Free money!! Every company director loves a tax rebate, particularly when you have incurred expenditure on a project and someone tells you that not only is this expenditure tax deductible but for the same money spent you can get additional tax relief of 130% on the expenditure through a research & development claim and either bag a lovely big tax rebate by trading in losses at 14.5% or reduce your tax liabilities down significantly.
Increasingly we are seeing clients being contacted by professional advisors about R&D – Research and Development – and being told there may be a claim and there could be a juicy tax rebate.
The same professional advisers then take up to 30% of the tax saving – a win-win situation. Or is it?
HMRC (the tax man) increasingly have Research & Development (R&D) claims in their sights and they have recently identified and successfully challenged a number of spurious claims for R&D tax credit relief made by purported R&D Consultants. There are two major issues – firstly claims for projects which do not satisfy the criteria set by HMRC. Secondly claims with poor evidence and overstated levels of expenditure.
Research & Development for small businesses is incredibly generous and over the last decade or so the government has been keen to encourage companies to claim R&D tax breaks, with the reliefs increasingly more generous year by year. For a Small or Medium-sized Entity (SME) the expenditure qualifies for a tax deduction of 230% of the amount spent. A loss making company can trade the qualifying expenditure in for a 14.5% tax refund. Thus £100,000 of qualifying R&D expenditure could result in a tax refund to a loss-making company of £33,350.
In a previous blog our one minute guide to R&D we looked at the basics of R&D.
How to claim R&D
Key points to note are:
- R&D can only be claimed by companies.
- There must be a scientific or technological problem. This will then result in a clearly defined and well documented project plan.
- The project must relate to your company’s trade – either an existing one, or one that you intend to start up based on the results of the R&D.
To qualify for R&D tax relief you need to explain how a project:
- Looked for an advance in science and technology.
- Had to overcome uncertainty.
- Tried to overcome this uncertainty.
- Could not be easily worked out by a professional in the field.
HMRC provides a lot of guidance.
Problems with Research & Development claims- Hadee case
A legal case in early 2021 highlighted the need to get the claim right. In the case of Hadee Engineering Co Limited v HMRC a total of seven R&D projects out of eight were rejected and the eighth project was partially rejected. Three key points came out of the judgement:
- Key amongst the criteria was ensuring that there is a well-defined project that meets the necessary criteria. That the project has good quality documented evidence. That a Competent Professional is involved in the claim.
- R&D claims cannot be made if you are acting as a subcontractor- i.e. if the client has tasked you with finding a solution and the work is contracted to you then you, as the subcontractor, cannot claim R&D tax credit relief. HMRC consider that many contractual arrangements may be caught by this condition and this may exclude companies making SME claims where the R&D is to fulfil contractual obligations. In the Hadee case the lack of clarity on the contractual working relationship Hadee had with their customer worked against them.
- If the work which is carried out is subsidised then the expenditure is not eligible for R&D relief. In the Hadee case the Court determined that costs were covered by their customer. Direct payments clearly fall within this rule. It’s worth being cautious regarding indirect payments as, again, the interpretation of “subsidised” is fairly broad.
It is self-evident that many professional advisers are stretching the legislation way past what is genuine R&D and assuming that anything which is effectively bespoke is R&D.
What you need to do with Research & Development claims
The bottom line is that if someone tasks you with finding a solution and pays you in full for your services then this isn’t really R&D. In order for expenditure to qualify for R&D tax relief there should be:
- A defined project,
- Real scientific or technological issues tackled,
- A level of uncertainty which will result in experimentation,
- Genuine experts to resolve the problems, and
- A well documented claim from inception to conclusion.
HMRC are on the look out for dodgy claims and in 2021 engaged another 100 officers to beef up their R&D team. Investigations are expensive and time consuming so whilst the idea of free money is appealing be truthful to yourself. Make sure you have a genuine claim and avoid a tax investigation.
If you are a client of Friend & Grant please call us for a free R&D check. If you are not a client of our firm but are looking for advisors who specialise in dealing with the affairs of digital and tech companies then please give us a call to arrange a discovery meeting.
The content in this blog is correct as at 1 August 2022. See terms and conditions.