What is R&D for tax purposes?
…Do your clients qualify?
…Do you qualify?
So how do you know if a project qualifies for research and development tax relief?
The Department of Business, Innovation and Skills has issued their definition of R&D for tax purposes. This expands the definition as per UK GAAP.
So what is the definition?
Research and development seeks an advance in science and technology with activities directly seeking the advance in science or technology through the resolution of scientific or technological uncertainties.
Let’s break this down into a more simplistic view with two parts of what qualifies.
The first qualifying measure is seeking an advancement in science or technology and the second is overcoming the scientific or technological uncertainties.
Seeking an advancement in science or technology
We know what science is, we know what technology is and we know what seeking is, so what we need to prioritise is the understanding of the term “advancement”.
An advance is typically a groundbreaking innovation of science or technology that companies like Tesla, SpaceX and Google are known for. It includes the overall push in the field of science and technology with creating new products, processes and materials, by pushing innovation.
What is also included in the definition of advancement is an appreciable improvement.
This is important as a lot of our clients fall into this category.
An appreciable improvement is developing something slightly better than what already exists such as making something stronger, lighter, faster, smaller or cheaper (cost effective).
If a company creates a product that is an advancement in science or technology, and a similar product is available in the market but the product is protected by trade secrets, then the company would still meet the criteria of being an advancement.
Furthermore, the definition uses the words “seek” an advance. This means that the advance does not have to be achieved but an attempt is made to achieve it. Projects that fail can therefore qualify.
HMRC want companies to take risks, create, design and push innovation, which will essentially create more jobs and boost the UK economy. Failure in R&D tax purposes is great! This is great for companies that are start ups and even better for existing companies developing new products.
Resolution of scientific or technological uncertainties
Now we have covered seeking an advance, we now need to determine “overcoming scientific and technological uncertainties”.
Again, we know what “overcoming”, “scientific” and “technological” means but what is an uncertainty?
An uncertainty would be not knowing if something was scientifically or technologically achievable. It includes systematic uncertainties.
For example, a drone manufacturer wants to develop a drone that would fit into the boot of an average car and be able to carry 100kg for two hours from a single charge.
The manufacturer knows how to create a normal drone, but it does not know how to develop this appreciably improved drone. The uncertainties will be creating a small drone that is strong enough to carry a 200kg load and last for two hours on a single charge.
This uncertainty can be extended to software. A business may want to improve its management processes by automating it. However, the existing legacy system is old and it does not have documentation so the developers have to reverse engineer the new solution to fit into the legacy system.
Not readily deducible
Another important aspect is that the project must not be readily deducible for a competent professional.
What does this mean?
The person that undertakes the work must be a competent professional in the field and they must find the work difficult. This illustrates that the project is difficult for a professional.
If I as a tax consultant attempted to develop software, I would find it difficult as I am not a competent professional in software development.
This episode covers the fundamentals of what qualifies as R&D tax.