R&D tax relief changes

Under formerly announced reforms to R&D Tax Relief rates in the Autumn Statement 2022, from 1 April 2023, the R&D Expenditure Credit rate (RDEC) (for large corporations) increased from 13% to 20%, the SME additional deduction rate reduced from 130% to 86%, and the SME payable credit rate decreased from 14.5% to 10%.

To qualify as an SME a business must have fewer than 500 staff, a turnover under £100 million, or a budget sheet total under £86 million.

These changes drew industry-wide objections and were adjusted in the Spring Budget 2023.

The government now says it recognises the important role that R&D plays in driving innovation and economic growth, and hopes the revised R&D budget for 2022-2025 will increase investment from 1.76% of GDP in 2019 to 2.4% by 2027.

Moving forward, the payable credit rate for loss-making SMEs with R&D expenditure comprising at least 40% of total expenditure will remain at 14.5% – it will be cut to 10% for other companies.

In an effort to recognise costly technology development on cloud-hosted platforms, the government has also extended R&D tax relief from 1 April 2023.

There’s a new R&D intensity definition too, calculating the ratio of the company’s qualifying expenditure for both the SME and RDEC schemes for a period to its total expenditure for the same period.

While the enhanced support for SMEs is welcomed, R&D tax credits specialists ForrestBrown pointed out back in March that the qualifying criteria introduced by these changes add further complexity for businesses already grappling with previous fiscal reform.

Approximately 20,000 startups are predicted to benefit from the R&D scheme overall, but only 11,000 will qualify for the new top up portion, providing a small lifeline for R&D intensive SMEs.

More change on the way

The newly released legislation also introduces new conditions to determine qualifying earnings in relation to ‘Externally Provided Workers’ involved in R&D activities.

Money spent on these employees will only qualify for tax relief if their earnings are taxed through PAYE, or can be attributed to R&D activity outside the UK that is covered by the new section 1138A.

This restriction will be delayed until 1 April 2024.

Several other technical and administrative changes will apply to accounting periods starting on or after 1 April 2023, and others from 1 April 2024.

From 1 August 2023, accountants will need to include a report on the claim methodology used for R&D tax relief claims and supply in-depth technical detail of the R&D activities, says London accountants and business advisers Gerald Edelman.

Additionally, businesses with accounting periods starting on or after 1 April 2023 which are claiming R&D tax relief for the first time or haven’t claimed it in the past three accounting periods will also need to pre-notify HMRC of their intent to claim within six months of the end of the accounting period being claimed.

Accountants claiming for cloud computing data costs for their client will need to provide a detailed breakdown.

Other changes proposed by the government include the merging of existing RDEC and the SME relief that it says would not impact loss-making R&D intensive firms.

Research conducted by Azets found that half (51%) of SMEs disagree with government plans to merge the two schemes.

Expect draft legislation on the merged scheme when the government releases the draft Finance Bill in Summer 2023.

Encouraging innovation

HMRC set up the R&D Tax Relief Scheme in 2000 to incentivise UK businesses to increase innovation in science and technology.

However, the UK’s R&D expenditure as a percentage of GDP is still less than half the OECD average.

The government’s announcement of 12 new investment zones, each receiving £80 million in funding over five years to upgrade skills, support businesses to grow, develop local infrastructure and offer tax relief, has sparked optimism about the development of innovation clusters.