The Budget includes one important measure from an R&D tax relief perspective: the re-introduction of a cap on the amount of R&D relief available to loss-making companies claiming under the SME regime. 

The measure would restrict the amount of payable R&D credits that a loss-making company can receive in a tax year to three times the claimant company’s total Pay As You Earn (PAYE) and National Insurance Contributions (NICs) liability for that year.  Any amounts in excess of this cap could be carried forward for use against future profits, but the cash flow advantage of the payable credit would not be available.  The restriction would take effect from April 2020.

It’s worth remembering that there had previously been a PAYE/NIC cap on payable R&D credits for loss-making SMEs, but this was abolished in Finance Act 2012.  This original cap was more restrictive, being based on the claimant company’s actual PAYE/NIC liabilities, rather than a multiple of those.  The original cap was abolished following Government consultation with interested parties, a move that was welcomed as a positive step to improve the competitiveness of the UK tax system for R&D, extend the cash flow advantage of a payable credit to more loss-making companies and to reduce the administrative burden for companies in making R&D claims.

With that history, it’s disappointing to see the re-introduction of such a cap.  However, it’s clear from the Budget papers that this measure is being made in response to identified abuse of the payable credit by some companies, including a number of high value fraudulent claims.  Those fraudulent claims have involved companies that were set up to claim the cash available through the payable credit even though they had no legitimate R&D activity, or claims for a payable credit by companies with no or little employment or activity in the UK. 

The Government notes that fraudulent companies do not typically employ many people or pay much PAYE or NICs (as you might expect), and so this measure should help in targeting these fraudulent claims.  However, the question is whether it will impact some genuine commercial companies with UK R&D activity, who would be denied the cash flow advantage of a payable credits claim because they have low PAYE and NICs liability relative to their total eligible R&D spend.  Whilst staff costs will form the largest component of most R&D claims, a number of claimant companies in the start-up stage (for example start-up tech and life sciences companies) may have relatively low employee costs.  For example, some key personnel may not be on the payroll in the early stages, or may be remunerated through share awards.  However, these companies may be incurring R&D expenditure under other eligible cost categories, such as on specific R&D activities that they subcontract out, software licences, or materials consumed in the R&D work.  Genuine commercial companies are not the intended target of this measure, but without a “motive” condition to restrict its application to fraudulent and artificial arrangements, they may be caught nonetheless.

We will be feeding in to the Government’s consultation on this change through our participation in HMRC’s R&D Consultative Committee and would welcome any client feedback or concerns about how this change could impact genuine commercial arrangements.