Key points
- Recent R&D tax relief scheme changes impact SMEs from 1 April 2024.
- HMRC faces criticism for claim assessment, particularly from smaller companies.
- Advisers are recommended to prepare clients early and stay across case law.
The matter highlighted concerns about the process for awarding tax relief, underscored by the subsequent HMRC Charter annual report that revealed a decline in small business, agent and individual trust for the authority.
Throughout the report, respondents cite R&D relief support as erratic and unfair. This follows a consolidation of the R&D tax relief regime from 1 April 2024 into a scheme that broadly follows the historic RDEC R&D scheme designed for large companies.
In today’s evolving landscape, how can advisers support innovative small businesses seeking to claim genuine relief?
Scheme consolidation aims to boost innovation
R&D tax relief for small and medium-sized enterprises (SMEs) and large companies merged into a single tax relief scheme which offers a taxable R&D credit on qualifying expenditure, currently set at 20 per cent.
Julian Moran, specialist tax partner, Knights
Julian Moran, specialist tax partner at Knights, says the scheme was consolidated to simplify R&D relief, make it easier to understand and make claims less complicated.
Although the definition of what constitutes R&D has not changed, there are notable differences in the new regime that SMEs should be aware of:
- Maximum relief is reduced for SMEs: for every £100 spent on R&D they can claim back 25% less than they could two years ago.
- Companies can now claim for limited R&D subcontractor costs.
- Only UK-based R&D activities now qualify for tax relief unless a company can prove the work cannot be performed onshore.
- Only the company making the decision to undertake R&D is eligible for relief.
Overall, it appears the new scheme is also designed to boost innovation and economic growth in the UK.
Compliance checks remain a bugbear
For small businesses, the new scheme should be easier to navigate with clarity over which party is eligible to apply for R&D relief in a streamlined process.
Shenal Wijetunge, R&D tax expert, partner, DSW Tax Advisory
However, Shenal Wijetunge, R&D tax expert and partner at DSW Tax Advisory says the restriction on outsourced overseas R&D activity may be problematic for some.
“Tech companies may outsource development work to teams in Eastern Europe or India, while electronics products might be developed in China. When companies already manufacture overseas it often makes sense to carry out R&D at the production site,” he says.
In recent years, there has been widespread public criticism of HMRC’s approach to R&D compliance checks by professional bodies and the House of Lords Finance Bill Sub-committee.
Steven Bone, director at Gateley Capitus, says while there is strong evidence HMRC’s approach towards SME R&D claims has been problematic and sometimes narrow, context is important.
Steven Bone, Director, Gateley Capitus
“HMRC is fighting fraudulent claims, as well as legitimate claims from companies that mean well but don’t satisfy the threshold of what constitutes research and development,” he says.
“Companies have to prove they are advancing science or technological knowledge which involves scientific or technological uncertainty.”
One key challenge is the lack of technological expertise amongst HMRC case workers. Bone says it’s difficult for HMRC to find a balance without being seen to be heavy-handed.
“R&D is sector agnostic, so any kind of company can claim relief provided the work satisfies eligibility criteria,” he says. “It’s impossible for HMRC to have experts from every sector in house to assess each claim, and the decision defaults to a ‘competent professional’ who is an expert in their field.
“Often, the most appropriate professional is working at the company claiming relief or advising them externally and this has become a thorny area for HMRC to deal with.”
HMRC tackling legitimate and fraudulent SME claims for R&D claims
How to support smaller clients as an advisor
Many small businesses remain unaware of R&D relief and may not realise practices like enhancing old equipment or developing new products may qualify as advancing the state of science or technology.
“The rules on what expenditure qualifies for relief are complicated,” Moran says. “The company may not have the sufficient records to be able to support its claim. The process often requires specialist professional help, and small companies may not be willing to incur the expenditure at the outset.”
Wijetunge believes a fear factor could also be contributing to SME reluctance to claim. “Many companies have heard horror stories about investigations and are now hesitant to make a claim,” he says. “As a result, many SMEs are missing out on tax relief, but these challenges can be overcome with the help of the right advisor.”
Ahead of the next tax year, it’s recommended practices and individuals advising SMEs consider the following actions:
- Provide updated guidance on the merged RDEC relief and what projects constitute as qualifying activity.
- Shift the perception of R&D tax advice from a claim-based service to a comprehensive tax advisory offer – it is not always in the company’s best interest to claim.
- Stay up to date with relevant case law.
- Alert clients to the benefits of working with an advisor to plan R&D activities in advance.
