How to better forecast your R&D tax claim

Diagnostax Blog 2: R&D Better Forecasting

How to better forecast your R&D tax claim

When R&D tax relief first fell onto your radar, you were no doubt blown away by the generous benefit, of up to £33 back for every £100 you invest in R&D. But the truth is – as you may have already experienced – for R&D projects, the amount you can claim ranges anywhere from 0 to 33%, depending on several factors.

As a business that is investing in research and development activity, and making R&D tax relief claims, it’s important for you to have as much certainty over your R&D claim, as early as possible, even as early as the planning phase. But why?

Well, an R&D claim only gets you money back for costs you have already incurred. This means you’re not going to get any benefit from the investment until at least a year or so down the line, or if you’ve really got your act together, several months.

Getting a better understanding of what will qualify before the project, allows for a more accurate estimate of the true cost of the investment, at the outset. At the front of the project this enables more accurate budgeting for the time and resource invested. At the back of the project when the claim comes to realisation, this enables more accurate cashflow forecasting so you can plan for any potential future investment.


SO, WHAT IS THE TRUE COST OF MY R&D??

To get a better understanding of the true cost of your R&D investment, there are three big questions you need to be able to answer BEFORE you kickstartyour next R&D project:

  1. Is it even an R&D project?
  2. What qualifying activity can I claim for?
  3. What R&D rate should be applied to the qualifying activity?

Let’s take a look at each of these questions in a little more detail….

R&D investment
  1. Is it even an R&D project?

You’ve got to get past this hurdle first and believe us when we say, we still work with businesses that misidentify R&D projects all the time. To err on the side of caution it’s best to keep a record of all projects that you think will qualify and check it out with your R&D adviser if you are unsure.

So, how do you know if your project is eligible?

Well, to be eligible, an R&D Project must be:

Making a considerable improvement to existing technology. This doesn’t always mean it needs to be ground-breaking work. If you are working to overcome technical uncertainties in order make your products, services or processes, faster, less expensive, or better in some way, the project may be eligible for R&D tax relief.

AND


Overcoming technological challenges, where the solution is not readily apparent to a qualified or experienced professional in their field of technology.

If it’s an R&D project, then it goes on the list, and you need to determine what costs you’ll be able to claim.

R&D project

2. What qualifying activity can I claim costs for?

To qualify, R&D activity must fall into one of the below categories:

  • Staff costs
    You can include the salaries, pensions and NIC of staff who are directly involved in the R&D project.
  • Reimbursed expenses paid to employees or directors on R&D travel
    You can include reimbursed expenses claimed by employees or directors on travel related to the R&D project.
  • Outsourced subcontractors or freelancers
    You can include 65% of the costs paid for “unconnected” subcontractors (under the SME R&D scheme).
  • Materials for prototype builds
    You can include the cost of the materials required for designing and constructing a prototype which will not be sold.
  • Ancillaries – utilities, software licences
    You can include an appropriate proportion of utilities and software costs used in your R&D projects.

Unfortunately it’s not always black and white, and knowing whether the activity ACTUALLY fits into a qualifying category can throw up some tricky red herrings.

software costs used in your R&D projects

Here’s a couple to keep an eye out for:

Software and Hosting….

Now this one’s a little cheeky. Although software licences can be claimed, hosting costs on their own do not fit into a qualifying category of R&D. This can be frustrating as businesses often incur large hosting costs used purely for R&D, so feel they should be included…but currently they aren’t.

Having said that, hosting can often include a lot of services, and depending on how the company uses them, there is the possibility they could be eligible under the software licence header. As you can see, this area is complex and your R&D provider would need to look into this for you, to help apportion the amount linked to a qualifying category.

Storage, telecom and data costs are just out of the game, they do not qualify.

Staff time…

Time allocation for employees involved in R&D projects will often be one of your biggest costs, and so it is vital to apportion everyone’s time as accurately as possible to get better certainty over your R&D claim. Record time spent by those directors, employees, qualified staff working on the R&D project.

It’s also important to make sure you are including staff costs for all indirect qualifying activity. This includes roles of support staff where they are engaged in activities such as finance and HR, that indirectly support an R&D project

3. What R&D rate should be applied to the qualifying activity?

So now we know the project is eligible, and the different qualifying categories the activity must slot into (including the nuances), we want to know the R&D rate that can be applied to the activities.

There are three main factors that could impact the amount of the costs incurred that you can actually claim back:

R&D SME Scheme vs. RDEC Scheme

Depending on which scheme you are claiming under, this can significantly impact the rate you can claim.

  • RDEC SCHEME: Following the 2021 Budget, RDEC increased to a 13% tax credit for expenditure incurred on or after 1 April 2020. As RDEC is subject to corporation tax, the net of cash benefit is currently 10.53%
  • SME SCHEME: The SME R&D Scheme is currently an additional 130% tax deduction for qualifying expenditure. So this equates to a 24.7% cash benefit for profitable companies, and up to 33.35% cash benefit for loss making companies that can claim the SME “tax credit”. Also note that following the 2021 Budget, SME tax credit claims are now subject to an annual cap of £20k plus 300% of the company’s PAYE and National Insurance Contributions liability.

The other major difference with the RDEC scheme is that you cannot claim for costs paid to limited company subcontractors.

Subcontracting vs. Inhouse

If your business sub-contracts R&D work to a third party subcontractor (unconnected to your company) – you will still be able to claim for some qualifying costs but the relief may only be 65% of those costs.

NOTE. If you have taken on subcontracted R&D work to your business, you might not be able to claim R&D tax relief at all, or the only route available to you is under the RDEC scheme – reducing your claim to 10.53% of the qualifying expenditure.

Profit Position vs. Loss Position

The upfront cashflow benefit is actually greater for loss-making SMEs. Here’s a look at the how this affects the rates:

Loss: If you’re going to be in a loss position, then HMRC will make a cash payment to you of up to 33.35p for every £1 spent on R&D activities.

Profit: If you’re going to be in a profit position then HMRC will make a cash payment to you (or offset against your corporation bill) of up to 24.7p for every £1 spent on R&D activities.

Then timings come into play….

Loss: If your company is going to make a loss, you can make the claim as soon as your accounts are prepared and ready for filing.

Profit: If your company is likely to be profitable, it’s a little different. The biggest benefit will come by reducing the tax bill which is due nine months after your year end.

Diagnostax. If your company is likely to be profitable, it’s a little different. The biggest benefit will come by reducing the tax bill which is due nine months after your year end.

R&D for Financial Forecasting

As you can see there’s actually a lot to consider when it comes to forecasting your R&D claim. Any steps taken towards getting a more accurate idea of your R&D claim in advance of the project are worthwhile.

If you are a business that is already claiming R&D tax relief, you should be able to retrospectively use the information from your previous claims to help you navigate some of the more challenging nuances of R&D tax relief.

THINK YOU MIGHT BE ELIGIBLE TO CLAIM?

If you think you might be eligible to claim R&D Tax Relief, or you’d like to discuss your R&D claim with us, please book a call.

Diagnostax. Maximise your R&D claim

Diagnostax Blog 4: Maximise your R&D Claim

14 Quick wins to get EVEN MORE money back in your next R&D claim

Remember that feeling when your first R&D tax refund hit money hit your bank account? Well, we want you to feel this every time you make a claim! How? By making sure you are prepared and  maximising every R&D claim.

To help we have complied 14 quick wins to optimise your R&D claim. From missed expenses, to record-keeping, to choosing the right R&D scheme; even the way you are paid!

We’re confident there will be something new to consider, starting with expenses….

optimise your R&D claim

7 MOST COMMON OVERLOOKED EXPENSES

Here’s seven examples of costs that are commonly missed in R&D claims:

  1. Expenses paid on a personal card
    We see this time and time again. Here’s an example: A business spends £15k on travel to meet R&D sub-contractors; paid for on a company card. If the travel had been paid on a personal card and reimbursed by the company, they could have claimed back £5k!
  2. Expenses when acting as a subcontractor
    Easily overlooked and often misunderstood. Subcontractors working as a third party in R&D for a large company can claim expenses under the RDEC Scheme.
  3. Expenses delivering work for a customer
    Similar concept to number 2. If you are delivering a lot of R&D work for third parties; don’t assume the work doesn’t qualify because it is for another company – keep a record of all R&D projects the business is involved in internally and for third parties.
  4. Rent bundled into a package
    You might not be aware that rent cannot be included in your R&D claim…unless it is bundled into a package with say your utilities. If your circumstances change, make us aware, as this could make part of your rent claimable.
  5. Expenses for non-technical support staff
    The best advice for staff costs is to keep a record of all staff involved in R&D projects (technical or not). They might not all qualify but if there are supporting roles involved you may be able to claim money back for your business.
  6. The Planning Stage
    Many businesses fail to include the planning stages for R&D projects, thinking it only begins when the materials costs kick in for example. But an R&D project doesn’t just start. There is always an element of time invested into preparatory work. Include it.
  7. Pre-trading expenses in a first R&D tax credit claim
    For newly formed companies, you can include qualifying pre-trading expenses in an R&D claim. This isn’t relevant for existing claims but for customers who have setup new companies that could qualify for R&D. Substantial research and development can often take place prior to a company beginning to trade and can be included in your R&D claim. In fact an R&D cash credit can even be claimed before a business starts to trade.

IMPORTANCE OF QUALITY RECORD-KEEPING

It’s vital to get a grip of good record-keeping for R&D projects, as it can really improve your R&D Tax Relief claim, leading to more money back and a robust audit trail.

  1. Review existing systems for record-keeping
    A quick win for record-keeping is to follow these three steps to see what you are doing at the moment and where there could be improvements or modifications:
    STEP 1 – Identify the records you can be confident in
    STEP 2 – Then determine where you are estimating
    STEP 3 – Tweak your systems to give greater confidence
  2. Keep a list of R&D Projects
    Keep a list of all the R&D projects that you’re working on, to make sure no projects are missed. Even if they turn out not to be eligible – there could be entire projects you are missing out altogether.
    TIP: An additional good practice tip to include here, is to keep a record of the advances sought and the uncertainties present before you kick-off an R&D project.
  3. Tracking Consumable Materials
    Issuing an in-house purchase order is a great way to track costs of any consumable materials you use for your R&D projects.
  4. Tracking Staff Costs
    Staff costs are one of the key expenses to claim, and so it’s critical to evidence the time of those involved in R&D Projects, if you are looking to maximise your claim to the fullest. We recommend incorporating real-time systems for timekeeping, such as Clockify.
  5. Subcontractor contracts
    Now these are important and worth exploring for future R&D claims. Your R&D claims could be improved by agreeing in subcontracting relationships, who can claim the R&D. Only one party in the relationship will be eligible for the tax relief, as you can’t both claim for the same project. We recommend putting a contract in place which details who has rights to the claim.
Diagnostax. To claim R&D you need to be a limited company

YOUR COMPANY STRUCTURE

To claim R&D you need to be a limited company, within the scope of corporation tax (but note you don’t actually have to be paying it i.e. loss making companies can claim). There are then a few things you should consider towards ensuring your claim is maximised.

  1. Revisit your Salary & Dividends
    Salaries can be included in your R&D claim, BUT dividends cannot. If you are a Director – heavily involved in R&D projects – taking a small salary and much higher dividends, it’s critical to revisit how you are paid to maximise your position personally and for the R&D claim.
  2. Part of a larger group?
    Companies face several pitfalls if they do not plan correctly.
    For businesses that are global, you can only claim for UK-based company R&D expenditure. Bearing this in mind, you need to think about where the R&D takes place within the group – who leads the R&D? Who employs the staff involved in R&D? There are some exceptions where you can recharge costs, but not all roles will qualify.
    If you are a small company operating within a large group, you should consider the benefits of accessing the higher rate of relief from the SME R&D Tax Relief Scheme.

LOOKING TO MAXIMISE YOUR NEXT CLAIM?


If you’re looking ahead to your next R&D claim, book in a scoping call and let’s make sure you are ready to take your claim to the max.

Subcontractor or Contractor - what R&D can I claim

Diagnostax Blog 6: R&D Subcontractor or Contractor

Subcontractor or Contractor – what R&D can I claim?

Subcontractors. Maybe you use them, maybe you are one, maybe you are acting as one for a one off project. Whatever the circumstances, when it comes to R&D Tax Relief, subcontractors should be considered carefully when claiming R&D Tax Relief. On too many occasions now, we have seen companies miss out on money that should have been back in their business, and we don’t want that to be you.

In this article, we look at eight rules to determine WHEN subcontractors, and contractors can claim, and WHICH scheme you can claim via.

KEY TERMS & DEFINITIONS

Let’s start with some key terms and definitions, as it might get a little technical in here….

The Contractor is the company that has ownership of the R&D project, and hires the Subcontractor.

The Subcontractor is the person or company hired to deliver work that contributes to the R&D project.


There are two different Subcontractor types:

A Connected Subcontractor is a company or individual controlled (meaning owned more than 50%) by the same shareholder(s) as the contractor.

An Unconnected Subcontractor is any subcontractor that is not a connected subcontractor.


Finally, here is a very quick description of the two R&D schemes available to claim via:

The RDEC scheme allows a company to claim up to 13% cash back of qualifying costs incurred.

The SME scheme allows a company to claim up to 33% of cash back of qualifying costs incurred.

Diagnostax. R&D Subcontractor claim

SUBCONTRACTORS: WHEN CAN I CLAIM & WHICH SCHEME SHOULD I USE?

As a subcontractor there are two main scenarios with specific rules around when and what R&D you can claim for.   

SCENARIO 1 – When acting as a subcontractor to a large company, the subcontractor can claim but only via the “RDEC” scheme.

Example. A small company who specialises in testing products to satisfy a certain legal regulation. If a large multinational company was making a new product and contracted the small company to do some tests, the small company can potentially claim under RDEC.

Note that in this case the large company cannot claim for the costs paid to the small company, so there is no risk of a ‘double claim’ occurring.

SCENARIO 2 – When acting as a subcontractor to anyone, but you are doing your own separate R&D project alongside that work, you can claim via the SME scheme.Example. The small company above is improving an internal process for the testing of products that will lead to efficiencies in the delivery of its services to all customers. Staff within the team spend time specifically trying to develop the process. This could count as a separate project, claimable under the SME scheme.

SUBCONTACTORS CAN’T CLAIM WHEN…… acting as an SME subcontractor to another SME for their R&D project.

Example. The testing company above is doing work as a subcontractor to another SME. The SME contractor may be able to claim (under the SME scheme) for the payments to the testing company, and so to avoid a ‘double claim’, the testing company cannot make a claim itself for work on this project.

Diagnostax. R&D contractor claim

CONTRACTORS: WHEN CAN I CLAIM & WHICH SCHEME SHOULD I USE?

As a contractor there are four main scenarios with specific rules around when and what R&D you can claim, for payments to subcontractors:

SCENARIO 1: When a large company subcontracts to individuals, partnerships or qualifying bodies (excluding limited companies), it can claim via the RDEC scheme.

Example. A large multinational contracts some research from a university on its project.

SCENARIO 2: When an SME company is grant funded / subsidised and subcontracts to individuals, partnerships, qualifying bodies (excluding limited companies), it can claim via the RDEC scheme.

Example. A small company wins a grant to develop proprietary software for an online portal that will have significant economic and environmental impact if adopted by the target market. Some of the software development is contracted to a freelancer who is an individual. These subcontracted costs could be claimable under the RDEC scheme.

SCENARIO 3: When an SME company subcontracts a specific part of an R&D project to an unconnected party, it can claim for 65% of the costs as qualifying expenditure via the SME scheme.

Example. The same company as above is developing a similar piece of software to test commercial application in a different industry. A third party company is used for the some of the development work costing £30,000. A claim may be available for this cost, under the SME scheme, for up to £6.5k as a cash credit.


SCENARIO 4:
 When subcontracting R&D work to a connected subcontractor, you can usually claim via the SME or RDEC scheme, however the rules for what you can claim for may be more or less restricted based on the circumstances.


CONTACTORS CAN’T CLAIM WHEN
…… subcontracting to Limited companies under the RDEC Scheme.

Example. The company above, who won a grant to develop proprietary software, outsourced some of the software development to individual freelancers, and some to a limited company agency. Only the costs paid to the individuals is within scope to claim. The amounts paid to the limited company cannot be claimed.

HMRC PAYE CAP

HMRC PAYE CAP

Please note from 1 April 2021, HMRC brought in a limit on the payable tax credit a business can receive from a claim via the SME R&D Tax Credit Scheme. Businesses can now only claim R&D Tax Relief up to the value of 300% of their combined PAYE and NIC liability. The first £20,000 is exempt, but any amount above this threshold will be capped.

The cap specifically applies to businesses that are unprofitable, and businesses that end up with an ‘artificial loss’, which they could then surrender for a cash injection, because of the enhancement mechanism of the R&D Scheme. In these circumstances, subcontractor fees from businesses that are unconnected may be restricted from being eligible for R&D tax credits, as might salaries for overseas workers. However, you should still be allowed to include a fraction of the PAYE & NIC liability of a connected business that is delivering R&D activities for you.

There is however an exemption to be aware of, for which you need to pass a two test criteria. For the first test a business’s employees must be “creating, preparing to create, or actively managing intellectual property” – otherwise known as Patent Box Relief.

The second test is based on a calculation of fees paid to subcontractors and externally provided workers of connected businesses. This total amount must be no more than 15% of a company’s R&D expenditure. If you pass both tests, you will be exempt from the cap.

Diagnostax. R&D OVERSEAS CONTRACTORS

OVERSEAS CONTRACTORS

Finally, it’s also worth noting that contractors do not have to be based in the UK, and the R&D work they deliver for you, does not to have to be undertaken in the UK.


THINK YOU MIGHT BE ELIGIBLE TO CLAIM?

If you think you might be eligible for R&D Tax Relief, and you’d like to find out more about how we can help you navigate your R&D claim, please book a call.

R&D Blogs for you

R&D Blogs all of the advice and guidance you need in one place to better understand research and development.

It’s time to put your front foot forward…manage risk…educate…raise awareness…
create opportunity and protect yourself.

And we’ve done the leg work for you.

R&D in one place

R&D Blogs all of the advice and guidance you need in one place to better understand research and development.

It’s time to put your front foot forward…manage risk…educate…raise awareness…
create opportunity and protect yourself.

And we’ve done the leg work for you.

Diagnostax: R&D Blogs for you

R&D Blogs all of the advice and guidance you need in one place to better understand research and development.

It’s time to put your front foot forward…manage risk…educate…raise awareness…
create opportunity and protect yourself.

And we’ve done the leg work for you.

Speak to the team about your goals and vision. We'll tell you how we can help you make them a reality.

Are you looking to work with a strategic accounting partner to help shape your business’s future? We’d love to hear from you