CFOs must be on alert as UK revamps complex R&D tax scheme

Research and development (R&D) tax relief is vitally important for innovative companies in the UK, especially in the face of increasing global competition, economic headwinds and geopolitical uncertainty.

Recently, however, the incentive has been subject to scrutiny, followed by a series of piecemeal changes that have resulted in grey areas for businesses, hindering the planned R&D investment of countless startups, scaleups and larger multinational corporations.

Evaluating the extent of changes

In late 2022, the government confirmed plans for an overhaul of R&D tax relief, aiming to streamline the incentive to reduce complexity for businesses while making it more resilient to error and fraud.

The subsequent period of change culminates in the introduction of a merged scheme, set to take effect for accounting periods beginning on or after 1 April 2024, which marks a significant shift for R&D tax relief, combining the existing incentive for small and medium-sized enterprises (SMEs) with the research and development expenditure credit (RDEC) aimed at larger businesses.

There are certainly some elements of the merged scheme to be celebrated, such as the removal of all restrictions on subsidised expenditure. However, there will be winners and losers, as aspects of the unified scheme raise challenges. Although the stated aim is to create a more balanced approach for businesses of all sizes, SMEs will find that the benefits offered by the new model are less than in the scheme’s previous incarnation.

Large businesses enjoyed a recent increase in the effective rate of relief available, and this is maintained under the merged scheme. However, for many larger businesses, incentives like R&D tax relief are just one part of a much wider and complex tax strategy. As such, CFOs need to take stock of the changing tax landscape before April 2024 and evaluate the new rules carefully, especially if they’re juggling many competing priorities before the end of the financial year.

Keep your tax strategy agile in an evolving policy landscape

The new scheme will inevitably impact eligibility, value and the claim process for businesses engaged in R&D activities. It’s imperative that tax managers use the coming months to plan R&D investment and ensure they are up to speed with the new claim process. In particular, large companies should be aware of any implications for their supply chain given the significant changes to the rules around contracting out R&D, as well as wide reaching restrictions on the inclusion of overseas third party costs.

However, the government’s timetable for the rule changes leaves businesses very little time to prepare, let alone respond proactively. As most CFOs and senior tax professionals will attest, it is far more challenging for larger businesses to change their processes in a limited time frame due to greater scale and complexity, particularly across groups.

The transition to the new RDEC model comes on the back of a raft of changes introduced over the last 18 months, many with overlapping commencement dates which could catch even the most seasoned tax professional off guard. While some recent revisions to the scheme are generally positive for businesses, such as the inclusion of qualifying expenditure on data licences and cloud computing, the associated compliance costs demand careful consideration.

Records and processes must be overhauled to accommodate these changes, which may outweigh the positive impact on the value of their claim.

Don’t let the complexity of the changes stall your preparations

Despite the complexities that come with transitioning to the merged scheme, tax teams must resist the temptation to procrastinate or delay their preparations. If anything, the uncertainty surrounding the impact of these changes reinforces the importance of early preparation.

When the idea of a merged scheme was first put forward by the government, many assumed that the changes would not be as substantial for existing RDEC claimants (mostly consisting of larger R&D-intensive businesses) as they would be for SMEs. However, this has not proven to be the case.

It was not feasible for businesses to accurately begin modelling the impact of the consolidated rules until the Finance Bill 2023-24 was published last autumn. Before then, certain key details of the scheme were still to be confirmed, including proposed restrictions on subsidies which have now been removed.

Although businesses have more clarity now, the legislation is still technically subject to change, and HMRC is yet to release detailed guidance to help businesses plan for the impact of the merged scheme. Some aspects, such as the new rules around contracting out R&D, are entirely new and will therefore inevitably pose a challenge for companies to interpret them accurately.

While larger enterprises, with their longer-term projects and decision-making processes, will find it demanding to update their processes at short notice, the stakes are too high to delay action.

Reaching the end of R&D tax reform

As the dust settles on the changes to R&D tax relief policy, businesses must brace themselves for a busy period of transition. While the merged scheme promises to simplify the relief mechanism, its ramifications are far-reaching and varied. Senior tax professionals must remain vigilant, navigating the nuances of the new policy landscape to safeguard their organisations’ investment in innovation and how it fits into their wider tax strategy.

Going forward, ongoing dialogue between the government and private sector will be imperative to ensure the incentive continues to foster innovation and bolster the UK’s position as a global hub for research and development.

Multinational enterprises wield considerable influence, and can easily move R&D projects overseas, often citing the generosity of R&D schemes as an important factor when making this decision. Therefore, to maintain the attractiveness of the UK as a destination for innovation, we must design a framework that appeals to all businesses.

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