Pandemic predicament: releasing cash with R&D

R&DThe engineering sector isn’t alone in battling supply chain disruption, staff shortages and financial difficulties provoked by the pandemic, says Nigel Holmes, head of R&D Technical Operations at Catax.

However, the industry still wastes millions of pounds each year unnecessarily because many company managers and their accountants don’t realise that much of what they’re doing qualifies as R&D.

This means firms are missing out on a valuable government tax relief under the R&D tax credit scheme.

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There are endless examples of qualifying work in this sector — we’ve worked with firms that have made a range of advances including:

– designing new ejector trailers (tax benefit over £61,000)

– adapting machinery to cut and bond cardboard and paper products (tax benefit over £86,000)

– developing car battery technology to improve electric vehicle capacity (tax benefit of over £72,000)

– developing an oil manufacture plant to create bespoke oil formulations (tax benefit of over £70,000)

– creating machinery to help produce consistent results in the manufacture of a health beverage (tax benefit over £92,000)

So it’s massively important that all engineering companies, who have either never claimed or suspect they are underclaiming, understand how the scheme works.

Here’s what you need to know:

R&D Tax Credits

The Government’s R&D tax credit scheme has been running for two decades, and is open to any company investing time and money in new products or processes that meet HMRC’s definition of R&D. Firms can claim either a reduction in their limited company’s corporation tax bill or a cash lump sum (depending on whether the company is profitable or loss making).

Overall, R&D tax credits for SMEs are worth between 24.7% and 33.4% of qualifying expenditure, so it’s a significant benefit, and the average claim across UK firms, large and small, was £89,000 last year1.

Any company whose work seeks an industry-wide ‘scientific or technological advance’ and has to resolve a ‘scientific or technological uncertainty’ can claim. This can take the form of a new process, product or service, or be an improvement to an existing one.

The work does not have to have been recent. Claims can be backdated up to two years from the end of the tax year in which the work took place.

Two other tax reliefs worth considering are Capital Allowances and Patent Box

Capital Allowances (CAs) are a tax benefit linked to the physical assets in work premises.

They allow firms to offset the Corporation Tax they pay on profits against the items embedded within a commercial property such as air conditioning, wiring, heating, lighting and security systems.

CAs are a tax relief on profits, so there can be no immediate benefit if a company is loss making. However, if a loss-making company is also making an R&D tax relief claim, a CA claim can increase the amount that HMRC will pay in R&D benefit. CAs are also available to sole traders and partnerships paying Income Tax.

Finally, Patent Box tax relief was introduced in 2013 and rewards firms generating income from patents.

Claiming companies get a deduction that effectively almost halves their tax on profits derived from patents but, as the newest of these three tax relief schemes, a huge proportion of firms remain unaware of it.

For loss-making companies, it is often assumed that a Patent Box claim would not be worthwhile, but that’s not necessarily the case. If a company is loss-making overall, but has made profit from its patented products, then it is still worthwhile, as it increases the tax loss available elsewhere.

There is one main trap companies should avoid. If patents are registered in an individual’s name, rather than in the name of the company that is exploiting the patent, then Patent Box is not available. While the sale or licensing of the patent will resolve this, it does lead to additional legal costs and potential income tax implications. Getting good advice at the outset is vital.

R&D tax credits, CAs and Patent Box can all have a huge impact on the cash flow and financial stability of a business, particularly during a pandemic, but once the deadline to claim has passed, there is no way to get these entitlements back.

Nigel Holmes, Head of R&D Technical Operations at Catax, sits on the HMRC R&D Consultative Committee

1HMRC latest figures for 2018/19