R&D Tax Credits - What's it all about?


Posted by Steve Livingston on Friday 14th of August 2009 | 0 Comment(s)

For every business I meet that is happily claiming this attractive Government tax incentive, I equally find businesses - particularly new start-up businesses - that are still in the dark.

What follows is a brief introduction to the R&D Tax Credit regime aimed particularly at fast growth technology businesses.

Purpose

The R&D Tax Credit regime was introduced by the Government in 2000 to encourage investment in innovation in the fields of science and technology in order to build the future growth of the UK economy on a sustainable and globally competitive basis.

What is qualifying R&D?

R&D for tax purposes takes place when a project seeks to achieve an advance in science or technology (DTI Guidelines 2004).

Examples of technological advances are gaining new knowledge in a field of science or technology, developing new material, device, product, process or service or, by making an appreciable improvement to existing technology or the level of knowledge in the industry.

It is this latter part of the definition upon which most technology companies base their successful claims since, aside from perhaps Google and Microsoft, how many UK technology companies have the depth of resource (people and cash) to build entire brand spanking new platforms, languages and products? Most technology companies in my experience have built upon existing technology to strike out in new innovative directions - this is normally qualifying R&D.

I like to use the analogy that you are at "Point A" and you wish to get to "Point B". You know where you want to get to but you have absolutely no idea how you will get there because, to the best of your knowledge, no-one else in your industry has the foggiest idea either. It will therefore be ground-breaking if you can get there. This indicates the bare bones of a successful R&D tax credit claim.

A key benchmark used in evaluating claims is whether a "competent professional" in your industry would be able to access publicly available knowledge to readily deduce the solution? If yes, then you cannot be advancing overall technology knowledge so this would not qualify - and it begs the question why you are spending the money researching this point?! Note that it matters not that a rival firm may be working on something similar as long as the knowledge is not publicly available.

It is also worth noting that success is not a prerequisite of a successful claim. The point is that you are "seeking" advancement and success should not be guaranteed.

Each claim should be considered on its own merits in addition to the points raised above.

Who qualifies?

There is a common misconception that you have to have employees wondering around in white coats and checking test tubes to be a qualifying R&D company but this could not be further from the truth. I have submitted successful R&D tax credit claims for a vast array of companies and industries from bed makers to conveyor belt and audio recording equipment manufacturers right through to technology companies - the latter have made up the majority of my claims.

It was originally introduced for Small to Medium Sized businesses (SMEs) which were defined as those having less than 250 employees and either turnover of less than €43m and a balance sheet total of less than €50m (these criteria have more recently been increased to less than 500 employees and either a turnover of less than €86m and a balance sheet total of less than €100m).

In summary, most independent fast growth companies in the North West should fall within this SME criteria.

A separate (and less attractive) R&D tax regime was introduced for those 'large' companies that exceed the SME criteria in 2002 although we will not cover this here.

What is the benefit?

If you are a profitable company then you will receive an enhanced allowance against your income to reduce it for tax purposes. The enhancement is 75p for every £1 spent on qualifying R&D (50p up to August 2008). The qualifying expenditure is primarily salary costs (including employer national insurance and pension contributions) plus computer software and energy costs (e.g. electricity etc) used directly in the R&D activities.

So say you have 1 person working on the R&D project earning say £30,000 per year and she spent 80% of her time directly engaged in the qualifying R&D project (e.g. once training time etc had been eliminated) then the claim would be based on £24,000 (ignoring National Insurance and pensions, if any) generating an additional deduction of £18,000 to offset against taxable profits (£24,000 * 75%). The minimum claim amount is £10,000 per year.

So rather than offsetting just the £30,000 as an allowable expense against tax you would actually offset £48,000 pocketing your company a £3,780 tax saving in the process (£18,000*21% small companies corporation tax rate).

If the company is loss making for tax purposes, perhaps because the company is still in investment mode, then it will be eligible for a cash tax repayment - this is unique to the SME R&D tax credit scheme as large companies are not eligible for repayments.

So, using the above example, the company has the choice of adding the additional £18,000 to its tax losses to carry forward to offset against future trading profits or obtaining the timing benefit of surrendering the tax loss and receiving the cash now albeit at a reduced rate of 14% (since August 2008). The repayment is capped by the PAYE and National Insurance suffered by the company in the period.

Making a claim

Your claim for R&D tax credits should be included within the company's CT600 corporation tax return. You can amend the past two years' filed returns to submit or revise a claim.

HM Revenue & Customs aim to process 95% of repayable R&D tax credits within 30 days of receiving the claims.

This remains a highly attractive tax incentive scheme, particularly for technology companies that are already having to bootstrap their way through due to lack of cash.

Happy to discuss further if you wish to contact me.

Steve Livingston
Partner

Horwath Clark Whitehill LLP
Chartered Accountants
Arkwright House
Parsonage Gardens
Manchester
M3 2HP

Tel: +44(0)161 214 7500
Direct: +44(0)161 214 7517
Mobile: +44(0)791 717 3753

Follow me on Twitter: www.twitter.com/stevelivingston

Or you can find my blog at BusinessN2K

Note that the above information is correct at the time of writing and reflects the personal views and experiences of the author only and does not necessarily reflect the views of the firm. No reliance should be placed on the information provided without first seeking professional advice specific to your particular circumstances.