How to make an RDEC claim

The Research and Development Expenditure Credit is commonly known as the RDEC Scheme. The RDEC scheme is a UK government tax incentive that promotes innovation amongst the UK’s larger businesses. 

Introduced in 2013, it allows companies to claim R&D credits “above-the-line” as taxable income rather than as a below-the-line benefit. This represents a significant difference from the SME R&D scheme.

The RDEC scheme replaced the previous Large Company scheme, which didn’t offer this above-the-line accounting treatment.

Any UK company with qualifying R&D projects can make an RDEC claim. If you’re unsure if your activity counts as R&D then it’s worth reading our R&D eligibility guide.

However, if you’re undertaking R&D then you first need to decide on whether you can claim through the more generous SME scheme. The SME scheme delivers back up to 33%, whereas the RDEC scheme effectively delivers 11%. The question to ask is, therefore, who must use the RDEC scheme rather than the SME scheme?

Large Businesses

For the most part, the RDEC scheme is designed for larger businesses. If you have 500+ employees, and either more than €100 million turnover or €86 million gross assets, then you’ll need to claim through the RDEC scheme rather than the SME scheme. In addition to larger companies, three types of SME’s must use the RDEC scheme for all, or some, of their claim.

Recipients of Notified State Aid

Small companies that have received “notified state aid” may need to claim either partly or fully through the RDEC scheme. Most government-backed grants will qualify as notified state aid, although there are some exceptions. Additionally, the number of projects you claim for, and whether the grant is project-specific or not, will have an impact. Find out more in our guide to grants and R&D relief.

Before claiming a grant, you should fully consider the impact the grant will have on your ability to later claim R&D tax credits. Typically grants will pre-fund an R&D project, whereas R&D tax credits provide funding after the R&D project has started. However, taking a grant before the project may mean you need to claim via the RDEC scheme rather than the SME scheme. Doing so effectively reduces your subsidised funding for the project by up to 22%.

Partner and Linked Enterprises

Secondly, SMEs whose ownership is partly held by a large company may need to claim through the RDEC scheme. If a large company owns between 25-50% of the voting or share capital in the business then they will be classified as a “partner enterprise”. In that case, the equivalent % of the partner enterprise’s workforce, balance sheet and gross assets must be taken into account when considering the size of the claimant’s company. For example, if your SME is 33.33% owned by a company with 1500 employees then your employee count would be 500 + your company’s headcount.

If a large company owns more than 50% of the voting rights or share capital of your company, or it satisfies other tests of control outlined by HMRC here, then it will be classed as a “linked enterprise”. In the case of a linked enterprise, its total workforce, balance sheet or gross assets will apply to your company’s profile when deciding which scheme to apply for. For a detailed understanding of whether you might have a linked or partner enterprise, then we recommend using the EU criteria for SMEs (which HMRC have applied), or getting in touch with one of our team.

Subcontracted R&D

Thirdly, if you are carrying out R&D on behalf of another company as a subcontractor then you will need to claim through the RDEC scheme rather than the SME scheme. This is to prevent excessive subsidisation of the same R&D projects by multiple companies, as the contracting company can also claim R&D tax credits for the work.

As of 1st April 2020, companies receive 13% credit on their qualifying R&D expenditure. However, the credit is subject to corporation tax currently at 19%. The net credit is therefore approximately 11p back for every £1 spent.

To help clarify, here’s an example RDEC calculation: if a company has £1,000,000 worth of R&D spend occurring after 1st April 2020, they would receive 13% above the line credit (£130,000). That credit will be taxed at the 19% Corporation Tax rate, so their net gain would be £105,300.

Companies receive the credit as a cash payment or a reduction on their corporation tax bill depending on their financial position. Loss-making companies receive a cash credit, and profit-making companies receive the reduction.

In the 2020 spring budget, the chancellor increased the RDEC rate from 12% to 13%. However, the increased rate only applies to costs registered after 1st April 2020. Therefore, if your 2020 claim covers a period before and after 1st April 2020 then it will be subject to both rates. Any costs lodged before 1st April 2020 will be credited at 12%, and any costs after 1st April 2020 will be credited at 13%.

In 2013, the government changed the accounting treatment of the RDEC scheme so that the credit now appears “above-the-line”.

The motivation for the change was that it allows the departments that carry out R&D to show the credit as income when calculating their profit before tax. Prior to this change, the credit would be accounted for in the broader company income statement. The change ensures that those making the decisions to conduct R&D are clearly remunerated.

While that was the stated intention, the broader benefits are also significant. By placing the credit above-the-line, the visible income of the company is positively impacted. This increases the appeal of businesses in the eyes of investors and the public markets. It has become a significant factor for multinationals in deciding to locate their R&D activities in the UK.

In general, the information available on qualifying costs for the R&D tax credit scheme will apply to the RDEC regime. However, in the RDEC scheme, you cannot claim for subcontracted R&D, unless the subcontractors are: “an individual, a partnership (each member of which is an individual), or a qualifying body”.

A qualifying body is “a [UK] charity, an institution of higher education such as a university, a scientific research organisation or a health service body.” (HMRC CTA09/S1142). The most common qualifying bodies we see claimed for are UK universities and NHS hospitals. The government also maintains a list of overseas bodies which qualify.

While this gives scope to claim for some subcontractor costs, the most significant exclusion from this list, however, is limited companies. In our experience, the majority of subcontractors we file against in the SME scheme are limited companies.

It’s also worth noting that the costs for Externally Provided Workers (EPW’s) are claimable under RDEC. This is where the difference between subcontractors and EPW’s becomes critical. EPW’s are workers hired under your own company’s direction, whereas subcontractors are hired under their own direction as external experts.

When submitting an RDEC claim there are seven steps that you need to complete before the submission happens.

To help explain these steps we’ve provided example company financials below:

• £2m accounting profit before R&D costs
• £400,000 R&D costs
• £70,000 PAYE & NIC costs relating to R&D
• £200,000 corporate tax loss
• No other outstanding tax liabilities
• RDEC rate is assumed to be at 13%

The company will need to then undergo the following seven steps to calculate its RDEC credit:

1. Offset corporation tax liabilities

Firstly, you’ll need to offset any pre-existing corporation tax liabilities from the headline RDEC credit rate. If you have a credit remainder then that carries on to step 2.

Example: R&D Costs of £400,000 x 13% = £52,000. No corporation tax liability so all of the £52,000 carries forward to Step 2.

2. Apply the notional tax rate

In order to ensure that both profit and loss-making companies receive the same net benefit, you’ll need to apply a “notional tax rate” of 19% to the balance regardless of your financial position.

Example: £52,000 RDEC credit – 19% = £42,120 RDEC credit carried forward to Step 3. £9,880 carried forward to future accounting periods, which reduces future corporation tax liabilities.

3. Limit the credit to the R&D PAYE/NIC cap

HMRC cap the credit to the total value of the PAYE and NIC contributions for the workers involved in this RDEC claim. Any amounts in excess of the PAYE/NIC cap will be carried over to next year’s claim period,

Example: PAYE & NIC Costs of £70,000, so £42,120 credit passes to to Step 4.

4. Honour corporation tax liabilities

At this stage, you must honour any corporation tax liabilities held from previous accounting periods. Those will then offset the credit amount due here.

Example: No corporation tax liabilities from previous accounting periods held. £42,120 carried on to Step 5.

5. Surrendering the credit for group relief

The amount taken from step 4 can be transferred to another group company to offset against their tax liability. This is optional. You can still receive your credit even if other companies in your group have outstanding tax liabilities.

Example. No group relief opted for. £42,120 carried on to Step 6.

6. Honour other tax liabilities.

Now you’ll need to deduct any other tax liabilities held from previous accounting periods, eg unpaid VAT or PAYE.

Example: No additional liabilities held. £42,120 carried on to Step 7.

7. Credit paid after HMRC tests.

If your company is a “going concern” and is not subject to an HMRC enquiry on its tax return, then the credit will be paid out in full.

Example. £42,120 paid out as cash credit.

This process can become quite complex for some companies, especially if they have liabilities from prior accounting periods. At EmpowerRD we offer consultations at the late stages of the RDEC claim process if needed. So get in touch with our team and we’ll be happy to advise on your specific case.

At EmpowerRD, our intelligent online claims platform makes the entire process of creating an RDEC claim significantly easier than working the traditional way: with an accountant, traditional advisor or managing the claim in-house.

Platform Benefits

Our platform allows for multiple users to easily contribute either cost or narrative information to the claim. Each contribution can be tracked by the claim co-ordinator to ensure that the claim is built quickly and effectively.

Our intelligent guides and prompts also ensure that the technical contributions are easily drafted and refined by your engineering team. This significantly speeds up the process of compiling a claim, ensuring that the disruption to the tech team is kept to a minimum. Typically it takes a company less than a week to compile a claim with EmpowerRD, although some have completed the process in a few hours. This compares with the 2-3 month timelines from traditional advisors.

Service Benefits

In addition to the benefits of our platform, you will be allocated a claim manager who will help you to compile your claim report. Before submission, our team of ex-HMRC inspectors and ex “big 4” accounting specialists will check your claim to ensure it passes our submission standards. Should you wish, we’ll also submit the claim for you and deal with any HMRC queries at no extra cost.