By Paul Webb

R&D tax relief is about offsetting the costs incurred on R&D by either reducing your corporation tax bill, or receiving cash rebates if you are a loss-making SME. The majority of companies who claim R&D relief are hi-tech businesses — software developers, specialist manufacturers or biotech companies - although many other types of company may indeed qualify for relief.

In the past, tax relief available through the R&D tax credit system has always been criticised for being hard to access and of limited value to smaller firms and start-ups who are unprofitable. But changes introduced this year will make a real difference to business owners and this could become a very useful means of financing innovation.

New rules for R&D Tax Credits

SMEs can now obtain tax relief of 200% on qualifying expenditure for research and development. Essentially companies receive a further 100% deduction on qualifying expenditure, meaning corporation tax savings of up to 40p for every £1 spent (for companies paying at the small companies tax rate). If a company does not make a profit but has made an investment in R&D - which is the most common situation for a start up — they are entitled to a 14% cash rebate. Currently this is capped at the same level as the total tax paid out for PAYE and NICs but will change from next year.

R&D Tax Credits in the Future

From 1st April 2012 the tax relief will rise to 225%. Most significantly, the rebate on corporation tax payments will no longer be capped at the same level as total tax paid out for PAYE and NICs, which means companies will receive the full rebate regardless of their PAYE and employer’s NIC payments.

In the past, because so many start-ups have few employees but need to invest heavily in R&D, this scheme was often of limited value. In some cases a business would have spent more on R&D than their wage bills, making the scheme effectively redundant from a tax relief point of view. But now, for smaller firms or entrepreneurs with a bright idea for a high tech start up, the improvements to the R&D tax credit system could be a very useful and economical source of finance as banks continue to be cautious about lending.

Projects which could be eligible for R&D tax relief include:

Internal development of a new web-based Customer Relationship Management system;

Development of an internal bespoke time recording and billing system;

The translation of software into foreign languages;
Development of iPad and iPhone applications.

Tax refunds claimable could amount to tens of thousands of pounds and with the relief now at 200% of qualifying costs increasing to 225% in 2012, it is more valuable than ever. Presently staff costs, consumable stores, sub-contractor costs, externally provided worker costs, software costs and water, fuel and power costs could all be claimable.

As a policy, this improvement to the R&D tax credits system is estimated to be costing the treasury around £20m in the first year, rising to £105m in 2014. That’s quite a lot of money, however they obviously place a great deal of importance on the UK’s ability to generate value through intellectual property and innovation. Positioning the country as a centre of R&D excellence represents good long-term thinking and is vital for the economy’s future prospects in the face of competition from advancing countries such as China and India.

Business owners would be wise to ensure they do not miss out on this opportunity. If you think there is even a small chance the relief may apply to your business or idea for a start up, investigate the possibility with a specialist as many, including ourselves, take on claims based upon a no win; no fee approach.

About the author

Paul Webb is a tax partner at Surrey accountants, RJP. Contact him at pw@rjp.co.uk.