Some reader’s eyes may gloss over with talk of tax, but if you’re developing new products or services, then one area that can’t have failed to get your attention in recent years is R&D Tax Credits.
Whether you’re developing new geo-location apps, creating cutting edge VR experiences, solving big data challenges, grappling with new LED lighting technology or tirelessly working to perfect the recipe for your gluten free breakfast bar, then support is likely on hand from HMRC in the form of either a reduction in your tax bill, or a cash repayment.
“There were almost 1,300 R&D claims submitted in the South West last year, with those companies sharing in £70 million of tax relief”
There were almost 1,300 R&D claims submitted in the South West last year, with those companies sharing in £70 million of tax relief. The typical SME claimant receives over £46,000 annually.
So what are R&D tax credits?
Put simply, they enable SMEs to receive between 25% and 33% of their expenditure on qualifying R&D back, as a repayment from HMRC. It’s a retrospective process, and you can claim for expenditure incurred in your previous two completed accounting periods. So what constitutes qualifying R&D?
This is often where the confusion sets in, and HMRC’s definition is not exactly the clearest: An R&D project “must seek to achieve an advance in overall knowledge or capability in a field of science or technology through the resolution of scientific or technological uncertainty.”
People could be forgiven for reading a few pages of the HMRC guidance on this, and convincing themselves that nothing they do could qualify for relief, and often they’d be mistaken.
The key is uncertainty. If you embark on a new product development project, confident at the outset that you know exactly how every stage of the development will play out in order to achieve your objectives. If the only risks associated with the project are commercial – Is anybody actually going to buy this? – Then it would be unlikely to qualify for relief.
“To qualify there must be an element of embarking upon the technological unknown”
To qualify there must be an element of embarking upon the technological unknown. You may not have even defined all of the questions, let alone be close to having all the answers: Will we be able to manufacture the prototype? Can we reduce out cost of materials by 30% and retain the same functionality? Can we achieve a twelve-month battery life? Will it be possible to integrate with the back-office systems? Will it be possible to create a suitable piece of middleware? Can we develop a version for Apple Watch?
The costs associated with overcoming the technological uncertainties that you face, whatever they may be, can be included within a claim. The allowable costs must typically be revenue in nature; staff salaries, subcontractors and freelancers, as well as consumables, which can include anything which has been consumed or transformed during the R&D activity.
A proportion of utilities costs can also be included, as well as software products utilised within the R&D project and its supporting activities. As you may expect, some items such as rent and hosting costs are excluded.
How are the costs calculated?
Calculating the qualifying costs is often the most challenging part for many businesses, and it frequently comes down to analysing all of the costs incurred on a particular project. The direct costs may seem fairly simple to quantify, if a project employed 2 developers, wholly engaged with tackling a particular problem then their costs can be included.
However, the indirect contributions of others within the company should also not be overlooked; if a project has occupied 40% of the CEO’s time in resolving teething problems with the project then some of these costs can be included, as well as potentially some of the finance, marketing and operations costs at appropriate proportions.
How much are they worth?
The amount of relief available has increased considerably over recent years, and the exact rate available varies dependent on when the expenditure took place. Broadly speaking, a profitable SME can receive 26p in the £1, from 1 April 2015, whereas a loss making business will be able to receive up to 33p in the £1.
“Where an SME incurs £100k of qualifying costs it could look to receive between £25-33k back”
These rates have increased over recent years, so with the retrospective nature of the claim process where an SME incurs £100k of qualifying costs it could look to receive between £25-33k back under the scheme depending on the year of the claim and the business’ financial performance.
Where should I go to find out more?
HMRC’s website is a good place to start for some general information, but people often find that they get bogged down in the terminology. Your accountant may be able to help if they have experience of R&D claims, or may be able to refer you to a specialist that does. This can be a complex area and it’s often beneficial to work with an R&D tax specialist if you want the best chance of identifying all of your qualifying expenditure and ultimately maximising your claim value.
Most specialists will work on a contingent basis, offering a ‘no win no fee’ structure that ensures there’s no initial outlay involved in making a claim.
What is the claim process?
The claim process requires the submission of a two-part report to HMRC, outlining the financial aspects of the claim and the basis for the calculations. This is accompanied by a technical report, which outlines the scientific or technological uncertainties faced, and how the project sought to overcome them. It may be necessary to include some background on the development team, to show how their experience makes them suitably qualified to work on the project.
What’s the bad news?
On the whole it’s all positive. There are various factors that can impact on the amount of money you’re able to claim, most notably accepting some grants and subsidies can restrict eligibility for a claim – if this affects you it’s worth seeking professional advice.
Some projects are excluded by HMRC, such as art projects, and the social sciences. It may however still be possible to recover expenditure if projects within these areas achieved other forms of technological advance.
HMRC are beginning to introduce penalties for companies who have over-claimed R&D expenditure, but provided you adopt a fair and reasonable approach in calculating your costs this shouldn’t affect you.
When should I act?
Companies can recover expenditure incurred in their previous two completed accounting periods, and this can often fool people into thinking there is no sense of urgency. It should however be noted that if your year end is 30 April, and you’ve not currently submitted a claim for expenditure incurred in your year ending April 30th 2013, then the opportunity to do so expires on 30 April 2015. If your year-end is 31 March then you need to act yesterday!
How long does it take?
That pressing deadline aside, the claims process itself is typically rather swift. Once the report has been prepared and submitted to HMRC then it’s generally around 4 weeks until the claim is processed, and the repayment is granted or Corporation tax reduction issued.
Mark Smout is the Business Development Manager for ForrestBrown. ForrestBrown is a specialist tax consultancy based in Bristol, wholly focused on helping clients benefit from R&D Tax Relief from HMRC. Their twelve strong team work with businesses across a range of sectors helping to maximise the levels of tax relief available to them.
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