Preventing abuse of Research and Development tax relief for small and medium-sized enterprises
Updated 4 March 2021
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Who is likely to be affected
This change will affect companies that carry out Research & Development (R&D) and claim the payable R&D tax credit for companies which are small or medium sized enterprises (SMEs).
General description of the measure
This measure limits the amount of payable R&D tax credit which a SME can claim to £20,000 plus 300% of its total Pay as you Earn (PAYE) and National Insurance Contributions (NICs) liability for the period.
A company is exempt from the cap if:
- its employees are creating, preparing to create or managing Intellectual Property (IP) and
- it does not spend more than 15% of its qualifying R&D expenditure on subcontracting R&D to, or the provision of externally provided workers (EPWs) by, connected persons
Policy objective
The R&D tax reliefs, including the SME R&D tax credit, incentivise firms investing in R&D and they are a core part of the government’s support for innovation, supporting the Industrial Strategy target of the UK spending 2.4 per cent of GDP on R&D by 2027 (See Industrial Strategy: building a Britain fit for the future).
The SME payable R&D tax credit provides valuable support to loss-making companies. It allows those companies to claim a tax credit worth up to 14.5% of the R&D element of their surrendered losses and receive an immediate cash-flow benefit. However, the tax credit has become a target for fraud and abuse and this measure responds to that, ensuring the relief goes to those who should receive it.
Background to the measure
Budget 2018 announced that, to deter abuse, the amount of SME payable R&D tax credit that a business can receive in any one year would be capped at three times the company’s total PAYE and NICs liability.
The government consulted on the application of such a cap in Spring 2019.
Following consideration of the consultation responses, the government published a summary of responses at Spring Budget 2020 and announced that changes would be made to the design.
It also announced that implementation of the cap would be delayed until April 2021 to allow for further consultation on the changes. The further consultation was published on 19 March 2020 and closed on 28 August 2020.
A summary of consultation responses has been published and is available.
Detailed proposal
Operative date
The measure will have effect for accounting periods beginning on or after 1 April 2021.
Current law
The R&D tax relief for SMEs is set out in Corporation Tax Act (CTA) 2009 Part 13 Chapter 2 (ss 1043 – 1062).
Proposed revisions
The measure amends CTA 2009 Part 13 Chapter 2. It adds a new condition at section 1058 (which sets the amount of payable tax credit) limiting the amount that can be claimed to the level of the new cap, which is defined as £20,000 plus three times the company’s relevant expenditure on workers.
New sections 1058A and 1058B define ‘relevant expenditure on workers’ as the company’s own PAYE and NIC liabilities for the period (not just PAYE and NIC associated with its R&D) plus some PAYE and NIC liabilities of any connected persons doing subcontracted R&D for, or providing workers to, the company.
PAYE and NIC liabilities for a period are defined as amounts which the company is required to pay to HMRC in the period.
There is provision (section 1058C) to prevent any PAYE or NIC liabilities counting towards more than one company’s cap (‘double counting’).
New section 1058D sets out where a company can be exempt from the cap – where its employees are creating or preparing to create IP or managing IP (which is defined) and less than 15% of its R&D qualifying expenditure is spent with connected persons. These provisions are designed to exempt companies with low PAYE and NIC, but which are nevertheless themselves engaged in genuine, substantial R&D.
Legislation implementing the measure will be included in Finance Bill 2021.
Summary of impacts
Exchequer impact (£ million)
Research and Development PAYE cap and delayed implementation
| 2020 to 2021 | 2021 to 2022 | 2022 to 2023 | 2023 to 2024 | 2024 to 2025 | 2025 to 2026 |
|---|---|---|---|---|---|
| - | -5 | +45 | +215 | +260 | +260 |
These figures are set out in Table 2.2 of Budget 2021 and have been certified by the Office for Budget Responsibility. More details can be found in the policy costings documents published alongside Budget 2020 under the name ‘Research and Development PAYE Cap: delay by one year and updated design’ and Budget 2018 under the name ‘R&D Tax Credits: preventing abuse of the SME payable credit’.
New exemptions from the cap on payable R&D Tax Credit
| 2020 to 2021 | 2021 to 2022 | 2022 to 2023 | 2023 to 2024 | 2024 to 2025 | 2025 to 2026 |
|---|---|---|---|---|---|
| - | negligible | -20 | -80 | -105 | -115 |
These figures are set out in Table 2.1 of Budget 2021 and have been certified by the Office for Budget Responsibility. More details can be found in the policy costings document published alongside Budget 2021.
Economic impact
This measure is not expected to have any significant macroeconomic impacts.
Impact on individuals, households and families
This measure has no impact on individuals or households as it only affects businesses.
There is no impact on family formation, stability or breakdown.
Equalities impacts
After careful consideration, the government has concluded that it is not anticipated that there will be impacts on groups of people sharing protected characteristics.
Impact on business including civil society organisations
This measure is expected to have a negligible impact on the administrative burdens of 25,500 businesses claiming R&D SME payable tax credits. One-off costs include familiarisation with the changes and updating systems to reflect them. Continuing costs arise from the requirement to provide a small amount of additional information to HMRC in the company tax return. The impact on the majority of affected businesses is expected to be negligible.
Customer experience could be negatively affected as the measure makes the R&D tax credit legislation more complicated and requires additional information to be supplied. This is mitigated for the smallest claims by the £20,000 minimum element of the cap and will also be addressed by clear guidance to advise of changes, and by communications including through the Research and Development Consultative Committee, HMRC’s stakeholder forum.
There are expected to be no impacts on civil society organisations.
Operational impact (£ million) (HMRC or other)
The estimated operational costs for HMRC are in the region of £2.5m covering both IT and new staff costs.
Other impacts
Other impacts have been considered and none have been identified.
Monitoring and evaluation
The measure will be monitored through information collected from tax returns.
Further advice
If you have any questions about this change, please contact Yasmin Achha or David Harris on
Telephone: 03000 592504 or 03000 586834
or email: [email protected] or [email protected].