Innovating through change and uncertainty
In his Autumn Statement, the Chancellor designated innovation – along with energy and infrastructure – as one of his three key areas for growth. This was further underlined at the despatch box with an announcement that the government is set to reaffirm its commitment that R&D spending will increase to £20 billion a year by 2024-25.
With unprecedented global challenges making the immediate economic future uncertain, recent history demonstrates that innovation has always been the route out of difficult waters.
Against this backdrop, the Chancellor’s headline commitment is welcome news. But, as always, the devil is in the detail, with changes to the rate of R&D tax relief creating uncertainty for businesses.
To discuss this and other related topics, ForrestBrown invited senior business leaders, academics and policy makers to Tower 42 – home for our London office – for a roundtable discussion to survey the challenges and opportunities of a rapidly changing world for innovative companies.
The need for a stable policy environment
Whilst the sky-lined spectacle of the City of London was obscured by a winter morning fog, one view at the roundtable was shared with purposeful clarity. Companies do not innovate just because of the existence of a tax incentive. They do so because it is a necessity. Innovation incentives are not alchemy. Their utility is found in the acceleration of product and process development and the resulting catalysation of wider economic growth.
There was broad agreement around the table that for government’s growth targets to be met, piecemeal changes to innovation focused programmes such as R&D tax relief are more of a hindrance than help.
A stable policy environment to facilitate investment, development and long-term planning was viewed as vital. Other western economies – albeit with less generous R&D regimes – were namechecked as often more reliable destinations for innovation investment due to the stability of their regulatory systems.
Policy in action
Whilst the Autumn Statement saw the largest ever increase in R&D spend over the course of a Spending Review period, significant readjustments were made to R&D tax relief.
To ensure taxpayer support is deployed as effectively as possible, the two schemes which make up the incentive – SME (for small and medium sized enterprises) and RDEC (Research and Development Expenditure Credit) aimed at larger companies – are set to be ‘rebalanced’.
The RDEC rate will increase from 13% to 20%. This is a 42% increase in generosity (after tax) from 10.5% to 15% (these rates also account for the increase in corporation tax from 19% to 25%).
To pay for this, there has been a reduction in the enhancement rate for SMEs from 130% to 86% and the credit rate from 14.5% to 10%. A typical loss-making SME currently receives up to 33% payable credit on qualifying R&D expenditure. From 1 April 2023, the generosity of this credit will be reduced by 44% to 19%.
There was an involved debate on the impact of this rebalancing of the relief – consensus being that this was a policy development no one in the wider business community had been calling for. This discussion was had in the context of an examination of the broader innovation toolkit open to innovative companies in the UK – including Grants, EIS & SEIS, Patent Box and Capital Allowances – and how they work in tandem to encourage and stimulate innovative activity holistically.
Concerns were shared about the perceived blunt nature of the rate changes, in their current guise, which are in part intended to improve compliance and tackle fraud as well as to increase additionality for taxpayers.
The previously announced limits to qualifying overseas R&D expenditure – although partly mitigated by the increase in the RDEC rate for larger businesses – will still impact sectors with highly specialised skill bases such as software disproportionately.
Whilst compliance is key to a healthy and functioning tax incentive, methods intended to tackle abuse have the potential to reduce access to the relief by genuine innovative companies. There was agreement that this could have unintended consequences and is therefore not an optimal policy development.
Facing up to the challenge
Some sectors – such as aerospace and defence – face development cycles that are decades long. As such piecemeal change to innovation tax reliefs can hinder crucial planning, expansion and ultimately, progress. This can be an issue for companies of all sizes, but especially impacts businesses at times of critical decision making. In this respect Multi-National Corporations (MNCs) and scale-ups alike are negatively affected by a lack of stability in the wider innovation policy environment.
Discussion repeatedly returned to the fact that businesses of all sizes are already facing a unique maelstrom of challenges acting as impediments to growth prospects. Higher borrowing costs, supply chain issues, the energy crisis and the additional regulatory burden of Brexit are not helping to improve productivity.
Opinion also coalesced around the idea that the Chancellor’s ‘rebalancing of R&D tax relief’ is not going to help R&D intensive SMEs overcome any of the above challenges. Indeed, despite the increased generosity to larger, businesses accessing the RDEC scheme, it seems inevitable that a reduction in the SME scheme will also lead to difficulties for large companies and MNCs with complex SME dependant supply chains.
What role for innovation?
Though there was relative diversity of thought on what levers the Chancellor has at his disposal to maximise the innovative potential of UK plc, there was unanimity on what the ask of government was – clarity of vision, consistency of message and further consultation on how reforms are to be delivered.
Encouragingly, it was clear that across the spectrum of attendees there was an appreciation of the urgency and significance of both the challenge and opportunity faced by policymakers and innovative businesses alike.
If we are to begin to see the type of economy that enables the long-term prosperity the Chancellor envisions, innovation tax incentives will play a fundamental role in his, and all our success.