Research & Development (R&D) tax relief claims - a new era?

The Government has long recognised that a ‘competitive R&D tax credit scheme’ is an important driver of its objective for the UK to become a global leader in science and innovation. 

The most recent figures (for 2018/19) show over £5.3bn of R&D tax relief support was claimed just for that year, across 50,000 claims. In total, over £28bn in tax relief has been claimed across all of the R&D schemes. HMRC estimates that every £1 in R&D tax credits stimulates an additional £0.75 to £1.28 of R&D expenditure by Small & Medium sized Enterprises (SMEs), and between £2.40 and £2.70 of additional R&D spend by large companies.  

It is clearly an effective stimulus. But there are growing concerns within the Government that R&D tax reliefs are open to error and potential abuse. The National Audit Office estimates the level of error and fraud is over £300m a year, leading the NAO to qualify HMRC’s most recent audit*.  

HMRC has taken three main steps to address these concerns: 

• Recruited an additional 100 extra staff to review R&D claims. PwC understands they are now in post and actively reviewing R&D claims. 
• Accelerated plans to implement a ‘random enquiry programme’ for R&D reliefs, in part to better understand the levels of error and/or deliberate overclaims.
  
• Re-introduced a maximum cap on SME scheme cash claims, from 1 April 2021. This will cap the cash credits for an SME to £20,000 plus 300% of the company’s total PAYE and NICs liability for certain businesses. This could significantly impact SMEs that share R&D resources across their corporate group and/or outsource to third parties, and it is likely to impact biotech firms in particular.  

So what does this mean for you?

We are approaching a new era for R&D tax claims: one of increased scrutiny of claims by HMRC through more enquiries, more challenges to R&D claims on technical and factual grounds, and a renewed emphasis on the overall quality of the evidence to substantiate the claim. This will likely impact a broad spectrum of claims, including those made on a similar basis to earlier years. 

One critical area to focus on is the supporting evidence for the claim. The burden of proof is on the claimant to establish their entitlement to the tax relief, and to substantiate the specific amount claimed. Claims should have clear eligibility assessments and project documentation, demonstrating the technological advance in question through measurement against the technical baseline. The documentation should focus on the underlying technical development, rather than on its functional requirements. And remember: R&D claims are statements of fact by the claimant that they are entitled to the relief in the amount claimed. 

There should also be a clear strategy underpinning the claim’s preparation and submission. Think carefully about how you identify and collect relevant data, as well as how you present the claim to HMRC and how you interact with them  - right from the beginning of any enquiry or correspondence. 

Know the risks

HMRC can impose potentially substantial financial penalties on claimants that cannot reasonably evidence their claim, including where supporting evidence is incomplete or incorrect. Whenever a claim is amended as a result of an HMRC challenge, HMRC will always consider charging penalties.  Whether a penalty is due and its amount will be driven by whether there is a ‘reasonable excuse’ for the adjustment, whether it is unprompted or prompted by HMRC, and any mitigation the claimant can establish.

In extreme cases, significant penalties can also apply under the Corporate Criminal Offence (CCO) regulations where corporates do not have reasonable procedures in place to protect against any deliberate overclaim. Large business claimants may face additional scrutiny and possible censure through the Senior Accounting Officer (SAO) regime where robust governance is required to support the claim. 

There may be other implications of an enquiry into a claim. For example, HMRC might look into adjacent tax issues, such as IR35 for external workers. They might also focus on transfer pricing - not only where there is intra-group R&D activity, but also look at the wider question of identifying the value added by the R&D activity in the first place, including possible expectations of current and future revenues. We can expect to see more HMRC enquiries on this in the future.

Please speak to Rohit Patiar, Rachel Moore or Andy Olymbios to discuss this further.

* HMRC’s Annual Report and Accounts - PDF version