Preventing abuse of the R&D tax relief for Small and mid-size enterprises (SMEs)

R&D tax relief for Small and mid-size enterprises

December 28, 2020

On 12 November 2020, as part of the draft clauses of the Finance Bill 2021 to prevent abuse of Research and Development (R&D) tax relief for small and medium-sized enterprises, policy has been proposed. The policy is to prevent fraud activity as well as abuse by SME companies who claims the payable tax credit in respect of R&D expenditure.

HMRC has revealed that in UK, they have identified many companies who access payable tax credit when no R&D activities or structures have been set up to claim the payable credit despite having little or no employment.

The restrictions for employee expenditure were in place prior to 31 March 2011 in regards to limiting the payable credit to the lesser of a percentage of the PAYE and NIC’s of the claimant company. However, after 1st April 2011, these restrictions were abolished.

The detailed proposal and objective of the policy

A company is exempt from the cap if:

  • - Its employees are preparing to create or create or managing Intellectual Property (IP) and
  • - It does not spend more than 15% of its qualifying R&D expenditure on subcontracting R&D to, or the provision of externally provided workers (EPWs) by, connected persons.

The amount of payable R&D tax credit which a SME can claim is limited to £20,000 as per measures plus 300% of its total Pay as you Earn (PAYE) and National Insurance Contributions (NICs) liability for the period.

In Corporation Tax Act (CTA) 2009 Part 13 Chapter 2 (ss 1043 – 1062), the R&D tax relief for SMEs has been set out. The definition in regards to ‘relevant expenditure on workers’ as the company’s own PAYE and NIC liabilities for the period (not just PAYE and NIC associated with its R&D) plus some PAYE and NIC liabilities of any connected persons doing subcontracted R&D for, or providing workers to the company is mentioned in New sections 1058A and 1058B.

The amounts which the company is required to pay to HMRC in the period is PAYE and NIC liabilities of that period. To prevent any PAYE or NIC liabilities counting towards more than one company’s cap (‘double counting’), there is provision in section 1058C.

New section 1058D will come into picture when a company can be exempt from the cap – where its employees are preparing to create IP or managing IP (which is defined). Also, less than 15% of its R&D qualifying expenditure is spent with connected persons. To exempt companies with low PAYE and NIC, these provisions are designed, but the provisions are nevertheless themselves engaged in genuine, substantial R&D.

In Finance Bill 2021, Legislation implementing the measure will be included.

The R&D SME tax credit is a State aid approved under the Commission’s General Block Exemption Regulations (GBER). The limited application of State aid rules for measures subject to the Protocol is provided by Northern Ireland Protocol. Also, other impacts have been considered but none has been identified.

The information collected from tax returns will help in monitoring the measures.