Understanding R&D Tax Credits

In the last two articles in this series I have looked at various aspects of finance and this time I am going to stay with the financial theme but from a very different angle – tax. But tax is a very broad topic and I wanted to focus on one unusual aspect of the UK tax system, and that is R&D (research and development) tax credits, and it is unusual in the fact that this time it is HMRC giving you money rather than taking it.

According to the official HMRC report, 'R&D tax credits are a tax relief designed to encourage greater R&D spending, leading in turn to greater investment in innovation. They work by either reducing a company’s liability to corporation tax or by making a payment to the company.'

There are a number of very notable points about this very valuable giveaway to companies. The first is that whilst it is estimated that some 750,000 companies would be eligible to claim some form of tax refund under this scheme, in the tax year 2015/16 (the last full year that complete figures are available) only 43,040 companies actually claimed under it. Whilst the scheme has become slightly more widely known in the last few years it remains relatively unknown and it seems that many accountants either do not know about it or for one reason or another do not advise their clients about it.

Companies can of course make the claims themselves but there are now many specialist firms or accountants that offer the service based purely on a success fee basis. Whilst they do of course charge a fee, most of them also claim that their knowledge of the system and what can actually be claimed enables them to obtain a higher refund overall, as well of course as doing all of the work. They would also be best placed to see if any back claims would be possible.

The point about what can actually be claimed for is an extremely valid one as the vast majority of companies that I have spoken to about R&D Tax Credits believe that a company must be doing some form of very technical R&D and can only claim very limited costs. The reality is actually almost the opposite. Exactly what percentage of what cost claimable varies, but essentially it covers the majority of costs associated with a qualifying project, including: consumables; energy; staff costs (both specialists working full time on the project and any senior management and others working part time, and this also includes sub-contract staff); and most other direct and indirect costs. 

As to the project itself, again many companies would say that they were not inventing anything and so would discount the possibility of R&D Tax Credits but the scheme applies every much as much to adaptation as it does to innovation. The majority of companies have the need to adapt what is already available and this can be everything from CRM systems to saving energy. Startups in particular are often trying to challenge or disrupt the existing markets by coming up with something new, even if this is merely an adaptation of what was previously available.

Perhaps the best bit of advice would be that if you start to do a project that you think even might qualify then it is best to do project accounting for it – that is, record all the costs separately as that will be the easiest way to prove the costs and maximise the claim.

Most companies make R&D Tax Credit claims by way of tax relief on tax due but what is very important for startups and early stage businesses is that even if the company is loss making the claim can be paid by bank transfer from HMRC, albeit at a slightly lower rate. Payments made to the company are normally received very quickly. Another very interesting feature is that for those companies not having made a claim previously claims can be made going back two years and not just for the present year.

So my advice is very simple, think hard about what your company might have done over the last two years that might enable you to claim an R&D Tax Credit and then speak to a few companies that could advise you on that or make the claim on your behalf. I am sure that a large percentage of those reading this will be very pleasantly surprised and will find their company receiving an unexpected cash injection courtesy of HMRC. For startups that are often tight on cash this can make a very crucial difference.

Next time I will look at another aspect of being a Mentor and how that experience might be useful to other startups and early stage businesses.