Re-introduction of PAYE cap on Research and Development (R&D) tax relief
R&D tax relief is a government incentive which rewards companies that carry out R&D to create new products, processes or systems, or make enhancements existing designs.
Companies that spend money developing new products, processes or systems or enhancing existing ones may potentially be eligible for R&D tax relief, which can reduce the corporation tax payable or offer a cash payment/tax credit.
However, HMRC believe that the relief has become a target for fraud and abuse and the re-introduction of the PAYE cap is a response to that.
The original R&D legislation for the SME scheme which was introduced in The Finance Act 2000 included a PAYE/NIC cap, however this was removed in The Finance Act 2012 for accounting periods ending on or after 1 April 2012.
Since the re-introduction of the PAYE cap on R&D tax credits was initially mentioned in the 2018 budget, there had been a period of consultation and a delay due to the coronavirus pandemic, but this was implemented to accounting periods which began on or after 1 April 2021.
What is the cap?
The PAYE cap rules restrict the R&D tax relief claim for loss making SMEs. This measure limits the amount of payable R&D tax credit which a SME can claim to £20,000 plus 300% of its total Pay as you Earn (PAYE) and National Insurance Contributions (NICs) liability for the period.
A company is exempt from the cap if it is creating or actively managing intellectual property and less than 15% of its total R&D expenditure is on work subcontracted to or using employees of connected persons.
How will this affect companies?
This is likely to have the biggest impact on small loss-making start-ups as these companies often have minimal salary costs, as directors are often on low salaries, and they may also be using subcontractors. As they therefore don’t have large PAYE/NIC liabilities, their R&D tax credit may be restricted to £20,000.
Group companies could also be affected if they recharge salary costs to other group companies.
Any remaining losses can still be carried forward and utilised against future profits. However, particularly for start-ups, it may be several years before there are sufficient profits to relieve the losses against and could therefore have a significant impact on cash flow.
Why is the cap being introduced?
HMRC believes that in the past, many SMEs have claimed for projects which are not qualifying R&D and have been pushing the boundaries of the relief in order to maximise claims. In addition, group structures have been set up to claim for R&D activities undertaken outside the UK.
The aim of the cap is to make the R&D legislation more robust and to prevent exploitation of the relief.
Cowgills is a leading independent firm of Chartered Accountants and Business Advisors based in the North West of England – from Greater Manchester to Liverpool. We use our sector experience to deliver tailored financial solutions and support for growing entrepreneurial businesses.
If you are interested in finding out whether you qualify for the SME R&D tax relief entitlement or to make sure you are maximising your claim speak to our dedicated team. Email firstname.lastname@example.org today or visit our website here.
The information was correct at time of publishing but may now be out of date.