Yesterday (Wednesday 20 July) was what HMRC refer to as Legislation Day, on which they publish the draft legislation changes that have now been submitted to parliament to receive Royal Assent and be passed into law. This is expected to take place over the Autumn which will then come into effect for full accounting periods starting on or after 1 April 2023.
Here we outline what changes the government are planning to the R&D tax relief schemes and the reasons behind them.
Tackling abuse and improving compliance of the R&D tax relief schemes
In HMRCs latest annual report they estimate the level of fraud and erroneous R&D claims made to have cost the British taxpayer £469m in the 2021-2022 period, this is up from £336m estimated in the 2020-21 period.
HMRC identified a pattern of irregular R&D claims in April 2022. In response, and reinforcing HMRC’s commitment to tackling error and fraud in the R&D tax reliefs, HMRC implemented additional measures including: establishing a threat risk assessment process for all R&D claims; implementing additional payment identification and verification controls for all research and development payments; and accelerating the creation of HMRC’s Research and Development Anti Abuse Unit which was announced in the Autumn 2021 budget.
HMRC’s fraud investigation actions so far
In May 2022 HMRC wrote to all RDCF (Research and Development Communication Forum, previously known as the RDCC) members to inform them that they were pausing the processing of all claims whilst they investigated a number of irregular claims.
We have had confirmation that a large number of companies have received letters directly from HMRC’s Fraud Investigation Service (FIS). In the letter, they inform the claimant that they (HMRC) have not opened a criminal investigation into suspect fraud but reserve the right to do so.
HMRC will not comment on how many of these notifications have been sent but observing industry forums indications are many hundreds possible early thousands.
HMRC have confirmed the more stringent checks that identified these notifications and the implementation of the R&D anti-Abuse unit are remaining in place, with plans to continue to improve their effectiveness of identifying and preventing fraudulent and erroneous claims.
Impact of investigations on R&D claim processing times
As a result processing times are increasing. Currently, HMRC has stated that their processing times are averaging 40-days for 80% of SME claims – however from our own experience and claim trackers we know that the reality for many clients is significantly higher than this.
The UK is not unique in concerns about the abuse of the scheme and the role agents play. In the US, one of the largest advisors Alliant Group was raided by the FBI to investigate links to potential fraud click here for the article.
Changes to tackle fraudulent and erroneous claims
All of the proposed changes to tackle suspected fraud and erroneous claims announced in Autumn 2021 will be implemented and come into effect for all accounting periods started on or after 1 April 2023.
- Companies will be required to provide more information when making claims. This takes the form of a technical write-up of why the activities qualify and a breakdown of the costs claimed to evidence compliance.This is something that GovGrant has always done.The legislation has been drafted in such a way that HMRC can introduce additional requirements as they deem necessary in their continued efforts to combat fraud and abuse of the scheme – this is something we welcome and support.
- All R&D claims must be made digitally (postal or email will no longer be accepted).All GovGrant internal filings are submitted electronically already.
- The intention to claim must be notified in advance (within 6 months of the end of the clients accounting period) unless a company has previously made an R&D claim in the previous 3 years. In this case companies will be grandfathered into the scheme. If a company does not make a claim for 3 years, they will need to notify the intention to claim for the 4th period (within 6 months of the 4th year accounting period ending).
For companies that have never claimed R&D tax credits before, will no longer be able to go back 2x prior periods (+ the current period), the maximum number of periods an entity that has never claimed before will be 1x prior (if HMRC are notified within 6x months of the accounting period end) and the current period.
- Each claim will need to be endorsed by a named senior officer of the claimant company.
- Claims prepared or supported by an agent must provide the details of the agent.This is something that GovGrant has always done.
- The government is considering whether further measures may be needed.
Updates to subcontractor and EPW wording
HMRC has taken the opportunity to clarify the wording on the qualifying element of a subcontractor or EPWs’ activities and that the 65% restriction (for unconnected parties) is to be applied after the assessment of how much of the activity was qualifying R&D activity for tax purposes.
We very much welcome that clarification – we see far too many clients being incorrectly advised by the wild west advisors that they can claim 65% of all third-party costs; irrespective of how much of that activity was qualifying.
Change to EPW qualifying criteria
The latest legislation will only consider an EPW as an eligible cost if the service provider (or connected company) that paid them did so via the PAYE system and also deducted Class 1 NICs.
The only exception to this is where the EPWs were involved in overseas R&D activity that qualifies to be undertaken as one of the exceptions explained below.
Overseas costs will fall out of scope of the R&D tax relief schemes
All overseas costs will be out of scope – with the exception of:
- Material factors such as geography, environment, population or other conditions that are not present in the UK and are required for the research, meaning there is no choice but for the expenditure to occur outside the UK – for example, deep ocean research.
- Regulatory or other legal requirements that activities must take place outside the UK – for example, clinical trials.
Refocusing the reliefs towards innovation undertaken in the UK
This means that if the R&D activity could be carried out in the UK, then it should be done in the UK. The government’s intention here is to increase the spillover effect and encourage further additionality and innovation to take place within the UK.
HMRC are still considering if a UK company has overseas offices and resources carrying out qualifying R&D activity, that benefits the UK entity; if those costs will be considered qualifying or not, and if so if they will be treated any differently to the current connected EPW rules. This is not included as part of the draft legislation and is still under consideration – as it stands all connected company overseas costs would also be out of scope unless HMRC decide to take a different approach. We will be monitoring this situation closely and will keep you informed.
Extending qualifying expenditure
Encouragingly, there is also move to extend the criteria for qualifying expenditure.
Remember the government’s own target is to increase spending on incentivising R&D within the UK to 2.4% of GDP by 2027 rising to 3% in the long term.
To help achieve this the government has recognised the need to update the qualifying expenditure requirements to make them more applicable to today’s R&D world, to incentives the types of company the UK want to encourage to invest in the UK.
Software, data licences and cloud computing services costs
All cloud and data costs incurred carrying out direct qualifying R&D activities will be in scope.
This has now been further defined to state:
A data licence is a licence to access and use a collection of digital data.
Cloud computing services include the provision of access to, and maintenance of, remote-
a. data storage
b. operating systems
c. software platforms
d. hardware facilities
However, a company will have to ringfence their routine, operational costs and costs incurred carrying out in-direct activity as these cloud and data costs will not be qualifying.
Where the claimant, in addition to the data licence has also obtained the right to sell or publish the data in respect of which the licence was granted (i.e. the licenced data can only be used internally for R&D purposes and cannot then be sold on for commercial gain) or published or shared with any third parties (other than relevant to the R&D activities themselves).
R&D relief to cover pure maths
Secondary legislation will be introduced to extend, with effect from April 2023, the scope of R&D relief to cover mathematical advances in and of themselves.
Other less exciting changes
The legislation is being updated to include specific references to the HSCL (Health and Social Care Levy) – this is because although currently being collected via the normal NIC (National Insurance Contributions) in the future the government will separate NICs and HSCLs – both of which will still qualify as a qualifying cost.
As qualifying R&D costs form part of the Patent Box calculations and therefore referenced – these qualifying R&D costs are being updated to reflect the increase in scope of qualifying costs. There are no actual changes to the Patent Box scheme.
Other changes were announced within the draft legislation, but these were focussed on tidying up anomalies and closing loopholes to make the requirements of the scheme clearer. Should you have any specific queries not covered by the above please contact us for further information.