Creative Finance 2: R&D Tax Credits

What could your business do with an extra £57,000?

Before we launch into chapter 2 of our Creative Finance series on the government’s Research & Development (R&D) tax credits scheme and how it could save your business money, we need a disclaimer…

At Bluestone Leasing we try to make our content as interesting and accessible as possible, because we want you to make the best financial decisions for your business. A big part of that is making you aware of how your business could save money through tax relief schemes, but we are the first to admit it’s not always the most thrilling or easy to digest topic. So, while we’ve had a darn good go at explaining R&D tax credits as simply as possible, if you can’t stay awake until end of the article, or you are unsure of whether it is relevant for your business, PLEASE don’t dismiss the topic and make sure you seek advice from a reputable accountant. 

Why are we so keen that you get the right advice on R&D tax credits? Because many businesses do not realise that they can apply, and the average R&D tax credit claim for small businesses in 2018-2019 (according to HMRC’s latest statistics on R&D Tax Credits report dated 30th Sep 2020) was over £57,000.

Can your business afford to let that kind of money slip away?

What are R&D Tax Credits?

Technology and science are moving on rapidly, and in order for companies to stay competitive, they have to keep up. R&D tax credits are a government tax incentive intended to encourage and reward companies that invest time and resources in research and development that could benefit the whole UK economy.

That reward is the R&D tax credits scheme which reduces the amount of corporation tax that a company pays, or acts as a cash payment when companies are making a loss.

Which businesses can apply for R&D tax credits?

Many businesses assume that R&D tax credits their activities would not qualify as research and development, or that only companies working in laboratories or engineering workshops can apply.

In reality, any business that pays corporation tax can apply for R&D tax relief, as long as the research and development they are engaged in is original, unique, and has the potential be a ‘game-changer’ for their industry (not just their company). 

Which projects are eligible for R&D tax credits?

If your company puts resources towards creating a new, improved and original product, service or process (that competitors cannot replicate easily), you could claim tax relief on the money spent in the effort. This might include creating new products, processes, software, services or devices not available elsewhere on the market, or making appreciable improvements to existing products, processes, software, services or devices.

Successful R&D projects may lead to patents, trademarks, or breakthrough discoveries with lasting benefits to the company, but even R&D projects that do not produce results could be eligible for R&D tax credits. 

What expenses would qualify for research and development tax credits?

The expenses your company incurs in trying to overcome challenges and innovate can form the basis of an R&D tax credit claim.

The following cost categories may be included:  

  • Expenditure on staff including gross salaries, employer NIC, bonuses, car allowances, and employer pension contributions.
  • Expenditure on subcontracted R&D activities, e.g., paying a website or software developer, legal fees, branding costs.
  • Expenditure on agency workers.
  • Expenditure on fixed assets, consumables and materials (including light, heat and water).

You can make a claim for R&D relief up to two years after the end of the accounting period it relates to. You’ll need to file an amended corporation tax return and depending on the type of relief you’re claiming, rates may differ.

How much tax could R&D relief save you?

There are two different types of R&D tax relief available depending on the size of your business and if you’ve been subcontracted. 

  • SME Research & Development Tax Relief
  • Research and Development Expenditure Credit (RDEC)

SME Research & Development Tax Relief

The small and medium-sized research and development relief is the most common option for small businesses. You must have less than 500 staff and a turnover of less than £100 million.

This scheme allows you to deduct an extra 130% of qualifying costs from your yearly profits, as well as your normal 100% deduction, totalling 230%. In addition, SMEs that subcontract qualifying R&D activities can claim tax relief on 65% of the payment to the subcontractor.

For example:

Project costAmountAmount eligible for R&D tax relief at 130%
Staff basic salaries£176,672.91£229,674.78
  Staff National Insurance£21,582.97£28,057.86
Subcontractor invoiceTotal = £111,326.70
65% of subcontractor invoice = £75,362.36

The total amount that is eligible for R&D tax relief is £351,803.70.

Paying 19% corporation tax on that amount results in a cash benefit to the business of £66,842.70.       

There is no minimum claim amount under the R&D Tax Credits SME scheme, and 72% of the claims made in 2018-2019 (according to the latest report) were claims of up to £50,000.

If your company is making a loss, you can claim R&D tax credits worth up to 14.5% of the surrenderable loss.

A note about taxable losses

It’s predicted that only 10% of all companies in the UK in the tax period 2021/22 will be reporting a taxable profit over £250,000.

R&D credits are a primary tax relief and can reduce your company’s Taxable Profits below £0.  creating a taxable loss. The Annual Investment Allowance and Super Deduction, however, are final tax reliefs, and so can only reduce taxable profits to £0. This means that if a taxable loss situation would occur, it would not be tax-effective to utilise a Hire Purchase, loan or to use cash to pay for assets.

Research and Development Expenditure Credit (RDEC)

RDEC is aimed at larger companies, but as a smaller business, you can claim it if you’ve been subcontracted to do R&D work for a large company. As of 1 April 2020, you can claim relief on 13% of qualifying R&D expenditure. In 2018-2019, the average claim by a large company was £332,000.  

To find out if your business could be entitled to R&D relief, your first port of call should be a reputable accountant with the relevant experience. However, it is important that the accountant you choose is covered by indemnity insurance. This insurance will add an additional layer of protection to your claim should your accountant provide inaccurate advice on which activities are eligible for R&D tax relief.

Next time…

In chapter 3 of The Creative Finance Mission series we’ll be covering the topic of saving your business money by switching from petrol and diesel to electric vehicles.

Click here to subscribe to the series and we’ll let you know when it’s been published.

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