The New R&D Tax Relief Enquiry Landscape and How to Respond
HMRC has recruited additional technical resources, resulting in a rise in the number of enquiries opened into claims. Enquiries are now longer and more forensic, with an intensive requirement to provide substantiating evidence. HMRC are increasingly likely to open enquiries into claims that have, in the past, been processed with limited scrutiny. Enquiries are now being opened in their thousands: the first thing to note is that your enquiry is not personal. The decision to open an enquiry may follow a computer algorithm that has identified a claim because of the industry or area of technology in which you work. For example, software claims are high up on HMRC’s agenda at present.
Having said this, the new environment is a potent reminder of the need for diligence in the pursuit of your R&D claim. There is no getting away from the fact that your most competent technical person is going to have to dedicate a good number of days to providing HMRC with the answers that they require in the manner that they require them. The burden of proof falls squarely on the claimant company and there is no burden on HMRC to defend why a claim has been rejected so it is important to be as organised as possible when defending your enquiry into your R&D claim.
Previous enquiries were often conducted with on-site visits to claimant company premises which negated the requirement for protracted correspondence. Enquiries were concluded quickly and pragmatically. Today, HMRC are not offering on-site meetings and rarely offers conference calls meaning it is of paramount importance that you take care with your written answers.
All too often, legitimate R&D claimants are unable to dedicate the time and resources to defend an R&D enquiry due to the increased amount of time it takes to satisfy HMRC that the claim is valid. It is wrong that HMRC will potentially see these cases as being won due to ‘fraud’, ‘error’ or ‘abuse’ of the scheme rather than the clients’ inability to dedicate the time to pursuing the enquiry. We therefore urge you to ensure you dedicate the time to provide full and adequate responses to HMRC.
There is no single ‘right way’ how to respond but there are some simple steps that you must take to avoid HMRC rejecting the claim, which will more often than not happen after you have responded to the second more tailored letter.
What should you expect from an enquiry?
Standard letter #1
In recent months, the enquiries we have seen have always started with the same standard letter which is split into two areas:
1. R&D Activities
- Detail of the number of Research & Development projects claimed within the period.
- An explanation of what the scientific or technological advance(s) is.
- An explanation of what the scientific or technological uncertainties involved in the project were.
- Detail of how and when the uncertainties were overcome.
- Detail as to why the knowledge being sought was not readily deducible by a competent professional.
2. R&D Costs and Calculations
- A breakdown and analysis of the qualifying expenditure using the sub-headings:
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- Staffing Costs (name, job title, wage bill, value, details of the qualifying activities giving a brief description of their role in the R&D project(s).)
- Software or consumable items
- Qualifying expenditure on externally provided workers
- Sub-contractor payments (name, brief description of their role)
- Relevant payments to subjects of a clinical trial
- Any other costs included in the claim to relief
- For any apportioned costs, the rationale and methodology used to come to this apportionment, with supporting evidence where available.
- Confirmation that all the amounts included above have been paid and incurred.
- Any other information which may aid the enquiry.
The letters usually include no reference to any information which may have already been provided to HMRC: in most cases, a full technical report and a full cost breakdown. Very often the first response is to refer HMRC to these documents which were submitted when the claim was filed.
Tailored letter #2
What then follows is normally a more detailed interrogation of the claim, which often seems repetitive. In the examples we have seen, HMRC have subsequently requested one or more of the following:
- Meeting minutes or emails which provide evidence of the work being undertaken
- Evidence of payment for the costs included in the claim. Many are unaware that there is a payment requirement for R&D expenditure.
- Copies of grant applications for any projects in receipt of grant funding
- Details of transactions with related or connected parties
- Copies of contracts for projects where a customer has placed an order
- Copies of sales and purchase invoices
- Details of any patents filed in relation to the technology, and if no patent has been filed, reasons why this has not been considered.
- A clear identification of all the technological uncertainties including:
- The current technological limitations
- Current practice and why it fails to resolve the uncertainty
- What was the gap in technological knowledge or capacity which necessitated the commencement of R&D
- An explanation of the research undertaken to establish these were uncertainties in the overall field of technology that could not be solved by readily deducible methods within a company’s knowledge of information in the public domain
- All stages from planning to deployment
A recent feature of R&D tax relief enquiries has been the requirement to provide HMRC with ‘proof’ or ‘evidence’ that advancement in technology has been made. This was a theme which was explored in a recent First Tier Tribunal case – Grazer Learning Limited v HMRC – where the tribunal stressed that the burden of proof is on the claimant company to demonstrate an advancement has been made.
Similarly, in a recent enquiry case handled at YesTax the requirement to provide proof of advancement was also a feature. Our response asked what form this ‘proof’ may take? The inspector dealing with the enquiry could not answer this point. Despite statements from the competent professional at the claimant company outlining where the advancement was as well as statements from the customer who had placed an order for the technology, the inspector was still unable to accept the evidence that an advancement had been made. The case was a worrying example but one thing we learned from this experience is that documentation is key to reducing the risk of an enquiry. Failure to keep written records means reliance on oral evidence which may lead to a rejected claim.
In next week's article, we will set out ten tips for dealing with an R&D tax relief enquiry from HMRC.
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