Manufacturing firms must prepare for changes to R&D tax relief
The UK’s leading R&D tax credit consultancy ForrestBrown has today revealed three key considerations for UK manufacturing firms to protect their investment in R&D, one month on from recent changes to the tax relief scheme.
1 April 2024 saw the long-anticipated arrival of the UK government’s merged research and development (R&D) tax relief scheme. The existing R&D Expenditure Credit (RDEC) and the SME R&D scheme were merged into a new R&D tax relief incentive, with the SME scheme retained alongside for a limited number of R&D intensive SMEs. These are the most significant changes to be made to the tax incentives available for R&D since their introduction in 2000, and will affect all businesses accessing relief.
As an R&D intensive industry, it’s imperative that manufacturing firms are aware of what tax relief is available and how these changes will impact their investment in innovation.
Changes in tax rates
The merged scheme maintains elements of the previous RDEC model, operating at a headline rate of 20%. The credit is taxable meaning that most profitable businesses will receive a net benefit of 15%, while loss makers can receive a cash credit of up to 16.2%. The RDEC rate was increased in 2023, benefiting those businesses claiming under this type of relief. However, these rates are substantially lower than the previous SME scheme rates, which offered relief of up to 33%.
Navigating the rate changes will pose a challenge, which is likely to be more pronounced for smaller businesses, already facing supply chain shortages and pressures due to increased consumer demand and HMRC’s tightening compliance efforts for R&D claims.
Subcontracting rules
The Contract Manufacturing Index (CMI) demonstrated that in 2023, the UK market for subcontract manufacturing was 7.5% higher than at the end of 2022, confirming the sector’s ongoing reliance on complex supply chains and commercial relationships.
The April changes introduce new rules which determine which entity benefits from tax relief where R&D is contracted out. Generally, the company making the decision to carry out R&D will be eligible to claim tax relief, and to include both its in-house costs and the cost of subcontractors contributing to the R&D. There are exclusions to this general rule where the R&D decision maker is not able to benefit from the relief, for example R&D initiated by charities, universities, government departments or overseas entities, which will be particularly welcomed by manufacturers serving the aerospace and defence, or other global supply chains.
Expenditure on contracted out R&D will also only be eligible if the work has been performed in the UK. This extends to payments for contract workers (externally provided workers), where the relief requires the workers to be subject to UK PAYE and NIC. There are again exceptions to both of these rules. Detailed guidance is available from HMRC to help businesses apply these new rules, but they will require careful consideration by any business that sits within a supply chain and/or that relies on outsourcing R&D activities.
Having the right systems in place
The fast implementation of the merged scheme has raised concerns for R&D-intensive industries like manufacturing, who may be on the backfoot given the recent raft of changes. The reform’s tight timeline has meant that some legislation has been enacted retrospectively and there remains limited guidance from HMRC to support firms with the practical application of new rules. To account for this quick turnaround, firms need to ensure they have the right infrastructure in place to utilise R&D relief.
Additional requirements of the scheme may also lead to more work for firms, such as providing contractors’ operational details to support claims where work has occurred overseas, so it is essential that manufacturers are reviewing their systems for claiming tax relief, and understand which factors may be preventing them from optimising claims.
Robin Taylor, senior sector specialist at ForrestBrown, said: “While the introduction of the merged scheme is a step towards streamlining the incentive, the tight timeline to prepare for the changes will have left many feeling unprepared. The manufacturing sector itself is extremely R&D intensive, and depends on the development of new processes, systems and machines to thrive. The use of incentives such as R&D tax relief are critical for these firms, and understanding how the relief is changing will be of paramount importance for strategic planning in the year ahead.
“Complications around overseas R&D and subcontracting will also impact supply chain relationships for these larger firms, which could discourage businesses from moving to the UK. The government needs to be clear and transparent with larger businesses working within these R&D intensive industries, so they can employ proactive strategies to harness the full value of their investment in innovation.”
