HMRC’s new online procedure for R&D claims
In February 2019, we entered a brave new world when it became possible to submit research and development (R&D) claim information online.
This does not replace the submission of the claim which is done on the tax return, commonly by providing a report as a pdf attachment. There is also no change in the requirement to provide adequate information to demonstrate that each project included in the claim qualifies as R&D and that the costs are eligible costs. It is simply a new way to submit information in a more standard format in support of the R&D claim using the HMRC R&D template.
It is not dissimilar in concept to the more familiar personal tax return format. Two sections must be completed. The first is a prescriptive set of questions used to describe each R&D project. The second section covers the relevant cost information.
The past
Before February 2019, the substance of an R&D claim was more of an art than a science, with claims submitted in numerous different ways. The reason for this is largely because the tax legislation is silent on what is meant by R&D and also the nature of information that should be disclosed when making a claim. Some claims are submitted disclosing a single number representing the total R&D costs and no project details. Whereas others have pages of detailed, and often extraneous, information about the projects being undertaken and the nature of the costs underpinning the claim.
The problem was that no one could agree on the correct approach. Could a valid R&D claim be made by submitting a single number representing the R&D costs in the tax computations? Was it necessary to include project details and, if so, what information should be included?
More worryingly, it has been evident from some of the claims submitted that many companies, and some advisers, do not understand what is meant by R&D. This is not helped by the fact that there is no clear definition of R&D in the tax legislation. There is an unhelpful reference in CTA 2009, s 1041 to the definition in CTA 2010, s 1138, which leads to the definition in ITA 2007, s 1006. This refers to guidelines issued by the Secretary of State, more generally referred to as the 2004 BIS (Department for Business, Innovation and Skills) guidelines.
In brief, a project may qualify for R&D tax benefits if it can be shown that it has sought to advance knowledge or improve the capability in the field of science or technology and in seeking to achieve that advance or improvement there were technological uncertainties to be overcome.
As a rough rule of thumb, if a company is doing any of the following, and needs to overcome technical uncertainties and challenges to do it, the company may be able to claim R&D tax benefits:
- developing new or improved products or processes;
- investing in technology, including the development of new and improved software for sale or licensing;
- investing in technology as part of the development of a product, process or a device; or
- investing in software to make the business run more efficiently.
The why
Before turning to the specifics of HMRC’s online R&D template, it is worth considering what drove HMRC to seek an alternative way of submitting R&D information.
It has been possible to claim R&D benefits since 2000, but the take up is surprisingly low, and it is estimated that less than 5% of the pool of potential claimants are taking advantage of this valuable tax incentive.
HMRC decided that a change of tack was required. In a bid to encourage more businesses to claim, in particular those that do not want to use specialist R&D tax advisers, the department sought a way to make the process easier. It was hoped that requesting the project information in a more streamlined way would not only limit the scope of HMRC enquiries into a claim, but also deter erroneous or speculative claims.
More recent past
There was a period of consultation with several interested parties coming together to determine how this could be achieved.
The consultation focused on what sort of information should be included to give HMRC the comfort that a claim is valid. There were many views about this, but in the end, they were distilled down to four relatively straightforward questions.
Question 1: What was the scientific or technical knowledge at the start of the project?
Question 2: What was the gap in technological knowledge or capability that the project aimed to overcome?
Question 3: What types of scientific or technological uncertainties did the company face in achieving the desired advance?
Question 4: How did the project overcome the technological uncertainties?
By answering these questions, it should be clear whether a project qualifies for R&D tax benefits. There was also an enthusiastic discussion about how much detailed cost information should be included. The conclusion was that this should be provided on a ‘project by project’ basis.
Online template
In February 2019, the online R&D template for small and medium-sized enterprises (SMEs) was rolled out. This was followed a couple of months later by the online R&D template for companies claiming under the R&D expenditure credit (RDEC) scheme. This scheme broadly targets larger companies and those acting as R&D subcontractors, or receiving grant funding and other subsidies.
Project descriptions
Section one of the R&D template asks for details of the project descriptions. This is gathered by answering the four questions previously mentioned.
This is the baseline technology. Broadly, it is the scientific or technical knowledge that existed at the start of the project that the company plans to improve. This could be measured in relation to a competitor product, open source software, or another known external process. Alternatively, it could be measured against the company’s own product or processes.
This question refers to the advance in technological knowledge or capability that the project aims to achieve and is measured against the technological knowledge or capability available in the public domain, where this exists.
It is intended to be a reference to the underlying technological advances. An advance in knowledge and capability in science or technology may or may not have physical consequences – it may simply be an increase in the overall knowledge. In either case, a competent professional working in that field would recognise it as an advance or a significant improvement.
HMRC’s guidance notes give the following examples of an advance or improvement:
- creating a new process, product, material, device or service that increases the knowledge or capability
- a visible improvement to an existing process, product, material, device or service such as cost saving or less waste
- using science or technology to copy the effect of a current process, product, material, device or service, but in a new or improved way.
This should include a description of the technical obstacles that were found and that had to be overcome to achieve the advances or improvements. A technological uncertainty is one that would be recognised as such by a competent professional, and where routine and known methodologies and practices did not work.
HMRC’s guidance notes provide two examples of this. First, when the company does not know if it is possible to create or improve the product or process and second, when it is possible to create the product or process, but it is too costly.
This question asks for a description of the R&D activities undertaken during the period. It may encompass details about any of the following typical R&D features:
- the feasibility study and planning the work
- the actual research and development
- finally the testing phase, which marks the end of the R&D.
For some advisers, using the online R&D template will require a very different approach to gathering the project information. The project description can no longer be provided in free form. Further, in an effort to ensure that the information is succinct, there is a limit of 3,000 characters – about 500 words – for each question.
The feedback from HMRC is that the information submitted using the online R&D template has made it much easier for it to determine whether a project qualifies for an R&D claim. The department has confirmed that, in most cases, enquiries about the nature of the project are likely to be significantly reduced as the four questions cover many of the standard ‘starter’ questions raised at the beginning of an enquiry.
HMRC has also confirmed that enquiries are much more likely to focus on whether a competent professional has validated the R&D nature of the project included in the claim.
Our experience, so far, is that by focusing on the four prescriptive questions it is much easier and clearer to determine whether a project qualifies for R&D tax benefits.
Project costs
Section two of the template asks for details of the project costs.
The R&D costs for all projects can no longer be amalgamated but instead have to be provided on a project-by-project basis. This may result in more work for the preparer of the claim, in particular when there are people working on several projects and there is no timesheet system in place.
Companies with more than ten projects will need to choose which project descriptions to include in the template because it has capacity to include up to only ten projects. This is determined from the spread of costs by individual project which should be put in order by value. Provided no more than ten projects represent at least 50% of the total costs it will be possible to use the online template. By implication, it should be suitable for a claim covering up to 20 projects. In practice, there is often a long tail of smaller projects, and HMRC has indicated that it expects some claims could cover as many as 30 to 40.
When a claim covers fewer than three projects, details have to be provided about all of them. If there are more than three, it is necessary to provide details of three projects only, as long as these represent at least 50% of the total costs.
HMRC anticipates that the online R&D template should be suitable for about 95% of the claims. When it is not possible and the company is large enough to have a customer compliance manager (CCM) at HMRC, it will be able to speak to its CCM about using sampling methods. For this reason, HMRC has confirmed that it has no plans to increase the project capacity of the form.
One of the more surprising features of the template is that it is necessary to enter the total cost for each R&D cost category – salaries, subcontractors, and consumables. As it stands, HMRC has confirmed there are no plans to extend this to a more detailed cost analysis.
It is difficult to know how HMRC can effectively interrogate this information because there is not enough detail to determine whether any of the cost totals include non-qualifying R&D ones. The limited cost details enable HMRC to carry out only a very high level ‘sense check’ based on the expected costs for that type of business activity.
The temptation will be to add more detail elsewhere in the tax computations as a way of mitigating the risk of there being a cost-related enquiry. The online R&D template asks for significantly less detail compared with the amount that many companies and advisers routinely incorporate in a claim. We will have to wait and see the impact of this on the number and extent of HMRC’s enquiries and whether this encourages or discourages companies from using the online R&D template.
Story so far
So far, the uptake of the scheme has been low, running to several hundred, rather than the hoped for thousands. The rather disappointing statistics are due to various reasons and lack of awareness is likely to be a key factor. But for those who do know about it, I suspect that many are taking a ‘wait and see’ approach, rather than dipping their toes into an unfamiliar pond.
Will the low uptake mean that claims are more visible and so more likely to be enquired into by HMRC? Will the processing time differ from claims submitted by filing a detailed report alongside the corporation tax return?
It was hoped that by streamlining the approach with all of the R&D information presented in a uniform and consistent manner, this would expedite the processing of a claim. That would certainly have been a selling point to promote the use of the online template. However, the reality is that all claims are processed in the same way, regardless of whether the R&D information is provided online or through a more traditional route.
At the time of writing this article, the processing times continue to fall well short of HMRC’s 28-day target. In fact, three months appears to be closer to reality. This may partly be as a result of the rapid year-on-year increase in the volume of R&D claims being made, which is outstripping the more gradual increase in HMRC resources required to process them. While HMRC attempts to catch up and take on more staff in its R&D specialist offices, it has sought to take a stricter approach. It is no longer possible to phone HMRC and ‘cajole’ it into queue jumping the processing of an R&D claim. Instead, it is adopting a strict first-in, first-out approach to processing claims.
The future
The online R&D template is not intended to be mandatory, so it will not replace the traditional way of making claims. Nor are there any plans to incorporate it into another set of supplementary pages to the tax return.
HMRC is in the process of launching a series of roadshows but, surprisingly, other than these and the R&D consultative committee meetings which have limited numbers of attendees, it is not doing anything to raise awareness of the availability of the online R&D template.
And finally
At face value, the online R&D template appears to be a ‘lite’ version compared with many of the R&D claims currently submitted to HMRC. It asks for much less detail, both in terms of the project description and cost information.
It is hoped that using a standardised format for providing R&D information will lead to an improvement in both the quality and relevance of the project information which should make it easier to determine whether a project qualifies for R&D tax benefits.In contrast, the cost details appear to be rather scant and this may inadvertently lead to a higher incidence of cost-related HMRC enquiries. It remains to be seen whether these fears are unfounded.
The aspiration is that as the uptake rises, the prescriptive, streamlined nature of the online R&D template will make it easier for HMRC to complete the review process faster and then processing times will start to reduce closer to the 28-day target. But there is still a long way to go before HMRC achieves this objective.
For those not brave enough to use the online R&D template, the sensible course of action seems to be to replicate its best features by providing project information based on the four questions and then providing supplementary information to HMRC to explain further the R&D costs.
On balance, the new online claim is a good news story from HMRC and a positive step towards providing clarity about how to make a valid R&D claim that can easily be agreed by HMRC. This should provide welcome assurances to both companies and their tax advisers.
This article was written in conjunction with Steve Williams at HMRC and first appeared in Taxation in October 2019.
