A brief-ish history of time - the ups and downs of R&D and Patent Box tax relief so far...
With the UK general election around the corner, many businesses who prioritise investment in technology will be interested to follow the consequences of the election result on two extremely important tax reliefs – Research and Development and Patent Box. The two reliefs have represented vital sources of funding since 2000 and 2013 respectively for companies who have looked to develop and create new technologies, and then to productise and sell these technologies in a tax efficient manner. Following the changes to these rules for one of the schemes in particular has been challenging to say the least, which has arguably played its part in necessitating a market for R&D tax agents.
The R&D tax relief scheme was introduced into the UK by the Labour Government in 2000, at which point the UK was one of the last OECD countries to adopt such a scheme. Two years later, the scheme was split into two separate schemes for large companies and SMEs in order to give greater support to SMEs and start-ups.
In the early days, there were a few quirks to the scheme such as a minimum expenditure requirement (£25,000 initially but then reduced to £10,000), and the “80:20” arrangement whereby individuals spending more than 80% of their time on R&D could be claimed in full, whilst individuals spending less than 20% of their time on R&D were excluded. New categories of expenditure such as consumable, software and clinical trial payments were gradually introduced into the scheme.
As the scheme grew in stature, individual specialist R&D Units were set up in 2006 to deal with the bulk of claims made. At this stage, SMEs were receiving an additional uplift of 50% whilst large companies were receiving 25%. In 2008, the large scheme was boosted to 30% uplifted expenditure, and later in the year the SME scheme was given a boost to 75% - an unprecedented incentive for UK SMEs to create and develop cutting edge technologies.
The credit crunch soon engulfed the UK economy which led to a change of government; the Conservative-led coalition government did initially boost the R&D scheme in 2011 by increasing the SME uplift rate to 100%, and then again to 125% in 2012. Loss making SMEs were also incentivised, firstly through the abolition of the PAYE and NI cap in 2012 and then by the credit rate being increased from 11% to 14.5% in 2014, meaning that loss making companies could claim almost one-third of their expenditure back in the form of a payable credit.
Shortly prior to this, two new schemes were introduced – the RDEC scheme (R&D expenditure credit) for large companies, and the Patent Box tax relief scheme for all companies were both introduced in April 2013. The former enabled large enterprises (or SMEs subcontracted by a large enterprise) to receive a (taxable) payable credit at a gross rate of 10%, something that had only previously been available to SMEs, and the latter scheme enabled companies holding (or being exclusively licenced to exploit) qualifying intellectual property to pay a reduced rate of corporation tax on its profits (10%).
The last beneficial change to the SME scheme was made in 2015 when the SME uplift rate was boosted again from 125% to 130%; the RDEC scheme’s gross taxable credit rate was also boosted from 10% to 11%. This coincided with a general election which gave Conservatives almost sole power without the Liberal Democrat aided coalition.
Since 2016, it can be argued that the SME scheme has been made less lucrative, more complicated and much more heavily scrutinised. The R&D uplift rate stayed at 130% until April 2023 when it has been reduced, for the first time, to 86%. The payable credit rate was also reduced from 14.5% down to 10% for non-R&D intensive SMEs (broadly those who incur less than 40% of their total expenditure on research and development).
Other changed have included the reintroduction of the PAYE and NI cap in 2021, albeit with more caveats and flexibility than the original cap that was abolished nine years previously. Certain overseas expenditure categories will not be claimable from 2024, although on the flipside certain cloud computing and data costs have been able to be claimed from 2023.
Conversely, the RDEC scheme for large companies has gone from strength to strength since the 2015 election. The rate increase at the start of 2018 from 11% to 12%, and then again in 2020 from 12% to 13%. In 2023, the rate increased substantially to 20% (simultaneously to the SME scheme reducing in value), leading to speculation that the two schemes would eventually be merged. These apprehensions were realised in the most recent budget when it was confirmed that a merged scheme would apply for all companies with accounting periods beginning on or after 1 April 2024, which very closely follow the current RDEC rules.
Other complications that have been introduced include the introduction of a supplementary CT600L form for companies undertaking R&D, an additional information form (AIF) that is compulsory for companies to complete prior to a CT return being filed, and a pre-notification form for new claimants (and some previous claimants) have to complete within six months of the end of the relevant period. HMRC has also abolished the use of client account transfers, where tax credits and/or tax refunds could previously be paid directly to the company’s main agent or R&D agent.
In recent communications, it has been quoted that HMRC are now opening enquiries into around 20% of R&D tax credit claims made, compared to barely a couple of percent two years ago. This has stemmed from widespread abuse of the scheme, particularly in the SME scheme, which led to HMRC recruiting well over 250 additional staff to combat fraud and error in this area of tax. Although this seems to have reduced incidences of misappropriation, it is also causing a major headache to genuine claimants who are having to go above and beyond to prove their case to HMRC purely to claim what they are entitled to.
One thing that has not been mentioned much above is the Patent Box tax relief scheme. Since its inception in 2013, the scheme has remained largely untouched, other than some minor changes made in July 2016 to incentivise development activity in the UK and to reduce the benefit of the relief for companies that acquired intellectual property externally rather than internal generation. With the main rate of corporation tax increasing to 25% in 2023, the benefit of this relief has grown to a level comparable with current R&D tax relief rates.
Looking forward to the upcoming election, current projections are indicating that there will be a new government taking the country forward in the second half of the year. The Labour manifesto indicates that a new government would, for now, maintain both of the schemes in their current guise with the intention of stabilising the economy and not making changes for change’s sake. When looking back at the vastness of changes in recent times, it is difficult not to see this as a welcome relief for all of the stakeholders in this industry.
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