An accompanying blog covered the reasons for the proposed changes.
In this blog we will look at the proposed legislation to cap payable R&D Tax Credits as a fraud prevention measure. These are in the 2021 Finance Bill.
What are the draft R&D Tax Credit anti fraud measures due to come in for accounting periods starting from 1st April 2021?
The proposal in the draft Finance bill is:
- A company claim for payable credit (R&D Tax Credits are only available under the SME scheme to claimants making a loss after the R&D deduction/relief is applied) below £20,000 will not be affected by the cap. The cap will be 300% of the company PAYE/NIC (excluding statutory deductions) plus the £20,000.
- A company will be able to include connected party R&D qualifying PAYE and NIC liabilities when calculating the cap and the total will be increased by 300%. Connected parties are connected through shared control. These can be subcontractors or externally provided workers.
- A company’s claim, of any size, will be uncapped if it meets two tests. These tests require that a company’s employees are creating, preparing to create or actively managing intellectual property (IP) and that its expenditure on work subcontracted to, or externally provided workers provided by, a connected party is less than 15% of its overall R&D expenditure.
These details are draft and could be amended.
My views on this change?
It is good that the cap has increased from the 2018 proposal. It is now £20,000 plus 3x NIC/PAYE. A company with no PAYE/NIC can still get a cash benefit for a claim up to £20,000. If the claim was larger than this it would generate a £20,000 cash benefit and increase losses to carry forward. £20k is significant to a lot of small firms.
Allowing companies to include connected party subcontractor and Externally Provided Worker costs is likely to be less impactful. The number of companies impacted by the cap who use connected 3rd Parties is likely to be small. It is possible for both parties to elect to be treated as connected even if they don’t have common controlling owners. But to claim correctly details about what for example the third-party staff are paid would be required, so for confidentiality reasons these voluntary “connections” are not always easy.
The test for an exemption from the cap is not straight forward and I do feel the legislation lacks clarity. For example if I make a product and call it the “Super Duper” and copyright the name or register the design is that enough? Not a very high bar but still sometimes not cheap or straightforward. Or does the product need a patent, a much more costly and difficult test. What happens if after having the intention to seek IP but not applying it and receiving an R&D Tax Credit payment a company either does not apply or fails to be granted the IP rights? Wil it be clawed back? What is to stop a fake intention to seek IP? I do feel this test takes us into grey and subjective areas. It is best if legislation does not do that. It maybe that HMRC clarify their position in Guidance on an this issue but it is the law that matters.
How would I solve this problem?
Scrap the test on IP and on connected party expenditure.
In the case of the fraud that we have details on the simple question arises “what would have stopped them faking the IP consideration or even applying for it in the middle eastern country where the fake subcontract work was supposed to be done?” The IP test does not deal with the problem the legislation attempts to solve. What did defeat an attempted fraud was security/money laundering checks by HMRC. It seems this would defeat fraud not subjective judgments about applying for IP. HMRC have a lot of information to make those judgments on. Why not make that process better and focused on claims that are impacted by the cap?
No measure will be perfect but is seems odd to bring back in IP considerations into R&D claims which were removed from the SME scheme in 2012 because of the highly subjective nature of such judgments. IP is a relatively complex legal area. To be blunt it also seems elitist as many small firms doing R&D lack the funds involved in obtaining let alone enforcing formal IP.
Chris Toms – Technical Director RandDTax.