Research and Development (R&D) Tax Enquiries and The Current Landscape

R&D in the UK

The UK’s R&D relief schemes provide generous tax credits to both SME and large companies. HMRC statistics show that the number of R&D claims made by companies in UK has risen to 90,315 in 2021/22, resulting in £7.6billion of relief. HMRC has become increasingly concerned over the fraud and abuse which has grown over the years, particularly in the SME sector, with news of “spurious” claims being reported in the press. The updated estimate of the overall level of error and fraud for both reliefs for 2020 to 2021 is 16.7% (£1.13 billion), of which the level of fraud and error for SME scheme is as high as 24%.

The government is clear that this level of non-compliance within the R&D tax reliefs is unacceptable. As a result, HMRC have announced policy changes to combat the level of fraud and abuse, including:

• For expenditure incurred from 1 April 2023, the rate of cash credits available to SMEs decreased from a maximum of 33.3% to 18.6% (for loss-making companies). Comparatively, tax-paying SME companies will see a reduction in net benefit from 24.7% to 21.5% of expenditure (for those companies paying tax at the main rate of corporation tax). Note that for large companies in the UK, the rate of relief under the RDEC scheme has increased from a net benefit of 10.5% to 15% for expenditure incurred from 1 April 2023, making it much more attractive for larger companies to invest in R&D.
• (Re-)introduction of a PAYE / NI cap for SMEs claiming cash credit, equating to 3 x total company PAYE/NI plus de minimis threshold of £20,000 for accounting periods beginning on or after 1 April 2021.
• With effect for claims submitted from 8 August 2023, HMRC has required all claimants to document their R&D activities in a new, prescribed format through a new online digital form, and HMRC will not accept any claim without prior receipt of this information. For accounting periods beginning on or after 1 April 2023, it has also become necessary to notify HMRC in advance of making any claim (for new R&D claimants or those who have not made a claim in the last 3 years only) and present your R&D agent’s contact details as part of the submission.
   

In addition to the announced policy changes, HMRC have also implemented a number of operational changes to increase compliance amongst claimants:

• Increased number of R&D inspectors to c.200 in the specialist R&D teams, to tackle non-compliance and open enquiries into claims.
• Set up a new “volumes” team within Individuals and Small Business Compliance (ISBC) directorate to target enquiries into the SME claimants. This team has introduced a Mandatory Random Enquiry Programme (MREP) for SMEs, opening compliance checks on a random sampling of all claims submitted by SME claimants as well as focusing on certain sectors. It is also now handling RDEC enquiries that would have previously been managed by the Wealthy and Mid-Sized Business Compliance (WMBC) team.
• One to Many letters to companies, where certain themes have been identified or certain sectors targeted. For example, HMRC have written to care homes to warn them of advisers targeting companies in this sector and making “spurious” claims.

Large Business (LBS) customers are not included in MREP and Customer Compliance Managers take the lead in raising compliance with their customers. Nevertheless, a number of large company claimants are also seeing enquiries opened into their R&D claims, especially where their claims are significant and over a certain value.

What this means in practice

As a result of the operational changes and investment by HMRC in additional resources, we are seeing a marked increase in the number of enquiries into R&D claims. In particular, the ISBC team have implemented a new approach to checking the compliance of R&D tax relief claims.
The most notable changes are:

• This issuing of enquiry letters or compliance checks without a named caseworker at HMRC.
• Taxpayers are now generally limited to written correspondence only, and there is no opportunity for competent professionals to meet with HMRC, to relay often, complex R&D concepts in responding to enquiries.
• Closure of cases after a limited round of correspondence, with seemingly poor understanding by caseworkers of the company’s R&D.

Where HMRC disallow claims after review by the specialist team, penalty assessments are issued. In our experience HMRC will always consider charging a penalty if a claimant submits a return or other document that contains an inaccuracy. As a result of rejection of claims, the unit are also seeing increasing number of appeals against decisions, which are taking longer to resolve due to a growing backlog of cases.

Agents have raised concerns around the new approach being undertaken by the ISBC unit. In a letter dated 3 July 2023, the CIOT cited concerns around lack of basic understanding of R&D legislation, competency of caseworkers, poor quality of correspondence (copying from other letters, incorrect name of claimants, grammar / spelling mistakes) and lack of engagement with taxpayers / agents to resolve queries. They have noted that it is difficult and burdensome for genuine claimants to defend their R&D claims, resulting in many compliant claimants withdrawing claims.

HMRC’s 29 August 2023 response to the CIOT’s letter recognises that standards have slipped and that they have reviewed their internal processes. They have commented on adding escalation routes for additional support for caseworkers and where a meeting may be required, and providing training for less experienced caseworkers.

Our experience with enquiries raised by LBS and WMBC units also shows an increased focus on large company claims as well. All of this highlights that, when submitting R&D claims, it is important to have comprehensive documentation and an audit trail to demonstrate that the methodology is compliant with legislation and guidance. These are also important in the context of enquiries into claims, which are becoming more common and are expected to become ever more common in the following years.

How we can help

The Gi3 Tax Controversy team at Deloitte supports clients in relation to a wide variety of matters, including R&D tax relief, Patent Box claims and Capital Allowances.

The team has extensive experience in R&D tax relief claims and a proven track record in agreeing claims with HMRC, especially in assisting with technical points, claim methodology and Chief Digital Information Office (CDIO) queries (into software claims).

We provide end-to-end support which includes:

• Enquiry resolution
• Voluntary disclosures
• Alternative Dispute Resolution
• Litigation

We have a multidisciplinary team of solicitors, accredited mediators, and ex-HMRC-trained inspectors who manage and resolve tax disputes, as well as tax specialists with deep technical knowledge of R&D tax. In addition the team is supported by the wider R&D tax team and Tax Controversy network to bring specialist expertise to our clients.

Our successful approach to dispute resolution is based on our blended combination of Deloitte’s legal, mediation and tax technical experience which allows us to bring a wealth of knowledge and expertise to assist our clients.