Sheetal Sanghvi

Written by: Sheetal Sanghvi

Sheetal Sanghvi

Partner

R&D tax relief reforms risk stifling innovation in small firms

The Government's second consultation reforming the SME R&D tax relief regime closes on 28 August. It proposes a cap on the amount of payable R&D tax credit that a qualifying loss-making business can receive. The reforms seek to address concerns that some businesses have abused the system by claiming R&D tax credits through artificial structures.   

The proposed cap is three times the company’s total PAYE liability for the year of the claim and implementation has been delayed until April 2021.

Whilst supportive of the efforts to clamp down on fraudulent claims, we are concerned that the proposal could disproportionately impact start-up companies, particularly in cases where some of the technical aspects of their work is undertaken offshore. 

For companies operating in certain sectors, it may be difficult to recruit UK employees with the required skill set or at cost-effective pay rates, leading to the hire of subcontractors or externally provided workers. Preventing these types of companies from claiming in the UK may lead such companies to set up their operations in other jurisdictions instead. 

Other types of business which may be particularly hard-hit are those with claims comprising mainly consumables costs rather than staff costs. Claims by such companies would be limited in value purely because of the nature of their work, which we believe is not the intention of the proposals.

The proposed threshold of £20,000, where the PAYE / NI cap would not apply, is welcome, and will mitigate some of these issues. We would however urge the Government to consider increasing this to £50,000 to support start-ups and micro-businesses. 

We welcome HMRC’s response to initial concerns that it should be possible for businesses to make uncapped claims for R&D tax relief where, for genuine commercial reasons, PAYE and NIC liabilities are low, relative to the qualifying R&D expenditure. The extent to which a business actively manages its intellectual property does not appear to be an unreasonable method of assessing whether it should be entitled to make an uncapped claim. It is not perfect, and we anticipate that some genuine businesses may not satisfy the test and hence will still be caught by the cap, but this condition should mitigate some of the difficulties with the proposals.

Research and development are crucial for the UK's long-term economic growth and plays a fundamental role in the Government’s commitment to supporting strong and sustainable private sector-led growth. The Government should continue to do all it can to support innovative businesses, particularly SMEs, which are facing many challenges as a result of the current coronavirus pandemic. In this regard, we strongly believe that legislation implementing the proposed measure should be drafted so that it does not supress or stifle UK SME innovation.

We are encouraged that the Government has sought to consult widely once again and hope that the feedback provided by us and others is carefully considered. 

 
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