Yasmin Dalton
Consultant
Collaboration between companies carrying out R&D is not new. When a company faces uncertainty on a project, it will usually contract out a portion of the R&D work to a company that can help to resolve it. It is this area, however, that has been a bone of contention within the world of R&D tax credits for quite some time. In fact, HMRC identified contracted-out R&D as an area most prone to error when determining which R&D tax scheme to use. In an attempt to mitigate this, and reduce the levels of error, the RDEC and SME scheme have been fused to produce the shiny new merged scheme, effective for A/Ps starting on or after 1st April 2024.
The goal of this new merged R&D tax relief scheme is to provide much-needed clarification on the rules relating to subcontracting expenditure. Historically, this has been a challenge for companies as it has not been clearly defined in the tax legislation.
At present, under the SME R&D tax relief scheme, payments to subcontractors attributable to R&D undertaken on behalf of the company are qualifying expenditures. Conversely, under the RDEC scheme, subcontracted costs may only be claimed where the contracted work is being carried out by an individual, a partnership, or a qualifying body such as a charity, higher education institute or scientific research organisation.
To claim for contracted activities the customer must be able to demonstrate that they ‘intended’ or contemplated’ that R&D would need to be done. Evidence of this could include a contract or correspondence describing the R&D in-depth.
Customers will now need to consider the wider scope of any contracted-out development activities before they enter into any agreements with contractors. For example, a customer might know that they need a piece of bespoke tooling, but can they accurately describe the R&D necessary for its development before the contractor begins the work?
If the customer is unable to show that they contemplated the R&D, for example, if they only provide a contract for the provision of goods and services, then this would not be enough for them to claim. In this case, it could potentially enable the contractor to make the claim instead. Under the new rules, this scenario is not contracted R&D because the decision to initiate the R&D was made by the contractor, not the customer. It also does not matter that the R&D was funded by the customer as there is no restriction on claiming for funded/subsidised R&D activity anymore.
HMRC have provided several examples where the question of contemplation may arise. I’ve taken the important points from each example given and listed them below – for clarity, in each example, Company A is the customer and Company B is the contractor.
From the examples, we can see that contemplation, in this context, needs to show substantial intention, and requires appropriate expertise. Therefore, it should be more than a minor or fleeting consideration. The R&D that is envisaged is more than mere belief, or even knowledge that R&D will be required per CTA09/1133(2)(c). It must go beyond the awareness that R&D will take place and requires a specific appreciation of what R&D will be done.
High-level wording in a contract that R&D was required would not be enough to satisfy (1133(2)(c)) as this could be added by the customer who wanted to reserve itself the right to claim (thereby denying the contractor the right). In this case, the customer would struggle to explain in detail the R&D to be carried out or explain why it was needed. This shows that R&D was not contemplated or intended by the customer.
The examples given by HMRC are pretty straightforward. In the real world, however, things can often be more complex and confusing. In these cases, there are other factors to assess when considering who contemplated the R&D and who has the right to claim. These factors include:
This blog has sought to provide much-needed clarification on HMRC’s new contemplation rule. The many real-world nuances that are present in R&D collaboration could make this a confusing topic to navigate. That is where expert R&D advisors, like TBAT Innovation, will be an essential extension of your team, to best advise on project eligibility and to support you throughout the R&D tax claim process.
If you like to get in touch regarding any of the points raised, or would like to speak to our expert R&D Tax Credits team, book a free 1-2-1 consultation today.
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