With the BE Systems case bringing the research and development tax credit scheme centre stage, HMRC has chosen an opportune moment to release a discussion document on the future of the credits.
As the BE case has demonstrated, it is not sufficient that a company invents a new product, or develops a new idea sufficiently to bring it to commercial fruition. The credits are available only to support scientific or technological developments, which advance knowledge generally in a particular scientific or technological field. As one inspector put it: 'It is not sufficient that it is a smart idea', it must fall within the definition of qualifying R&D for these purposes. The definition of qualifying R&D is set out in the DTI guidelines, of which the current version is dated March 2004.
Some critics have expressed the view that the scope of the relief is too narrowly drawn and that it is virtually impossible to qualify. But, of course, this is a potentially expensive measure, and government is entitled to target taxpayer's money (through a generous tax relief) in whatever way they decide. What might be at fault is the publicity given to the credits, and the clarity of the guidance. Claimants would also be justified if they considered that the judgement about whether a claim was valid was made in an arbitrary fashion ' and indeed some commentators suggest that inspectors making rulings without sufficient scientific knowledge may produce just that result.
The discussion document is entitled 'Supporting growth in innovation : enhancing the R&D tax credit'. As the name suggests, the intention is to improve the relief (albeit in the light of calls for the same action last week in view of the BE case), but there is a clear objective behind the discussion document. The purpose of the relief at the time it was introduced was to stimulate investment in the 'right sort' of R&D, on the basis that this would be for the long term good of the economy by ultimately producing sustainable growth through technological advancement. The current document states that it intends to build on success so far, and that improvements to the credits will be needed to produce the ultimate goal of raising the overall level of investment in R&D nationally to 2.5 per cent of Gross Domestic Product (GDP) by 2014. The current level is 1.9 per cent of GDP. Government figures indicate that it will require real growth in investment in R&D of 6 per cent per annum in real terms to achieve this aim. Current government research indicates that apart from aerospace and pharmaceuticals, large UK businesses do not tend to invest in R&D. Although the UK may have a comparable spend to other international competitors, the number of companies investing in R&D is very much lower than elsewhere. Government sees, therefore, that the next steps with the R&D tax credit should encourage more companies to invest in R&D.
Two strands of approach have been identified : improving the experience of companies claiming the credit, and enhancing the credit. Those who read the reports of the BE case may raise their eyebrows at the claims of simplicity and certainty made about the operation of the current system. Perhaps this case has come at exactly the right time to draw attention to any shortcomings in the current system. The three qualities of the current system that are emphasised, both for the present and future are simplicity, consistency and certainty. HMRC promises continued progress on these three fronts, with the assistance and support of all interested parties, including the DTI and the Small Business Service. HMRC is also working with tax professionals to improve exposure of the tax credits for businesses, both through the established Working Together programme, and via specific publications.
Enhancing the tax credit is to be directed at bringing new large R&D intensive businesses to join the existing investors in R&D. This is regarded as the only way to achieve the level of investment needed to meet the target of 2.5 per cent of GDP by 2014. Four approaches are identified as appropriate to achieve the increased growth in R&D investment :
* Maintaining or growing R&D in sectors where the UK is strong
* Attracting investment into the UK from multinationals in an already highly international system;
* Increasing R&D intensity in firms or sectors that are lagging behind their peers, and
* Developing new R&D intensive sectors and the creation of R&D intensive SME's.
The document then considers how these are to be achieved. It specifically states that broadening the scope of the definition of qualifying R&D is not currently being considered. It is also not considered that increasing the large company rate of R&D tax credit would be appropriate. Focus has turned to the third and fourth elements of the strategy outlined above. Stimulating the growth of R&D intensive businesses, supporting SME's and providing help as they grow and become larger companies is suggested as the way forward, and the discussion document invites early views on these ideas and a range of questions. Suggestions as to how measures other than R&D tax credits might also come into play to achieve the ends desired are also welcomed.
In summary, the issue of a wide ranging review of R&D tax credits in the week following a highly controversial court decision on the same subject would seem, on reflection, fortunate. This now presents an opportunity not only to develop the tax credit towards the desired objectives, but to review the operation of the current system to ensure that it achieves the government's intended aim
