Merging R&D tax relief schemes - how would it work?

Following a consultation launched in January 2023, the government published updated proposals for merging the SME and RDEC tax relief schemes on 17 July 2023: although this is described as a “potential merger” it does seem likely to go ahead. The merged scheme could take effect as early as for costs incurred on or after 1 April 2024 - although no final date has yet been set yet. 

Below we explain the current proposals and consider the impact they may have on the wide range of businesses that would be affected by the merged rules. 

A pick and mix approach

The combined scheme would principally be based on the current RDEC rules. This should help to raise the prominence of the R&D function within a business by recognising the R&D incentive in a company’s pre-tax income – the so called “above the line credit”. It will also make it easier for larger businesses to make the transition, but SMEs will need to start planning for the change soon. 

However, some elements of the current rules from the SME scheme would be adopted (detailed below) and, in some instances, this will give a more favourable result to businesses undertaking or commissioning R&D projects. 

There is no suggestion that the core definition of the what constitutes R&D (DSIT guidelines) for tax purposes will change: claimants will still need to prove that their project sought to achieve an advance in science or technology.

Rates of relief

Although the rates of relief under the current R&D schemes have been more closely aligned since 1 April 2023, there are still significant differences. 

Under the merged scheme, all companies would get a headline rate of relief at 20% and their net benefit 15% as the main rate of corporation tax must be used to calculated this (apart from ‘ringfenced’ trades).

However, the proposals suggest that the special rate of relief for R&D intensive companies will continue – with this relief “running alongside” the merged scheme, so it seems that there will be a special scheme for start-up companies doing high levels of R&D. 

Overall, the proposals as currently drafted mean that smaller companies see a further reduction in the benefit they get from R&D relief claims. This is disappointing and does not appear to give scope for the government to target additional relief to specific sectors of the economy. Worse still, the new rules on subsidised R&D (explained below) mean that where a company has received grant funding for its R&D project it will not be able to claim R&D tax relief at all. 

Loss cap rules

Both the current RDEC and SME schemes include rules that limit the amount of relief that can be claimed when a company is loss-making, but the SME scheme rules are the more generous of the two. Broadly, it caps the refund that a loss making company can claim to £20,000 plus 3 times its PAYE and NIC liability for the period of the claim and there are specific exemptions from it for companies investing heavily in developing their own Intellectual Property – read more here. 

Happily, it is proposed that the merged scheme will adopt the SME scheme loss cap rules.

Qualifying costs

Remaining uncertainties

The current draft legislation is subject to the usual consultation process and there are a number of points to be resolved. Examples we have identified so far include:

• If it is a merged scheme, why should there still be a 65% restriction on SMEs claiming outsourced UK costs? 
• If there is to be a merged scheme, why is it necessary to run a special scheme for Loss making R&D intensive companies “alongside” the merged one – could one scheme not encompass two types of relief? 
• Does HMRC really intend to prevent companies who obtain grants from claiming at all?
• Will HMRC change or clarify the definition of “subsidy”, to eliminate the current confusion and series of Tribunal cases?

 

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