Introduction To The Merged R&D Tax Relief Scheme

Introduction To The Merged R&D Tax Relief Scheme

The UK’s R&D tax relief system has recently undergone significant changes, merging the previous SME R&D scheme and the R&D Expenditure Credit (RDEC) scheme into a single framework. This new merged scheme introduces a streamlined approach that provides a 20% tax credit on qualifying R&D expenditure, but it also comes with distinct rules that will impact businesses in different ways depending on their size, profitability, and R&D intensity. While some companies may benefit from straightforward credit under the new scheme, loss-making SMEs with high R&D spend qualify for additional support under Enhanced R&D Intensive Support (ERIS).

This article will explain the essentials of the merged R&D tax relief scheme, provide real-world examples, and guide you through the steps to claim, ensuring you maximise your R&D tax credits and stay compliant.

Why the change?

The UK government introduced the merged R&D tax relief scheme to streamline the existing tax incentives, making it easier for businesses to access and claim R&D credits while reducing opportunities for misuse. By consolidating the previous SME and RDEC schemes, the government aims to create a simplified, single framework that aligns incentives with the scale and intensity of R&D activities across different types of businesses. 

This change is part of a broader initiative to boost private sector investment in innovation, ultimately driving productivity and economic growth in the UK. The merged scheme’s standardised approach also helps to ensure that relief is directed toward genuine R&D activities, providing better oversight and reducing instances of misclaimed credits. Understanding this background offers businesses important context for certain restrictions in the new framework, such as the rules around subcontracted R&D and eligibility caps.

A visual guide

So, who can claim? 

Eligible businesses must:

• Be actively trading and subject to Corporation Tax.
• Undertake R&D activities that meet HMRC’s definition of research and development.

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Real-world examples of eligible R&D activities

To qualify for R&D tax relief, a company’s activities must focus on resolving scientific or technological uncertainties, which typically involve developing or improving products, processes, or services in innovative ways. These projects should aim to overcome challenges that cannot be easily solved with existing knowledge or readily available techniques. Eligible R&D activities often involve experimentation, testing, or creating solutions that push the boundaries within a particular field, helping businesses make advancements that contribute to their industry’s knowledge base or capability.

Detailed step-by-step claiming process

Navigating the R&D tax relief claim process requires careful preparation and attention to detail. 

Here’s a step-by-step guide:

Pre-claim checklist

Gather essential documents before starting your claim:

• Project documentation: Descriptions of R&D projects, objectives, and activities.
• Expenditure records: Detailed records of costs incurred, including wages, materials, and software.
• Staff time allocation: Records indicating the time and effort each staff member devoted to R&D projects.

Filing process

• Prepare your corporation tax return: Include the claim as part of your regular tax return.
• Advance assurance for new claimants: If it’s your first time claiming, you can apply for advance assurance with HMRC, which confirms eligibility for R&D tax relief.
• Additional Information Form: this form has to be submitted before you file the tax return.
• Submit supporting documentation: Provide additional records, such as project timelines and cost breakdowns, to support your claim.

Expected timelines

Once your Corporation Tax return is submitted, HMRC typically processes claims within four to six weeks. For larger claims or first-time claimants, processing can take up to three months.

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If you’re not sure how much you can claim or how to claim, get in touch and we can help.

Examples of common eligible costs

Understanding what costs qualify is crucial to maximising your claim. Here’s a breakdown of expenses that typically qualify for R&D tax relief:

• Staff costs: Wages, salaries, and National Insurance contributions for employees directly involved in R&D.
• Consumables and materials: Items like raw materials, chemicals, and other supplies used directly in R&D activities.
• Subcontractor costs: HMRC has not released the final guidance on this, but it is probable that subcontracted costs will be eligible.
• Software costs: Software licences and cloud computing expenses are needed for R&D.
• Subcontractor costs: Payments to external specialists or contractors conducting R&D on behalf of the business.
• Prototyping costs: Expenses related to creating and testing prototypes, including design, testing, and materials, when directly linked to R&D projects.
• Utility costs: A portion of utility bills (e.g., electricity, water) directly attributable to R&D activities, such as running specific equipment or labs, if they can be accurately apportioned.

Scenarios for merged scheme vs. ERIS

The merged R&D tax relief scheme is available to all qualifying businesses, while Enhanced R&D Intensive Support (ERIS) is specifically for loss-making, R&D-intensive SMEs. 

Here are practical examples to help you determine which scheme best fits your business:

1. Merged scheme example

A profit-making company spends £100,000 on R&D activities, qualifying for a 20% tax credit. The £20,000 credit is applied to reduce Corporation Tax liability. This is itself taxable, so the real benefit to the company will be 19%-25% lower depending on the tax position. 

2. ERIS example

A loss-making SME with a qualifying R&D expenditure of £50,000 can claim under the previous enhanced expenditure scheme(86%) and a 14.5% tax-free credit is available on surrenderable losses.

3. Checklist for scheme eligibility

• If Profitable: Use the Merged Scheme for a straightforward 20% credit.
• If Loss-Making and R&D Intensive: If your R&D expenditure is at least 30% of total costs, consider ERIS for enhanced deductions and credits.

Calculating R&D credits and allocating costs

R&D credits are calculated based on qualifying expenditures, but allocating costs can be complex for companies with connected entities or overseas operations. To navigate this effectively, consider the following:

• Fair allocation of costs: Use a time-based allocation or allocate costs based on when they were incurred in the project timeline. Ensure the allocation method fairly represents each entity’s involvement in R&D activities.
• Apportionment for overseas entities: For overseas entities with non-UK accounting periods, apportion R&D costs to align with the UK-based claiming entity’s accounting period. This may involve converting costs to the local currency and applying consistent rates for foreign subsidiaries.
• Documentation of intercompany charges: If R&D costs are incurred by one entity but shared among connected companies, document any intercompany charges including any profit charged to ensure they can be included in your claim.
• Allocate shared resources: For resources (e.g., equipment, software) used by both R&D and non-R&D teams, allocate costs based on the percentage of usage dedicated to R&D. Keep detailed records to substantiate this division.
• Separate eligible vs. ineligible expenditure: Ensure that only costs directly attributable to R&D are included, excluding any expenses related to general operations, marketing, or routine activities.
• Regular review of allocation methods: Periodically review your cost allocation methods to ensure they remain fair and compliant with any changes in project scope, team involvement, or HMRC guidelines.