22 March 2023
What is the background?
Before going into detail on the research and development (R&D) tax relief changes announced, it is helpful to recap on the background.
There are currently two schemes of relief:
- designed for small and medium-sized enterprises (SMEs) – consisting of an additional tax deduction combined with a payable credit for loss-makers; and
- designed for larger companies and consisting of an R&D expenditure credit (RDEC) – recognised for accounting purposes as an item of profit before tax.
While the government has always been committed to retaining a tax relief for companies carrying out R&D activities, it has recently been looking at ways to modernise the reliefs and protect against abuse, which is thought to be particularly prevalent in relation to the SME scheme. Certain technical changes that will affect both regimes have been in the process of being adopted for several years, before the chancellor announced in the autumn statement that the rates of relief under the SME scheme would be slashed, and the government would consult on merging the two existing schemes into one RDEC-like relief. Read more about the proposed changes.
The SME scheme
Following the 2022 autumn statement, legislation has been enacted to ensure that, from 1 April 2023, the enhanced tax deduction available to SMEs in respect of qualifying R&D expenditure will decrease from 130% to 86%, and the payable credit for loss-making SMEs generally will be cut from 14.5% to 10%. Consequently, once the increase in the main rate of corporation tax to 25% from 1 April 2023 is taken into account, the SME R&D tax relief will be worth 21.5p for every £1 of qualifying expenditure to profitable companies, down from 24.7p currently, whilst the cash benefit falls from 33.35p to 18.6p per £1 for loss-making businesses.
Understandably, many small businesses that carry out substantial R&D activities have expressed concern at the scale of this cut in support, and the chancellor has responded with a measure intended to help ensure that appropriate incentives for innovation remain available to SMEs. The budget confirms that, from 1 April 2023, a higher rate of payable credit will be available for loss-making SMEs that are ‘R&D intensive’. Consequently, SME companies with qualifying R&D expenditure constituting at least 40% of their total expenditure will be able to obtain a payable credit of 14.5% of the losses surrendered, rather than the normal rate of 10%. Therefore, the net benefit they obtain will be 26.97p per £1 of qualifying expenditure – still less than it was prior to 1 April 2023, but not as dramatically so.
It is worth noting, that 40% is a fairly high ‘bar’ to satisfy before accessing this higher rate of credit, and it is anticipated that a relatively small population of claimants will be able to access this, weighted to life sciences and technology sectors that the government have been vocal about targeting support towards.
As previously announced, the R&D tax reliefs will be reformed for accounting periods beginning on or after 1 April 2023 by expanding the scope of qualifying expenditure to include data and cloud computing costs and implementing measures to target abuse and improve compliance. However, the intended restriction on most expenditure on sub-contractors or externally provided workers located outside the UK will now come into effect a year later, for accounting periods beginning on or after 1 April 2024. This is positive news and will allow the government to consider the interaction between this restriction and the design of a potential merger of the two R&D regimes.
To tackle the widespread abuse of R&D tax reliefs, the government has brought forward a requirement for an additional information return, a new digital submission (via a web-based form) which must be provided in support of all claims made on or after 1 August 2023. This form represents a significant new administrative burden for claimants, requiring them to provide specific information about the company’s R&D activities, the costs incurred, the identity of any agent that has advised on the claim, and the employee or officer of the company that is responsible for it.
The consultation on a single scheme
In November 2022, the government announced that it would consult more widely to ensure that the R&D tax reliefs remain effective and competitive, and in January 2023 it launched a consultation on merging the two existing schemes. The consultation closed on 13 March 2023. The government is currently considering the responses and no decision has been made. It intends to keep open the option of implementing a merged scheme from 1 April 2024 and, if it decides to proceed, will publish draft legislation for technical consultation in the summer.
Key considerations for life sciences businesses
Many of these changes came into effect at the beginning of April 2023, meaning that considering the impact of these on your life sciences business is an immediate priority. Considerations include the below:
- Acknowledging that claims submitted after 1 August 2023 will need to include an ‘additional information form’, submitted via the tax return portal. Completion of this form is not an insignificant task, which will add cost and complexity to your claim. If you believe you could be able to submit your next R&D claim by 31 July, we strongly suggest you consider doing so. For those that cannot, thought will be needed to plan how to gather and submit this additional information.
- For those that believe they may qualify for the new ‘R&D intensive’ higher rate of SME payable tax credit, you will need to consider whether to; a) wait to file a claim for such relief until it enters legislation (likely to be spring 2024); or b) file a claim for relief at the current SME rate of 10%, and then look to resubmit once the legislation is effective, to uplift the claim to 14.5%. Weighing up the benefit of accelerated cash flow, versus cost of resubmitting your claim will be a factor.
As part of this, businesses will need to calculate whether they will meet the eligibility criteria to be considered R&D intensive, by reference to the 40% threshold.
- Considering how the other changes, both to rates, eligible expenditure, and dates of effective introduction of key measures, such as the territorial restrictions will all need modelling to support forecasts.
We anticipate draft legislation in summer 2023, so watch this space for our further updates.