R&D tax relief for SMEs

A company is an SME if it has:

• Total staff of fewer than 500 people and
• A turnover of less than €100 million or balance sheet assets of less than €86 million

Connected companies may need to have their figures included for assessing SME thresholds. This is dependent on the connected company’s classification as either:

• Autonomous: no external corporate entity owns 25% or more of its shares and if it does not own 25% or more in any other company
• Linked enterprise: able to exercise control over the affairs of the other company usually through holding greater than 50% of company voting rights
• Partner enterprise: not linked, but holds between 25% and 50% of voting rights

• Staffing costs (including gross salaries, wages, overtime pay, and cash bonuses), employer national insurance contributions, and employer pension contributions
• Payments to a subcontractor to carry out activities that are part of the company’s R&D. The subcontractor’s activities need not be R&D when considered in isolation, as long as the activities are part of a larger project that is R&D. Subcontracted analytical testing, for example, may qualify for relief. Only 65% of the total subcontractor costs can qualify for R&D relief, and relief may be available where the subcontractor is outside the UK
• Costs of externally provided workers (EPWs), which are the staff costs paid to an external agency for staff who are directly and actively engaged in the R&D project. EPWs must carry out R&D activities under the supervision, direction, or control of the claiming company. Only 65% of the total EPW costs can qualify for R&D relief
• Consumables, which are materials that are consumed or transformed in the R&D process. These include utilities such as water, fuel, and power
• Software, including the cost of software licences utilised in the R&D activities
• For accounting periods beginning on or after 1 April 2023, data licences and cloud computing utilised in the R&D activities

SME R&D relief allows companies to:

• Deduct extra qualifying costs from their yearly profit
• Claim a tax credit if the company makes a loss, which is worth a proportion of the loss that can be surrendered

From 1 April 2023 the rates of the enhanced deduction and tax credit are changing:

*There is an increased R&D tax credit of 14.5% for R&D intensive loss-making SMEs with qualifying R&D expenditure worth 40% or more of total expenditure for an accounting period. This will only be applicable once legislated.

SME R&D relief allows companies to deduct extra qualifying costs from their profit for tax purposes.

Before 1 April 2023 an extra 130% of qualifying costs can be deducted and the net benefit (at a 19% corporation tax rate) is therefore 24.7% of the qualifying R&D expenditure.

After 1 April 2023 an extra 86% of qualifying costs can be deducted and the net benefit (at a 19% - 25% corporation tax rate) is therefore 16.3% - 21.5% of the qualifying R&D expenditure.

In some cases, the net benefit received may be lower where the enhanced deduction takes a company from a taxable profit to a taxable loss position.

From 1 April 2023 companies with profits lower than £250,000 can claim Marginal Relief which will result in a marginal rate of tax between 19% and 25%. This will affect the SME R&D relief net benefit.

SME R&D relief allows loss-making companies to claim a tax credit as a percentage of its loss that can be surrendered.

The surrenderable loss is equal to the lesser of:

• The unrelieved trading losses
• The qualifying expenditure plus the enhanced deduction

The enhanced R&D deduction is subtracted from trading profits to give the unrelieved trading loss in the period. SME R&D relief allows companies to surrender losses in exchange for a cash credit.

* Only applicable once legislated.