Cap on HMRC Tax Credit for Loss-Making Businesses Due to Come into Force from April 2020
To crackdown on fraudulent abuse of HMRC’s SME R&D Tax Relief, a cap on the amount of tax credit a loss-making SME can claim is due to be introduced from April 2020. This tax credit is intended to stimulate research and development in the science and technological sectors within the UK and is seen as vital within government and business spheres in order to allow the UK to compete on a global stage. However, HMRC has determined that the scheme is being misused in order to fraudulently claim the tax credit, leading to the cap. David Redfern, tax preparation specialist and director of DSR Tax Claims Ltd explains what this cap will mean for SMEs and whether your small or medium-sized business is entitled to claim this tax credit.
The SME R&D Scheme is open to businesses with less than 500 employees and a turnover of less than €100m and provides either a reduction in Corporation Tax for profitable businesses or a tax credit of up to 14.5% on employee costs for loss-making companies. However, HMRC has been concerned that the tax credit scheme is open to abuse and has evidence that a small number of companies have deliberately created financial structures in order to claim the credit despite having little UK activity or employment, with actual R&D activity taking place elsewhere and being funnelled through a UK entity purely to claim the tax credit. Other companies have been set up purely to claim R&D Tax credits whilst doing little legitimate R&D activity. HMRC estimates that these abuses have cost the UK Treasury in excess of £300m and as a result, has introduced a cap on the tax credit. Redfern explained “As of April next year, qualifying employee costs for loss-making businesses will be capped at a maximum of three times the total PAYE and National Insurance expenditure for that year in order to ensure that the relief is targeted at companies which have a genuine UK presence”.
Despite criticisms that the cap will impact genuine small companies as well as those which outsource their R&D clinical trials and therefore have a small employee liability despite a large R&D spend, it is due to come into force in April 2020. HMRC estimates that 95% of qualifying businesses will be unaffected by the cap and SMEs are still encouraged to claim SME R&D relief if they meet the qualifying criteria. R&D activity is defined as activity which seeks to advance overall knowledge or capability in a field of science or technology through the resolution of scientific or technological uncertainty. Redfern stated “Qualifying SMEs must meet HMRC’s definition of an R&D project, including that it must relate to your company’s existing trade or one it intends to utilise following the R&D, it must seek to advance current knowledge by overcoming a current uncertainty and must not be easily worked out by a professional in the field and in order to quality, the SME must be able to demonstrate all of these factors. For example, when overcoming uncertainty, the business must be able to show that current experts in that field are unable to say whether something is technically possible or how it could be done when looking at all available evidence”.
In order to claim the relief, projects have to be able to prove they meet other conditions. Redfern explains “Your business need to be able to prove to HMRC that it has overcome uncertainty by being able to demonstrate your R&D research, including testing and analysis, as well as how it overcame the uncertainty by demonstrating the failures and successes encountered by your project”. Qualifying R&D projects must be within the science and technological fields, not including social sciences such as economics or purely theoretical fields such as pure maths. The SME R&D Scheme provides in excess of £1.8bn in relief to qualifying companies each year and can be claimed from HMRC. The cap in R&D Tax Credits is due to come into force in April 2020 following a government consultation which ended in May 2019.