemented (ERIS scheme).

Why are the R&D schemes being updated?

These changes are a result of a comprehensive review by HMRC to reduce abuse of R&D tax relief and maximise return on investment for the taxpayer. HMRC’s goal is to simplify the R&D tax relief and better target the funding to companies carrying out qualifying R&D activities.

Compliance remains a priority for HMRC.

When do the schemes come into effect?

Both schemes will come into effect for accounting periods beginning on or after the 1st of April 2024. This will apply to accounting periods as below: 

  • 01/01/2024 – 31/12/2024: the new schemes will not yet apply and will take effect on their next financial year.
  • 01/04/2024 – 31/03/2025: the new schemes apply as this period starts on or after 1st of April 2024.

Merged Scheme

The merged scheme follows the current RDEC scheme rules with some changes. The main points are below:

  1. It is an above the line credit at the current RDEC rate of 20%.
  2. Removal of subsidised funding rules and allowing of grant-funded costs.
  3. Replacement of the RDEC the total expenditure on R&D workers’ PAYE and NIC with the more generous SME scheme PAYE and NIC cap.
  4. Notional tax rate of 19% applied to loss-making companies, rather than the 25% rate of the current RDEC scheme.

There will be a net return of between 15% and 16.2% on qualifying expenditure.

SME Enhanced R&D intensive support (ERIS) scheme

The SME intensive scheme offers a higher rate of relief for SMEs that invest heavily in innovation. The main points are below:

  1. Follows the old SME scheme rules.
  2. Additional tax relief for R&D-intensive SMEs; those who spend over 30% of their total expenditure on R&D.
  3. Enhancement rate of 86% for qualifying expenditure.
  4. Surrender rate of 14.5% for a cash tax credit.

There will be a net return of up to 26.97% on qualifying expenditure.

Updates applicable to both schemes from April 2024

Changes to contracting rules

SMEs and Large companies will both be able to claim for contracting costs. Large companies could not do this through the RDEC scheme (except for certain qualifying bodies). The company making the decision to undertake the R&D will be the one able to claim for the associated costs. It is advisable to have this reflected in the contract.

Restriction on overseas third party expenditure

For accounting periods beginning on or after 1st April 2024, the location of the qualifying activity will be a determining factor in the eligibility of third party costs; this includes expenditure on contracting and externally provided workers (EPWs).

The R&D must be undertaken in the UK for the third party expenditure to qualify. R&D is undertaken in the UK to the extent that the activities which are part of the R&D project actually take place in the UK, regardless of where the factors used for the R&D project (such as materials) are sourced.

EPWs must be subject to UK PAYE in order to qualify.

Overseas expenditure on third party costs may still qualify in particular cases if certain circumstances are met:

  1. The conditions necessary for the R&D are not present in the UK
  2. The conditions are present in the overseas location where the R&D is undertaken
  3. it would be wholly unreasonable for the company to replicate the conditions in the UK