There may not have been any headline announcements in recent Budgets, but be in no doubt, there's plenty for businesses to consider and plan for now in respect of their research and development (R&D) claims. HMRC has issued new guidance on the available R&D tax regimes, together with a revision to the already comprehensive rules on contracted out R&D and overseas restrictions.
UK companies are now starting to file R&D claims under the rules introduced for accounting periods beginning on or after 1 April 2024. Most of them, regardless of their size, are now using the 'merged scheme', which broadly follows the previous R&D expenditure credit (RDEC) regime and offers a 20% above-the-line taxable credit, resulting in net cash benefit of 15-16.2% for all businesses, depending on whether a payable credit is claimed.
The alternative enhanced R&D intensive support (ERIS) regime now runs alongside the merged scheme and applies to loss-making small and medium-sized enterprises (SMEs) only. It offers a more generous payable credit of up to 27% for every qualifying R&D £1, subject to meeting the qualifying ‘R&D intensive’ conditions.
For periods commencing on or after 1 April 2024, a company would be considered ‘R&D intensive’ where its R&D expenditure accounted for at least 30% of its total expenditure (plus the expenditure of connected companies) for the period.
One of the most significant changes compared with the existing RDEC regime relates to the treatment of contracted out R&D activity involving two or more parties. These rules will also apply to the ERIS. The point of interest is who is entitled to claim relief: the customer or the contractor?
The new rules confirm that where one UK company has 'contracted out R&D' to another UK company – and both are within the scope of UK corporation tax – the customer can make the R&D claim for the activity. There are also specific rules that may benefit the contractor where the customer is based overseas or isn't chargeable to UK tax.
For some companies these new rules may significantly reduce the claim benefit they've secured historically, impacting cashflow, so it's fundamental to explore and understand the potential effect based on each claimant’s specific fact pattern.
While the previous rules referred to the treatment of 'expenditure on sub-contracted R&D,' sub-contracted R&D wasn't specifically defined. However, the new rules, along with HMRC’s manuals, go much further in defining what's meant by 'contracted out R&D'.
R&D is considered to be contracted out where it's 'reasonable to assume' that the customer intended or contemplated R&D 'of that sort' would be undertaken. HMRC has stated that 'intended or contemplated' goes beyond mere awareness that R&D will take place and requires a specific appreciation of what R&D will be done and therefore the ability to understand and specify that.
If the customer doesn't meet this test – ie, they don't adequately understand the R&D needed – then the contractor is unlikely to be considered as undertaking 'contracted out R&D' for the customer. The contractor may instead be undertaking 'in-house R&D', albeit with a view to fulfilling a contract. The contractor could potentially claim for the R&D in such a scenario, not the customer. The effect is broadly to reward the initiator or key risk-taker with regard to the innovative activities and thereby to incentivise companies to undertake further R&D.
Restrictions have been introduced in respect of overseas expenditure relating to contractor payments and 'externally provided workers'. Going forward, companies will only be able to claim for such overseas costs where certain conditions are present overseas which aren't present in the UK. Conditions for UK PAYE to be applied to costs being claimed are also likely to prevent some UK costs being claimed, relating to some workers provided through personal service companies for example.
The restriction for subsidies received by the claimant under the previous SME regime has been removed under both the merged scheme and the ERIS regime, thereby creating an opportunity to receive both grant funding and R&D credits towards the same expenditure.
A PAYE cap has been retained for both the merged scheme and the ERIS regime. Previously two different PAYE caps were applied under the RDEC and SME regime, whereas going forward, all claims, whether under the merged scheme or the ERIS regime will be subject to the same PAYE cap, which follows the more general rules of the legacy SME PAYE cap.
With the additional information form now a requirement for all companies submitting a R&D claim, it’s clear that there's a focus on documentation and minimising error and fraud. In addition to this, the new claim notification requirement is now in force, which affects first-time claimants and companies whose last claim was made more than three years before the last date of the claim notification period. Broadly, this date is six months after the period of account of the claim. It is worth noting that R&D claims made in an amended return which fall in this period may be ignored for these purposes.
The claim notification requirement came into effect for accounting periods beginning on or after 1 April 2023. So, for example, the notification deadline for the year ended 31 December 2024, is 30 June 2025.
This date is fast-approaching, so ensuring familiarity with the new rules should be a high priority for companies intending to make a claim by then.
For more insight and guidance, get in touch with our team.
