Derek Gemmell: R&D creeps into the digital arena with a sting
Derek Gemmell, partner and head of innovations tax at Anderson Anderson & Brown (AAB), discusses the complications arising from R&D tax relief.
Following recent consultation on changes to categories of Research and Development (R&D) expenditure that will align the availability of R&D relief with current innovation activity, the Chancellor confirmed in his Autumn Budget that expenditure on cloud computing and data costs will be included as categories of qualifying expenditure from April 2023.
For many years tax advisers have lobbied HM Revenue & Customs (HMRC) to open their eyes to the fact that R&D legislation that was current at the start of the millennium is now out of date as technological advances and digital involvement in innovation has moved beyond what was considered when the R&D tax relief legislation was introduced.
Changes in HMRC guidance on R&D have been made in an effort to bridge the gap but it has not been enough to allow digital costs, evident in almost every R&D project, to be included in qualifying expenditure.
Thankfully it has now been acknowledged that legislation has to evolve and this is a favourable first step in modernising R&D tax relief.
With the government’s intention to keep the UK at the forefront of world innovation, this will assist by bringing qualifying expenditure for the UK’s regime in line with what other countries already allow under their R&D tax regimes.
How this will work has still to be confirmed by HMRC as no guidance has so far been released on the workings of these new rules.
Given these digital related costs form a principal part of most companies’ R&D projects, the content of the guidance will be vital as it is likely that claims post-April 2023 will be significantly increased through this extension.
It is therefore worthwhile for innovative companies to keep track of the guidance and consider how their reporting processes will be amended to capture these new qualifying costs for inclusion as qualifying R&D expenditure on which enhanced tax relief is available.
Where there is an enhancing change to a particular section of tax there is typically also change which constrains the relief in another way.
The Chancellor did not let us down here as, again, he made a change intended to keep the UK at the forefront of world innovation.
The announced constraint will see R&D activities physically undertaken outwith the UK excluded from a claim for R&D tax relief from April 2023.
This change is being introduced in order to ensure the UK benefits from R&D being undertaken within its borders with the intention being for increased local R&D to foster even more R&D long term in the UK as specialisms increase.
The Chancellor has introduced this amendment to R&D tax legislation in response to statistics that suggested less than 50 per cent of the spending on R&D included in claims made by UK companies was being undertaken outwith the UK.
This begs the question of whether this focused tax relief is not benefiting companies based in UK as is the stated intention.
The change does not align with findings that the UK will benefit from modernising its R&D relief to reflect modern businesses that utilise international specialists, suppliers and staff in to maximise the output from its innovation expenditure.
Leading up to the change, UK companies will need to consider the impact on innovation activities should they have R&D activity being undertaken outwith the UK because post-April 2023 it is likely the R&D tax claim will be significantly reduced.
This may have a knock-on effect on the quantum of R&D activity a company can afford.
Again, we will need to seek direction when HMRC issue their guidance on this new change.