Can SMEs Subcontracting To Other SMEs With The Same Shareholders Claim R&D Tax Relief?
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When it comes to working out R&D tax relief claims and subcontracting it’s important to understand the rules completely. It’s not an easy task, and as a business accountant it’s vital that you advise your clients correctly. For this reason, we highly recommend working with a team of R&D Tax Credit professionals such as ourselves so we can guide you along the way.
But firstly, what actually are R&D Tax Credits?
Unveiled in the year 2000, the R&D Tax Credit scheme is a generous government-backed tax incentive designed to encourage business growth through innovation. Essentially, if a company is working to create a new or improved product, process or service that requires some element of technological or scientific advancement then the work is likely to be eligible for R&D Tax Credit relief. Furthermore, it will even be considered if the research and development (R&D) project ultimately failed in its objective.
R&D Tax Credits can be claimed against expenditure on a wide variety of costs, including staff salaries, materials and consumers used in the R&D process. Payments made to subcontractors that have assisted with the R&D work may also be included.
The scheme allows a company to claim a certain amount of Corporation Tax back, depending on how much it has spent out on qualifying R&D activities. It can receive up to 33% of relevant expenditure or a 14.5% cash refund if the business has made a loss. However, R&D tax relief is divided into two branches - the SME scheme and the RDEC scheme - and it’s important your client applies for the relief under the correct one.
What’s the difference between the SME scheme and the RDEC scheme?
R&D Tax Credits are open to all UK companies regardless of size, with small and medium sized businesses claiming (by enlarge) under the SME scheme and larger organisations doing so using the RDEC one. To be classed as an SME company, your client must employ fewer than 500 staff, and have either a turnover of under €100 million (£86 million) or a balance sheet of no more than €86 million (£74.1 million). They can claim up to 33% of their qualifying R&D costs back using the SME branch of the scheme.
Larger companies need to claim R&D Tax Credits under the RDEC (Research and Development Expenditure Credit) branch of the scheme. They are able to receive just under 10% of their costs back under the current rate of Corporation Tax (19%). Although this percentage is lower than the one on offer for smaller businesses, the sums involved are much bigger. Indeed, the average RDEC claim is worth in the region of £275,000 each year.
What benefits are there in claiming under the RDEC scheme?
Although the SME branch of the scheme is more generous, there are still some notable benefits under the RDEC pathway. Firstly, unlike the SME scheme, RDEC can be accounted for above-the-line in a company’s profit-and-loss accounts, as if it is a grant. This means that is considered as part of the profits and makes the company more attractive to investors. It does, however, also attract a payment of tax.
Secondly, and again differently to the SME scheme, RDEC treats both profit-making and loss-making companies the same. This can make it easier for companies to forecast the benefit they may receive, unlike with the SME scheme where even if spending is relatively consistent the benefit can be variable.
Whichever part of the scheme your client’s company claims under, all R&D Tax Credit applications will be closely scrutinised by HMRC. If any inaccuracies or inconsistencies are detected, it will seek to ask questions to resolve the matter, or even open an enquiry, which is likely to be costly, stressful and time-consuming. Again, this is why we strongly recommend using our services.
So what about this issue of subcontracting in relation to R&D?
When a company subcontracts elements of its R&D work, it can typically include up to 65% of the costs in its R&D Tax Credit application. However, if the subcontractor has the same shareholders as the company (i.e they are connected under common control), then different rules apply. This affects how the eligible expenditure is calculated.
Subcontractors that are unconnected to the business
If the company contracts out a portion (or all) of its R&D work to unconnected subcontractors, it can claim 65% of the expenditure. An additional point to note is that if only part of the services supplied by a company’s subcontractor are R&D, only 65% of that proportion can be included in an R&D tax relief claim.
If a company is connected to the same shareholder(s) as the contractor, it may be able to claim more or less than 65%, however the precise amount will depend on the specific costs involved. This is why seeking professional advice is a good idea to ensure your client’s costs are captured properly.
For R&D subcontracted to a connected party, companies can claim R&D tax relief on the lower of:
- The payment that it has made to the subcontractor; and
- The eligible expenditure incurred by the subcontractor.
How the Tax Cloud portal works alongside you
We deal solely with R&D tax relief and absolutely nothing else. It’s what we do.
We’re not interested in poaching your client from you or taking over their accounting; instead we want to work alongside you to provide the most accurate, professional R&D tax relief advice possible for them. Our Tax Cloud portal also contains an area specifically for accountants, to help calculate entitlements and offer support, so you can get on with the day job.
To ask a question or find out more about working alongside us, please feel free to call 0207 118 6045 or use our contact page and we’ll get right back to you.