Proposed Cap on R&D tax relief

Since their inception, R&D tax credits have provided a vital source of funding for scientific and technological exploits in a company. Unfortunately, in recent years, there has been an increase in the number of fraudulent claims, which has prompted government action.

On 1 April 2020 HMRC and HM Treasury will introduce a cap on the amount of R&D tax credit that can be refunded in any period. The cap will limit any cash refund to 3 times a company’s total NIC and PAYE costs.

The cap won’t affect everybody. Most likely to be affected are those loss-making companies with a low headcount that outsource R&D such as:

• Smaller family-owned businesses where the R&D element is subcontracted and the majority of payments to the owners are through dividends rather than salaries;
• University spinouts that, in their early stages, often subcontract work back to the University or another research institution;
• Early stage drug-development companies, who often subcontract clinical trials to hospitals or Contract Research Organisations (CROs).

In early 2019, HMRC published a consultation document inviting comment as to how to mitigate the effect of the cap for genuine R&D claims.

The broad areas for consideration included the following suggestions:

• Bringing in a threshold below which the cap does not apply, so the smallest claims are unaffected;
• In a group situation allowing the group’s PAYE/NIC liability to be counted (thereby increasing the size of the cap);
• Allowing qualifying amounts in excess of the cap to be carried forward for use in a subsequent period when the situation reverses.

James Cowper Kreston invited clients, whose businesses operate within the technology sector, to a round table event headed by Head of Technology, Sue Staunton and Tax Director, Margaret Savory, to provide feedback and discussion on the consultation document. Policy advisors from both HMRC and HM Treasury were in attendance by telephone conference to listen in to the debate.

There were lively discussions but some typical themes emerged from clients. These included the observation that the typical early-stage university spinout model - very small headcount initially and outsource the R&D project work back to the university - might continue for several years, if not a decade (particularly in the case of drug-discovery companies) before employee numbers increase.

Additionally, in certain technical areas, such as design engineering, there is a skills shortage and it is not possible to find enough suitably-qualified candidates for a position. So, the only alternative to progress the R&D project is to outsource the activity to a third party.

The discussions also covered the effect on companies who operate within a group structure, and also considered whether the cap incentivised companies to employ more staff.

Margaret Savory, an R&D specialist, commented: “We were delighted that our clients and the policymakers were so engaged in the discussion and learned from each other. Whilst no overall solution was provided, the discussions made clear the need for mechanisms to ensure that the UK’s science and technological sector should not unduly suffer from the cap. The UK’s R&D relief offering has to remain competitive with other countries’ R&D policies, otherwise there is a risk that innovative and technological companies will set up overseas instead.”

The government will now consider all the formal responses received to the consultation (including the one submitted by James Cowper Kreston). In the coming months HMRC will issue their responses and recommendations which will, in turn, form part of the revised law and/or guidance on the cap when it comes into force on 1 April 2020.

James Cowper Kreston’s R&D specialists will ensure that their clients are kept up to date on all developments as they are announced. The team would be delighted to hear from anyone who thinks that they might be affected by the cap.

For more information please contact us on +44 (0)1865 861166 or by visiting our website www.jamescowperkreston.co.uk

Pictured: Margaret Savory, Business Tax Director, Oxford and The Thames Valley