SMEs can reclaim missed R&D tax benefits following HMRC guidance update
After a series of bruising First-tier Tribunal decisions, HMRC has updated its guidance regarding subcontracted and subsidised expenditure, specifically in cases where companies incur R&D costs to fulfil contractual obligations to their customers.
Many SMEs may not have claimed the full relief to which they were entitled due to HMRC’s original stance. This updated guidance should encourage those SMEs to revisit earlier claims that are still within the time limits.
Previously, HMRC maintained that SMEs could not claim tax relief when working on projects subsidised or subcontracted by another company. Instead, HMRC encouraged such companies to apply for the less favourable R&D expenditure credit (RDEC) scheme, which is aimed at larger businesses. In certain cases, whole costs associated with R&D projects were omitted from claims due to the nature of the companies that HMRC maintained were contracting out the R&D.
HMRC backtracks, issuing new guidance for R&D
HMRC’s earlier interpretation was contentious and restrictive, diverging from the views of most advisers and claimants. The issue has been highlighted in several prominent First-tier Tribunal cases, such as Quinn (London) Ltd v HMRC [2021] and, more recently, Collins Construction Ltd v HMRC [2024] and Stage One Creative Services Ltd v HMRC [2024]. In all these cases, the tribunal ruled in favour of the companies, often disparagingly towards HMRC.
As a result, HMRC confirmed that it would not appeal these decisions. It has sent letters to companies with ongoing inquiries or appeals, indicating that these cases will be reviewed considering the updated guidance.
HMRC expands scope of subcontracted and subsidised R&D expenditure
The new guidance marks a significant shift in HMRC’s position. It now emphasises whether the R&D was ancillary to fulfilling the contract or explicitly commissioned. It also considers whether the R&D was specifically directed or funded by clients, the degree of autonomy the company had and who bore the financial risk or owned the intellectual property. This requires a more nuanced, case-by-case approach based on the specific facts and circumstances.
This change only affects R&D activities for accounting periods beginning before 31 March 2024. After this date, the new merged RDEC scheme will apply, which does not distinguish between SMEs and larger companies. It introduces new rules regarding which companies can claim R&D tax relief for contracted-out R&D.
Claim what you are due
If you are an SME and, due to HMRC’s previous restrictive stance, chose not to claim or opted for the less generous RDEC scheme, it’s time to reconsider your position. For accounting periods that are still open for amendment, you can resubmit your claim under the SME regime, which could result in a more substantial cash benefit. For instance, an RDEC claim of £100,000 may have yielded a £15,000 cash benefit, but it could potentially be worth £18,600 under the SME scheme.
Contact our R&D experts if you’re unsure of the best way to proceed.
