What are small business R&D tax credits?
The Research and Development (R&D) tax credits scheme exists to reward and incentivise innovation within the UK economy.
The UK Government has committed to spending £22 billion to incentivise UK businesses to conduct R&D projects by 2025. R&D tax credits are a valuable cash injection for companies and can help them hire new people, conduct more R&D activities, and ultimately grow the business.
Innovation is a hugely important driver of long-term economic growth and tackling huge problems society faces, such as climate change. The UK Government has set a target of innovation spending at 2.4% GDP by 2027, and SMEs are a huge part of this.
Two R&D tax schemes reflect the different needs of SMEs and large companies. The UK’s SME scheme began in 2000, and the large company scheme (Research and Development Expenditure Credit, RDEC) followed two years later, in 2002, for firms that were ineligible for the SME scheme.
The SME R&D tax scheme offers tax benefits in the form of enhanced deductions for qualifying R&D expenditure. Depending on your company’s profit or loss-making position, you can receive a benefit of up to 33% of the qualifying costs. This would give you back 33p for every £1 of qualifying spend. The benefit is received either as a reduction in corporation tax or a cash credit.
How does the R&D SME scheme work?
The scope of R&D for tax purposes is much broader than you might think, and not just the proverbial grey-haired white lab-coated scientist. If your company spends money on research, development, or innovation, at least a portion of these costs will likely be eligible.
The criteria for research and development in tax terms are:
Seeking an advance in a field of science or technology.
There are several ways the activity might meet this criterium:
- Developing something completely new.
- Appreciably improving an existing process or product.
- Duplicating an existing process or product using a different method or material.
- Duplicating a competitor’s existing process or product, kept as a trade secret.
Attempting to overcome scientific or technological uncertainty whilst seeking your advance;
Uncertainty is the important word here. It will be a problem that your knowledgeable employees could not solve without investigating. This uncertainty could be due to a variety of reasons, including:
- Infrastructural constraints
- Architectural challenges
- Cost constraints
- Industry-related trends, etc.
Failure is part and parcel of R&D, so the project doesn’t have to be successful to be eligible!
The definition of R&D used by the UK government is purposefully broad as it has to cover all sectors, including construction, IT, food science, manufacturing, and pharmaceuticals. This broad definition means that the scope of qualifying projects and activities is extensive – from new product development and product/process improvement to internal projects such as improvements to sustainability. Often work that feels routine can meet all the criteria for R&D.
What are cost categories?
You can claim for qualifying activities in several categories of costs.
Cost categories include:
- Staff time,
- software licenses,
- and materials.
To claim under the SME scheme, you must first assess activities and costs to determine which qualify. Your tax benefit can then be calculated and submitted alongside the evidence to HMRC – either as a corporate tax reduction or as a request to receive R&D tax credits. On average, it takes approximately 35 days to receive your payment from HMRC once you have submitted it.
Who is eligible for small business R&D credits?
The SME R&D tax scheme targets SMEs that undertake qualifying R&D activity. The UK definition of an SME is a company with:
- Fewer than 500 staff
- Either less than €100 million turnover OR less than €86 million gross assets.
To be eligible, you also have to be liable for UK corporate tax; you must not have received notified state aid such as grants, and the expenditure you want to claim for must be revenue in nature.
Most UK operating businesses will fall into this category, including start-ups, and we can see this in the statistics. The SME R&D tax scheme receives more than 52,000 claims each year. Even if you don’t meet the criteria, you might still be able to claim under the large company RDEC scheme instead.
You can claim R&D tax relief for your last two completed accounting periods if this is your first-time claim. After two accounting periods, R&D undertaken can no longer be back claimed, so there’s no time like the present to begin the process of your SME R&D tax claim!
R&D tax credit for start-ups
On average, SMEs claim roughly £60,000 in R&D tax relief. However, more than 50% of UK SMEs have not heard of the scheme, including many start-ups. The average R&D tax relief claimed for businesses less than five years old is roughly £40,000, which can present a hugely valuable source of cash for companies in those difficult first few years.
Typically, a start-up forms to service a gap in the market or to monetise a new idea. These new ideas usually involve the development of a process, product, service or device. In this case, it’s likely you are undertaking R&D in some capacity and could be eligible to claim under the SME R&D tax scheme.
There is a common misconception that start-ups can’t claim R&D Tax Credits because they have very few employees, but staff wages only make up one category of costs!
The investments made in software licenses for R&D, materials to create prototypes, and utilities used on your premises are all eligible to be claimed. In the SME scheme, a portion of expenditure on 3rd party R&D work, for example, to a firm with equipment and capabilities that you are yet to have in-house, is eligible to be claimed and can form a significant component of start-up R&D tax credit claims.
You don’t have to be profitable to benefit from R&D tax credits. If you are a loss-making company (as many start-ups are), you receive 33% of your qualifying expenditure back as a tax credit!
What does this mean for SMEs and start-ups?
Your R&D activity simply needs to fit HMRC’s definition of seeking an advance in a scientific or technological field and facing uncertainties along the way. It doesn’t have to be cutting edge research (though it can be!)
People often consider problem-solving activities as ‘business as usual’ when actually their problems feature technological or scientific uncertainties. Therefore, any activity done to find the solutions would qualify for R&D tax credits.
In terms of receivable benefit, if you made a profit during the accounting period you’re claiming for, you can claim up to 24.7% of your qualifying R&D expenditure, either to reduce your payable tax or as a cash credit.
- If you’re profit-making and spent £250,000 of qualifying costs on R&D, you could receive £61,750 in your bank in 35 days.
Likewise, suppose you made a loss during the accounting period for which you’re claiming. In this case, you can claim up to 33% of your qualifying R&D expenditure, either as a cash credit, offsetting against prior or future years profits, or surrender it for the group relief.
- If you’re loss-making and spent £250,000 of qualifying costs on R&D, you could offset £82,500 against future years profits – reducing your tax payable in that year.
How Ayming can help
Put simply, we use our knowledge and experience to maximise your R&D tax relief claim, ensure it is robust and defensible, and make the whole process as easy for you as possible.
Ayming has dedicated teams of tax and technical experts who understand the intricacies of the R&D tax credit schemes and have a vast range of industry knowledge.
If you have used an advisor previously or claimed in-house, and we feel that you underclaimed in your previous accounting period, we will work to uplift it and get the benefit to which your company is entitled.
We have experts with backgrounds in most sectors, from civil engineering to life sciences, from food and beverage to software development. We talk to the members of your team carrying out the R&D activities as peers. We use the same technical language and incorporate it into the language of R&D tax writing to make it as understandable as possible to the layperson.
We can also tailor our methodology for gathering qualifying expenditure to best suit your company’s financial data recording and ensure we create the most efficient process for you. We do most of the legwork, leaving you to carry on innovating and growing your business.
Ayming will be there throughout the entire R&D tax claims process, and if HMRC has questions or wishes to open an enquiry, we’ll be with you every step of the way to support your claim.