R&D Expenditure Credit (Tolley’s Practical Tax Article)

R&D tax relief for large companies was introduced in
2002, two years after it was introduced for SMEs. The headline rate of that relief
is now 130% (i.e. an additional deduction of 30% on top of the normal 100%
deduction for trading expenditure). From 1 April 2013 a new form of R&D
relief became available for large companies; the R&D Expenditure Credit
(RDEC). For reasons that will become clear, this has come to be known as the
“above the line” relief.

The new RDEC is simply a way of delivering the existing R&D
relief. All of the rules in  CTA 2009, Pt
13, dealing with identifying and quantifying the qualifying expenditure for
R&D remain, although some of the legislation has moved to  CTA 2009, Pt3, Ch 6A. So, while the means of
delivering the relief has changed completely, the questions as to what is
R&D, and what is eligible expenditure remain exactly as before.

In a nutshell, the “old” rules in CTA 2009, Pt 13 delivered
the relief by way of a super deduction – that is, a deduction for more than
100% of the eligible expenditure. The new RDEC relief is delivered as a taxable
credit, accounted for above the line, which will then be available to discharge
the company’s corporation tax (CT) liability.

The RDEC replaces the super deduction with an above the line
credit of 10% of the R&D qualifying expenditure, that has the effect of
reducing R&D costs. The credit is taxable, so the claimant’s taxable
profits (if it has any) will increase and its tax liability will be higher than
under the super deduction method. As Example 1 shows,  the net result is broadly the same.  Actually, in example 1 the company is slightly
better off with the RDEC.

Example 1 is designed to show the principles of the RDEC
regime, with the taxable credit and the utilisation of the credit to discharge
tax liabilities. In fact, the legislation provides for a seven-step process to determine
how the credit is actually utilised. Using the credit to discharge the CT
liability of the current period (as in example 1) is just step 1 of that
process. Any credit left unused after any current period liability has been
discharged can, subject to some restrictions, be used to discharge the CT
liability of any other period or surrendered to a group company.

Before any unused credit can be used in other ways, two caps
must first be negotiated.

The first cap is designed to ensure that companies with or
without current year CT liabilities receive broadly the same net benefit from
the RDEC. This cap is by reference to the “net value of the set-off amount”,
which is the full value of the credit (£100 in  example 1), less that “income” taxed at the
main rate of CT.  In example 1 the net
value of the set-off amount would be: £77 (£100 – £23). Any amounts of unused
credit in excess of this cap must be surrendered to a group company or carried
forward to the following year.

 Ironically, having
removed the PAYE/NIC cap from the SME R&D regime, the Government has
introduced a similar cap for large companies. However, this cap operates in a
slightly different way to the old PAYE/NIC cap for SMEs.

The cap amount is computed as the PAYE/NIC liabilities of
the company that have been included within the R&D claim (the appropriate
PAYE/NIC paid in respect of staff undertaking the R&D), plus the
appropriate amounts of PAYE/NIC liability for a group company in respect of its
employees provided to the claimant as externally provided workers. The
aggregate of these two amounts is known as the “total expenditure on workers”
and amounts in excess of the cap must be carried forward to the following year.

When surrendering any R&D credit to group companies, it
is necessary to consider the overlapping period. That is, any period that is
common to both the accounting period of the surrendering company and the
accounting period of the group company, see Example 2.

Aside from the rate of relief, one of the big differences
between R&D relief for SMEs and for large companies (under the super
deduction rules in CTA 2009, Pt 13) is the large company relief does not
provide for a payable credit where the company has no CT liability. Therefore,
if a company has insufficient taxable profits against which to utilise the
super deduction, the relief was of little value. The RDEC will be payable to
such companies (subject to conditions), enabling them to benefit from R&D
relief.

If there is any credit left unutilised (and uncapped) at the
end of the first six steps, the balance may be paid in cash to the company.
However, there are some restrictions that could prevent payment actually being
made.

Payment may not be made if the company is not a going
concern at the time the RDEC is claimed. This is another restriction from the
SME regime that has been incorporated into this new regime. In such a
situation, the amount due is treated as extinguished. However, if the company
becomes a going concern again before the time limit for amending its
corporation tax return expires, the amount due may be paid.

If the company’s corporation tax return for that period is
under enquiry, HMRC may withhold the payment until the enquiry is concluded,
although a payment on account may be made at HMRC’s discretion.

Finally, HMRC can refuse to make a payment if the company
has outstanding PAYE or NIC liabilities for the period.

The new legislation refers to the credit being available to
“discharge” a liability to CT (of whatever period). HMRC is quite clear that a tax
liability must be outstanding in order for the credit to be used to discharge
it. In other words, if the company has already paid its current period CT
liability before the R&D credit is agreed, then there is no current period
liability to be discharged by the credit. Although the company would be able to
have the credit paid out (subject to the conditions discussed above), the first
cap (by reference to net value of set-off amount) would result in that payment being
restricted by 23% (the current rate of CT). This also assumes that the PAYE/NIC
cap does not further restrict the payable amount.

Clearly, once the company is established in the RDEC regime,
it will be able to plan its credits and, if appropriate, discharge its CT
liability with last year’s credit if it can’t agree its claims in time for
current year use. However, in the first year of the new regime, this cash flow
issue should not be overlooked.

Unlike the “old” super deduction relief, the RDEC cannot be
taken into account in computing the company’s quarterly instalments of CT. This
is because it does not actually feature in the computation of the tax liability
(other than as an increase in taxable profits). Accordingly, the instalments
will (all other things being equal) go up initially. However, once established,
the credit can be used to discharge a liability to pay a quarterly instalment.

Although the RDEC principally applies to large companies, the
following types of expenditure by SMEs will also come within this regime:

Prior to the introduction of the RDEC,
relief on such expenditure would be claimed under CTA 2009 Pt 13, Ch 3 or 4, at
the large company rate of 130%. Now, such expenditure will come within the RDEC
regime. SMEs could find themselves claiming super deduction relief for some of
their R&D expenditure and an RDEC for other parts.

The RDEC rules can be applied to expenditure incurred on or
after 1 April 2013. For a three-year period until April 2016, eligible
companies may choose to claim either the RDEC or super deduction relief.
However, if a company claims an RDEC during that period, it may not return to claiming
super deduction relief in a later period.

From 1 April 2016 eligible companies will only be able to
claim an RDEC and the following provisions in CTA 2009, Pt 13 are abolished: