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R&D tax credits: Subcontractor or Externally Provided Worker

Why it matters

Stuart Weekes, Partner, Corporate Tax
22/07/2020
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At the beginning of the year, one of our first Innovation Insight’s looked at Top Tips when preparing an R&D claim following the identification of qualifying R&D activity. One area that we covered was contracts with subcontractors and provision of staff via an agency or similar. This insight takes a closer look at why it matters to differentiate the two.

The UK’s R&D tax credit schemes permit companies to include the costs of people other than employees of the claimant company who are directly engaged in qualifying R&D projects.

Whether the individual is a subcontractor or an Externally Provided Worker (EPW) the benefit to the claimant company remains the same. So, why should companies care?

The importance of differentiating

The UK has two R&D tax credit schemes:

  • Small & Medium-sized Enterprise (SME) scheme
  • Research and Development Expenditure Credits (RDEC).

The SME scheme is only available for small and medium-sized entities that undertake R&D on their own projects, not as subcontractors for other companies. The RDEC scheme is available for large companies or certain SMEs that fail the test for the SME scheme.

Under both schemes EPW costs incurred by qualifying companies qualify for relief; however  sub-contractor costs only qualify under the RDEC scheme in certain circumstances.

A subcontractor is someone who is contracted to carry out activities that are part of the claimant company’s R&D work, but they cannot simply provide consultancy services.

According to the SME scheme this person could be a company, an individual or a partnership. Provided the parties are not connected it can also apply to situations where the subcontractor subcontracts the work to another entity.

However, the RDEC scheme is more restrictive, to ensure that the same costs cannot be claimed by two different companies. Eligible subcontractor costs under the RDEC scheme only relate to payments to qualifying bodies (i.e.universities), an individual or a partnership where each member is an individual. They do not include sub-contractors that trade as companies.

A subcontractor typically carries out a specific R&D activity for an agreed fee and has some freedom about how and when they work on the task and which member of their team carries out the work.

An EPW is different to a sub-contractor. An EPW is someone typically provided by an agency or another third-party staff provider. The claimant company contracts to have specific individuals carry out work on qualifying R&D projects. While that individual (the EPW) is not formally an employee of the claimant company, they are under the supervision and control of the claimant company.

In summary

As you can see it is vitally important to ensure that the claimant company is clear who they are contracting with and what they are buying, as in our experience this can have a significant effect on the quantum of the R&D benefit received.

With the above in mind we recommend that when using third parties for R&D projects companies ensure they understand how the contractual arrangements impact their R&D tax relief claims through:

  • being clear whether the third party is a sub-contractor, an EPW or simply a self-employed consultant, and then consequently
  • identifying which R&D tax credit scheme is available to them.

Ideally, plan well in advance - this can have a significant impact on the R&D benefit available.

If you need support with this area, or any other area of your R&D claim, or would just like to chat through your thinking please do get in contact with Stuart Weekes or Andrew Hawley.

Contact us

Stuart Weekes
Stuart Weekes
Partner, Corporate Tax
Thames Valley