Research and development (R&D) tax relief is a UK government scheme encouraging innovation and technological advancement by providing tax incentives for companies engaged in qualifying R&D activities. This article provides an in-depth overview of R&D tax relief eligibility, qualifying expenditures, grants, subcontracting rules, and the claims process for small and medium-sized enterprises (SMEs).

What is R&D Tax Relief?

R&D tax relief allows companies undertaking scientific or technological R&D related to their business to claim extra tax deductions on their qualifying R&D expenditures. There are two main R&D tax relief schemes:

1. SME Scheme: For SMEs, the relief is 230% of qualifying costs, so for every £100 spent, an SME can reduce its tax bill by £230. Loss-making SMEs can claim a tax credit worth up to 14.5% of the surrenderable loss.
2. RDEC Scheme: For large companies, the relief is 11% of qualifying costs in the form of a taxable expenditure credit. Loss-making companies can receive a cash payment for the credit.

SME Eligibility

To qualify as an SME, a company must:

• Have fewer than 500 employees.
• Have either turnover of less than €100 million or a balance sheet total of less than €86 million

The company must also consider any linked or partner companies when determining SME status:

• Linked companies: Exist when one company controls more than 50% of voting rights in another company. 100% of linked companies’ figures are combined.
• Partner companies: Exist when a company owns 25% or more of another company, or vice versa. A proportion of partner companies’ figures based on ownership percentage is combined.

Certain types of investors are excluded from partner company considerations.

Qualifying R&D Activities

R&D involves seeking technological or scientific advances, extending knowledge or capability in a field, and resolving scientific or technological uncertainties that competent professionals could not readily resolve.

Examples of qualifying activities:

• Software, engineering, and technology development
• Developing new materials, products, processes, systems
• Significant improvements to existing products and processes

The R&D must relate to the company’s trade or business. R&D starts when work begins to resolve the uncertainty and ends when it is resolved, or work ceases. R&D can occur after a product launch if new uncertainties arise.

Non-qualifying activities include routine upgrades, commercial innovations without technological advances, and regulatory or IP protection work.

Qualifying Expenditures

Qualifying costs for R&D tax relief can include:

• Staff costs (wages, NICs, pensions) for employees directly involved in R&D
• 65% of subcontracted R&D to unconnected parties
• Consumables used and transformed during R&D
• Software utilized directly in R&D

Other potentially qualifying expenditures:

• 65% of payments to unconnected staffing agencies for temporary staff doing R&D
• Contributions by large companies to independent R&D
• Costs of clinical trial volunteers

Capital expenditures do not qualify. Expenditures must be appropriately apportioned if costs relate only partly to R&D activities.

Grants and R&D Tax Relief

If an R&D project receives a government grant that is notifiable state aid, the company can only claim R&D relief under the RDEC scheme, not the SME scheme. For non-notifiable grants, the company can claim RDEC on the full expenditure and SME relief on any portion not covered by the grant.

Subcontracted R&D

SMEs subcontracting R&D work can claim 65% of payments to unconnected parties under the SME scheme. For connected parties, the amount claimed depends on the subcontractor’s costs.

R&D subcontractors can claim RDEC for work done for large companies or non-UK principals. Subcontractors cannot claim relief if working for an SME principal.

Claims Process

To claim R&D tax relief, companies enter their total qualifying R&D expenditure for the accounting period on the CT600 tax return.

The key steps are:

1. Identify qualifying R&D expenditures
2. Calculate 230% of expenditures for SME claim amount
3. Enter the claim amount on the CT600 form

For loss-making SMEs claiming a tax credit, an additional calculation is required to determine the credit value. Records summarizing the R&D activities and expenses should be kept to support claims.

SMEs can make backdated claims up to 2 years after the end of the relevant accounting period if R&D relief was not claimed initially.

Advance Assurance Scheme

The Advance Assurance Scheme assures that HMRC will allow a company’s R&D claim for the first three accounting periods in which R&D relief is claimed without further verification. Obtaining Advance Assurance is optional but recommended for first-time claimants.

Summary: R&D tax relief rewards innovative SMEs undertaking technological and scientific research by allowing them to obtain significant tax savings on their R&D spending. Understanding the detailed eligibility criteria, rules on grants and subcontracting, and proper documentation of projects and costs enables SMEs to maximize their benefit from this generous tax incentive scheme.

For tax resolution or compliance, please contact Tax Accountant at 0800 135 7323 or email info@taxaccountant.co.uk for expert advice.