Research and Development (R&D) Tax Relief helps innovative small or medium sized enterprises (SMEs) undertaking R&D related activity claim a generous corporation tax deduction or a cash refund from HMRC.

Profit-making SMEs can claim relief of up to 24.7p for every £1 spent on R&D by reducing their corporation tax bill, or receiving a corporation tax repayment on any corporation tax already paid. SMEs that are loss-making can claim relief of up to 33.35p for every £1 spent on R&D by receiving a tax credit or cash refund at 14.5%.

What is the PAYE/NIC cap?

In a bid to deter abuse of the generous scheme, HMRC have introduced a restriction for the amount of R&D tax relief received by SMEs in a year. Effective from 1 April 2021, the cap is set at £20,000 plus three times the company’s total PAYE and NIC liability for SMEs claiming R&D tax credits. It is important for all SMEs planning a tax credit claim to be aware of the new rules.

Example:
A Ltd is a loss-making business which carries out qualifying R&D activity. It has £200,000 of qualifying expenditure, and a PAYE/NIC liability of £10,000.

Under current rules:
A Ltd should be able to claim up to 33.35% of its expenditure as a payable tax credit worth up to £66,700.

Under new rules:
As a result of the PAYE/NIC cap, A Ltd will only be able to claim 300% of its PAYE/NIC liability, plus the £20,000 ‘grace amount’. This means that A Ltd’s payable tax credit will be capped at £50,000 – reducing funding by £16,700.

Who will be affected by the PAYE/NIC cap?

The cap will mainly impact SMEs that:

• rely on subcontractors or external resources to carry out R&D activity,
• have little or no payroll expenditure,
• are planning to claim an R&D tax credit of over £20,000,
• are recharging personnel costs between group entities,
• are actively managing intellectual property (IP) outside of the UK.

Where a company has an accounting period that straddles 1 April 2021, the measure does not apply to the part of the period from 1 April, but instead, only affects the next full period starting after that date. For example, if the company has a February year-end, its 2021 and 2022 claim will remain unaffected by the new rules. However, the PAYE/NIC cap will affect its claim for the year ended 28 February 2023.

Exemptions

To minimise the impact of the cap on genuine businesses, the following exemptions apply:

• A company making a small claim for payable credit below £20,000 will not be affected by the cap;
• A company will be able to include related party PAYE and NIC liabilities attributable to the R&D project when calculating the cap and these will be subject to the 300 percent multiplier; and
• A company’s claim, of any size, will be uncapped if it meets two tests. These tests require that a company’s employees are:
  • creating, preparing to create or actively managing intellectual property (IP).
  • that its expenditure on work subcontracted to, or externally provided workers provided by, a related party is less than 15 percent of its overall R&D expenditure.

The new rules apply to all R&D expenditure incurred on or after 1 April 2021.