If you’re claiming R&D tax relief, it is likely that you will be impacted by the introduction of the merged scheme.

Despite the intention to simplify R&D tax relief by merging the previous SME and RDEC schemes, there are still differences you need to be aware of depending on the type of business you are and the contractual arrangements under which you are carrying out R&D.

If you’re an SME, you need to identify whether you fall under the R&D intensive incentive or the merged scheme. Remember, to be classed as an SME for R&D tax purposes you must have fewer than 500 staff, and either a turnover of no more than €100 million or gross assets of no more than €86 million.

You will also need to consider whether the decision to carry out R&D sits within your business or elsewhere in the supply chain. Generally, companies will not be able to make a claim if R&D has been contracted to them.

To find out more about the changes specific to you, follow the links below.

Are you: 

• An SME with less than 30% of total expenditure on qualifying R&D (the threshold to qualify for an enhanced rate for R&D intensive SMEs).
• An SME SUBCONTRACTOR OR SME WITH SUBSIDISED R&D currently claiming under RDEC. Remember, the treatment has changed under the merged scheme.
• An R&D INTENSIVE SME with more than 30% of total expenditure on qualifying R&D.
• A LARGE COMPANY with 500 or more staff and either more than €100 million turnover or €86 million gross assets.

The government’s intention with R&D tax incentives is to support private sector investment in innovation, benefitting the UK economy by boosting productivity and growth. A number of changes to R&D tax reliefs have been made since 2021, with the aim of simplifying the incentive and protecting it from abuse. The merged scheme represents both the latest change and the conclusion of this period of consultation.

The merged scheme for R&D tax relief will apply for accounting periods beginning on or after 1 April 2024. It’s important to note that this is not for expenditure incurred from the start of April as previously proposed.

So a business that prepares accounts to 31 December each year will enter the merged scheme for the first time when considering an R&D claim for its accounting period ending 31 December 2025, whereas one which makes up accounts to March will enter for its 31 March 2025 period. 

The changeover for businesses is simplified, with no need to claim under different regimes for an accounting period that straddles 1 April 2024. The commencement date means that implementation of the merged scheme for some businesses will be later than previously planned.

The merged R&D scheme will be implemented in a way that resembles the research and development expenditure credit (RDEC). However, key points to note include:

All companies, regardless of size (with the exception of R&D intensive SMEs) will receive an above the line credit under the merged scheme. This means a credit that can be offset against your tax liability, or subject to some adjustment, paid in cash to your business.

There are some notable distinctions from the current RDEC scheme, usually where aspects of the current SME scheme have been incorporated into the merged scheme. The most significant difference is the rules for contracted out R&D. As well as this, businesses that currently claim RDEC should be aware of the following:

• PAYE/NICs – the merged scheme legislation incorporates the more generous version of the payable credit cap found in the current SME scheme. Read more background on this in our blog on the SME cap.
• Overseas R&D – previously delayed limitations on relief for overseas expenditures on EPWs and subcontracted R&D are included.

Subcontracted R&D is a particularly complex area and was a central consideration when it came to the merging of the SME and RDEC schemes. ForrestBrown was actively involved in policy discussions on this issue.

The merged scheme aims to target R&D tax relief to the company making the decision to carry out R&D and in turn bearing the risk. This is reflected in the draft Finance Bill and detailed in a technical note published alongside the Autumn Statement 2023. Finance Bill 2023-24 introduces a more detailed legislative definition of contracted out R&D.

The subcontracted R&D rules incorporated into the merged scheme are modelled on the existing SME scheme rules. As such, generally companies will not be able to make a claim for RDEC if R&D has been contracted to them. However, where a company with a valid R&D project contracts a third party to undertake R&D activities on its behalf, the company may claim the qualifying costs of that work.

Despite being modelled on the existing SME scheme, the legislative definition of contracted out R&D is new and therefore as a business you need to carefully consider your position in any supply chain to determine the correct position under the merged scheme.

The subcontracted R&D rules represent a significant change that will affect many businesses, both large and small. Large companies will need to evaluate how the new rules will apply to commercial structures and contracts, potentially for the first time. For SMEs, there has been some uncertainty in recent years regarding the implementation of current rules restricting SME R&D tax relief for R&D contracted to a company. This change therefore risks adding further uncertainty to an already contentious area. Finally, any businesses currently claiming under RDEC for R&D contracted to them are unlikely to be able to claim under the merged scheme because the cost of that R&D will form part of the R&D claim for the contracting company.

The impact of this move, and lack of transitional provisions, on complex R&D supply chains is an area of some concern and there may be insufficient time to properly understand the full ramifications of these changes before implementation.

There are some scenarios where a subcontractor can claim R&D tax relief. These include when a company carries out R&D for a contractor which is not a tax-paying entity, such as charities, universities, scientific research organisations, as well as overseas entities.

Existing rules on subsidised expenditure which apply to the SME incentive will not be part of the new merged R&D scheme. While restrictions were included in earlier drafts of the legislation, the removal of these provisions avoids a potential area of major disruption for larger businesses.

If you are in receipt of a subsidy or grant funding for your R&D activity, you will no longer see the amount of available R&D relief reduced (as currently happens under the SME scheme).

This is a welcome simplification, particularly given recent controversy regarding HMRC’s application of the legislative provisions restricting relief for subsidised R&D expenditure. ForrestBrown secured a landmark victory against HMRC in a tribunal case dealing with subsidised expenditure, after our client, Quinn (London) Limited, was wrongly denied SME R&D tax relief funding totalling over £1 million. If you want the experts on tax disputes to support you then get in touch.

Here are some considerations and recommended next steps for your business. If you want to benefit from tailored advice reach out to us today.

If your business spends less than 30% of your total expenditure on qualifying R&D then, for your first accounting period beginning on or after 1 April 2024, you will need to claim R&D via the merged scheme. You should be aware of the following important changes:

• The different mechanism for calculating relief.
• The new definition of contracted out R&D.
• Restrictions on eligible expenditure for overseas EPWs and subcontractors.
• The removal of restrictions for subsidised R&D expenditure.

Although the merged scheme is based on the current RDEC relief, there are some key areas of impact for large companies:

• New restrictions on claiming for R&D contracted out to the company.
• Changes to the PAYE/NIC cap on any payable RDEC.
• Eligibility of payments to R&D subcontractors.
• Restrictions on eligible expenditure for overseas EPWs.

Find out more about our service for large companies.

Alongside the newly merged R&D scheme, the enhanced rate for R&D intensive loss-making SMEs (introduced in April 2023) will continue to operate under the current SME model. For expenditure incurred on or after 1 April 2023, loss-making R&D intensive SMEs have been eligible for an expenditure enhancement of 86% and a payable credit of 14.5% (although this provision is being retrospectively implemented as part of Finance Bill 2023-24).

For accounting periods beginning on or after 1 April 2024, if you’re a business spending 30% or more of your overall business expenditure on R&D, and you’re loss-making for tax purposes, then you will qualify for the enhanced rate. This intensity threshold is a reduction of 10% from the threshold introduced on 1 April 2023.

A one-year grace period will apply for companies who dip under the 30% threshold for R&D intensive SMEs. This should protect businesses from moving in and out of the R&D intensive scheme retrospectively, avoiding uncertainty around financial planning and investment decisions.

The current restrictions around subsidised R&D will be removed for R&D intensive SMEs for accounting periods beginning on or after 1 April 2024.

Find out more about Enhanced R&D intensive support (ERIS). 

Loss-making R&D intensive SMEs who meet the 40% threshold will remain within the SME scheme post 1 April 2024, but will still need to consider how the changes being introduced could affect them.

Loss-making SMEs whose R&D expenditure is greater than 30% of total spend, but less than 40%, will be eligible for the enhanced SME rate for their first accounting period beginning on or after 1 April 2024.

Key considerations for these companies include:

• The new definition of contracted out R&D.
• Restrictions on eligible expenditure for overseas EPWs and subcontractors.
• The removal of restrictions for subsidised R&D expenditure.

As the UK’s leading specialist R&D tax consultancy, we’re passionate about the role of R&D incentives in helping innovative businesses grow. We’re at the forefront of policy, engaging in every relevant consultation and championing the needs of innovative businesses. We deliver market-leading technical tax advice and actionable business outcomes tailored to your needs.