On Tuesday 29th November we sat down to discuss the latest developments in R&D; the winners and losers following the Autumn Statement and the recent rise in inquiries. Joining Goodman Jones Partner Matt Cook was Joe McGurk, Managing Director at Kene Partners.
Matt: 0:01 Good morning and welcome. I’m Matt Cook, Partner here at Goodman Jones. I’m joined today by Joe McGurk. He is Managing Director of Kene Partners. Kene Partners are a specialist research and development tax advisory firm, who we’ve worked closely with over the last few years and today I’m going to have a brief discussion around the latest developments in the world of R&D. So morning, Joe.
Joe: 0:23 Pleasure to be here.
Matt: 0:24 Good to chat to you again and I think the best place to start is the Autumn Statement, announced a few days ago. R&D was specifically mentioned in what he said might be announced. So, it’s positive that it’s high on the agenda. However, not all was good news. So would you mind giving an overview of what was announced?
Joe: 0:47 Yeah, certainly. I mean, I think there was some trepidation in the industry, they have received a lot of bad press. And some of we’ll come to later. Earlier in the week and the build up and Jeremy Hunt has quite a history of making quite radical changes when needed. So, we were quite nervous. Positive, as you say that that R&D still remains high on the agenda, which is essential for UK PLC and he recognizes that.
The negative being that I suppose, an opportunity to reduce the damage that’s done by some of the erroneous claiming that purported to have been happening, he did slash the rates of benefits. So super deduction is down from 130% to 86%. The tax credit itself, which was previously around at 14.5% is now 10%. But then on the other side, RDEC was increased as a credit from 13% to 20%. So, he took with one hand and gave the other.
Matt: 1:44 So, that’s not good news for SMEs.
Joe: 1:49 So, SMEs will see a real terms deduction, loss making SMEs will see a real time deduction from around about 33% to 19%. Profit making SMEs will go from a proper above a certain level to £250,000 will go from around 25% to 22% because it dovetails with the increase in corporation tax, that’s coming in on the first of April. And then more damagingly, those lower profit making SMEs will see their credit reduced from between 18% down to around about 8%.
Matt: 2:26 Large companies, you mentioned the RDEC is for large companies…
Joe: 2:30 Yes.
Matt: 2:30 A large company is?
Joe: 2:32 An RDEC company? over 500 employees, over 100 million in turnover, over 86000 euros in assets, they will actually see a 50% increase in cash receipt from their expenditure. So, up from a real term credit of 10% to 15%.
Matt: 2:53 So closing the gap, but indeed a big hit for most claims, which is SMEs.
Joe: 2:59 Predominantly, the claims made in the UK are by SMEs. Now, the largest amount of benefits typically goes to RDEC firms. And I think we can recognize that its FTSE companies and the larger PLCs that are based in the UK are doing some really legitimate R&D. It’s great that they’re encouraged and rewarded. Unfortunately, the purpose of the incentive is to reward innovation at all levels. And I’m not sure it quite encourages innovation at the same level it did previously.
Matt: 3:28 And how do you think this has gone down with the SMEs? I heard you saying there’s been quite a backlash…
Joe: 3:36 I mean, various trade bodies and industry bodies are compiling a list of complaints, not just the R&D advisory sector. That’s across big four accountancy firms, various other larger SME firms. There’s also trade bodies because this incentive is so valuable, it provides so much of the working capital that businesses need in their early years and to encourage that further development of products and processes, new systems and sciences, that without it, frankly, the coughers are going to run dry pretty quickly.
People forecasting cash flow for the next two or three years are starting to look around for external investment. There’s a lot of talk already about jobs moving overseas, which is quite alarming. I think Jeremy is going to have to address that problem at some point.
Matt: 4:25 Do you think he’ll change it?
Joe: 4:27 Well, I suppose I hope that he will. There’s actually some suggestion that he might look at the impact on the SME environment in the UK and maybe recognize that it’s going to negatively impact those businesses. As such, he might retract a little bit of the restriction before they come to a final decision about the future of the R&D incentive scheme.
Matt: 4:56 I mean, you mentioned previously, in the run up to the autumn statement, there was a number of articles appeared in the press, talking about R&D, how there was a high number of bogus claims, and even some concerning reports of abuse and fraud. I just wonder what your thoughts are on this and do you think this is why the chancellor has reduced the level of support particularly for SMEs?
Joe: 5:21 Yeah, I mean, there are a number of things to cover here. The first is let’s talk about outright fraud, it’s undeniable that fraud has been taking part in the scheme. There was a house of laws subcommittee on Monday before the Autumn Statement, which was attended by representatives from the R&D industry, and they address questions of fraud in that meeting, with varying levels of success, but the well-publicized prosecutions of fraudsters, I think there was another case recently in which eight people have been prosecuted. One of them is in fact a tax advisor for submitting 100 claims, erroneous claims totalling value or loss to the exchequer of 16 million pounds. So, that’s 160,000 pound claims. Bear in mind, the average is between for an SME is between 50,000 and 60,000 pounds. It’s not just greedy, it’s blatant, and frankly, it screams of people who are becoming quite reckless in their attempts to defraud HMRC.
Now, that’s the most damaging case, there are also those people who are submitting claims erroneously. So that comes down to a couple of things. One is their understanding, as taxpayers, as businesses, as advisors of R&D and what qualifies. And they may very honestly be submitting claims, believing that they qualify. And I think in lots of cases, that is what we’ve encountered when we’ve worked with clients, if we’ve inherited from other advisors, and realise that they potentially don’t qualify quite to the degree that they thought they did.
The other side of the coin is the lack of education available within the R&D regime and within this space, because HMRC’s guidance has always been famously quite grey and open to interpretation. It’s an inevitability that there was going to be misunderstanding. I suppose part of our job as advisors is to educate people, sometimes that’s the time of bad news, sometimes it’s time good news.
Quite often though, what we’re trying to do is take them on a journey and ensure that it becomes easier for everyone going forwards. To come to your point about Jeremy Hunt and if what he’s doing is attempting to tackle fraudsters, I think the answer plainly has to be no. He’s just trying to limit damage; all he’s doing is axing the amount of damage that can be done. He isn’t ostensibly increasing scrutiny on the fraudsters, he’s not making penalties for committing fraud more harsh, he’s not making the system easier to administer, he’s not talked about how inquiries are going to change. Rishi previously introduced some changes that are looming. Frankly, it’s damage limitation, it’s a temporary measure before they can really define the future of the scheme.
Matt: 8:22 So the big message is: if your R&D is at stake – it’s quite clear – you’re making good claims, proper R&D, you’re doing R&D, doing innovation, the claims are all valid. There’s nothing to worry about. They will continue for the time being, just at a lower rate of cash coming back.
Joe: 8:48 Yeah, that’s right and I think the important thing to note is that R&D is incredibly generous. And in its current state ahead of these changes, it’s one of the most generous regimes in the world, but it’s also one of the hardest to qualify for. So we need to be mindful that we’re always looking to protect the incentive, but the fundamental purpose of it is to encourage innovation and investment in the UK. And there’s no way that Jeremy Hunt as Chancellor is going to want to disincentivise people to continue to innovate here.
Matt: 9:24 No, because we’re not the only country that does this as well. So we have to remain…
Joe: 9:31 Yeah, there are lots of very big, very established schemes in around the UK that could quite happily house those big players and also these larger SMEs that are really looking to take a hit.
Matt: 9:46 So you touched on it earlier, but back in March this year, Rishi announced some tightening of the R&D claims process, possibly to attack these bogus claims and fraud. So he said, from April next year, there’s three points here, that claims would need affectively to be signed off by a named senior officer of the company. So companies planning to make a claim would have to notify HMRC of their R&D on the day it takes place. So, that stops people claiming going backwards. And the last one was, which was interesting, when companies was asked to provide details of any agent advising them on the claim. I was wondering, is there been any update on those proposals?
Joe: 10:41 Well, there’s something of an update, it’s more of clarity around what each of them is proposing. So say the counter signing of the report by an officer of the company is like you say, it’s no different to the tax return being signed. And frankly, if you’re submitting a claim, without the approval of knowledge of a senior officer, then you’re probably doing something wrong. We don’t see that making an enormous dent in the fraud that’s carried out, other than to say that people recognize their names in a document. For what it’s worth, we’ve been doing that for quite some time, it’s fairly important as part of the compliance process to ensure that you get someone signing it off at that senior level. But it might discourage some of the sort of, I suppose most spurious advisors to use a buzzword that seems to be doing the rounds. The second point remind me was?
Matt: 11:41 Not being able to do prior year claims.
Joe: 11:44 Yes. So actually, there has been an amendment to that, which is to say that if you haven’t claimed or haven’t claimed in the last two years, or have never claimed there is still a bit of an exemption. So, you can look back, you do still have to notify going forward in the year in which you’re going to be carrying out the R&D, your intention to submit a claim. That’s just to stop those massive backwards looking claims, that don’t necessarily have meet the record keeping requirements at HMRC and are quite difficult and time consuming to administer from an inquiry perspective, it will also reduce the outlay to the exchequer quite dramatically.
Matt: 12:22 Has it actually been agreed now? is it in place or…
Joe: 12:26 Well, yeah. They’re coming into play from the first of April.
Matt: 12:32 So that example, how practically would you notify them on that? Has that been announced all?
Joe: 12:38 The details are still to be announced. I mean, I think there might be, it could be a hark back to the online form, which played a brief but bright role in the R&D industry, which went nowhere in the end. But there should be a very simple online process for informing HMRC. Again, it’ll be interesting to see how they administer it…
Matt: 13:02 Yeah definitely.
Joe: 13:05 Final point, details of the R&D tax agent. The purpose of this is to tackle some anonymity that was available to R&D advisors. Largely, those ones that didn’t want to put their name to document or in fact, when submitted document at all, with the tax returns, could do a white paper, just a blank page, send it in, have it signed by or in the name of the company they’re submitting on behalf of and effectively own the contract they have in place with the taxpayer. They’re anonymous, they’re not attached to anything. HMRC don’t like this for obvious reasons. And this just requires agents to put their money where their mouth is, show HMRC the whites in their eyes.
And interestingly, in the US, a tax agent is jointly responsible for the contents of a tax return. It will be very, very interesting to see if that’s where we go with this. It’s certainly lend itself to closer scrutiny to agents themselves and therefore, potential penalties for misrepresentation.
Matt: 14:09 Yeah, no, I see this as simply adding a box to the CT600, which says “who is your agent”, and then they can effectively easily report on it. So they can run a report, which says these are the ones with no agent down and then may increase, and we’ll come onto inquires in a minute…
Joe: 14:30 Of course I mean, it’ll be interesting to see what the contents of those boxes are, because it will have to be name, company number, probably name of a senior officer in order to ensure that people aren’t just popping up different trade names left, right and center, and therefore are able to spread the risk a little bit. We’ve certainly seen that with other tax schemes in the past.
Matt: 14:53 The other point I was going to touch on here is the whole thing we’re finding is, there’s a huge variation in the amount of time it takes for HMRC to issue a repayment on R&D claim at the moment. I mean interestingly, my clients who submit with yourselves don’t seem to have too much of a problem, which is good news.
They just had a very large claim for one of my clients repaid in just over a month, which actually beat my expectations because seeing six to eight weeks is a good timeframe. But there have been other instances where the cash has taken a lot longer to come through from HMRC. Just wondering what your thoughts are on or how are your experiences?
Joe: 15:36 Yeah, I mean, well, firstly, thanks for the plug, I’d love to claim that we have some in-road that gets us express payment terms, but I think it’s largely coincidence. Yes, the delays have been a bit of a bugbear for everyone submitting claims for some time, starting at the beginning of the year, became very apparent in around sort of March that everything was slowing down enormously, and HMRC then actually released a statement that they were tackling and experiencing fraud and abuse within the system. And that’s why every payment was delayed. The payment dates went up to 40 days. But frankly, it was much, much longer than that. And we’re still suffering some of the consequences now, they then sped up over summer.
And in fact, I think in the case that you’re talking about, they were able to really meet their own time timeframes that they set, which they set unrealistically quite some time ago. However, we are now entering a period where through volume of claims at the end of the year, but also presumably the uncovering of some additional fraud and erroneous claims of frequency.
Payments are slowing down again. In a lot of cases, corporation tax payments will be issued automatically through the system, they can be kicked out very quickly. We have in fact seen inquiries into some of those retrospectively after the payments been made. So we need to be mindful, that that does mean that the claim has been processed and approved, there very few are in fact approved for that inquiry. The biggest issue is still with tax credits, which go through series of checks and additional payment checks now for four reasons and various other security purposes. And any sort of backdated losses, any losses that are carried back into prior years, they’re still done quite manually; they take a long time to process. So yeah, lots and lots of frustration with the scheme. And then every now and again, you get an absolute star of a claim that just flies through in no time. Very random, no consistency, I think is probably the buzz on that.
Matt: 17:50 Quite a good time now to move on to inquiries. So quite a hot topic at the moment. I mean, us as a firm, I think we’ve went through several years not even seeing one inquiry come through. I think talking to you, I imagine there’s very few as well. And we were thinking at some point these inquiries have got to start.
Then there was news about maybe 12 months ago that HMRC had started recruiting lots of inspectors, and that something was going to happen. And I think now, there are some coming through. I mean, we haven’t got many in the firm. But there’s a small handful that have started to come through and I’ve had my first experience of claims. I just thought, my experience has been two strands to the claim one is, first of all, HMRC inquiring “is it R&D?” That can be a difficult discussion.
The second, which is a bit easier is like a fraud check. So, they’re effectively saying these are numbers you’ve claimed, send us invoices or whatever to back it up. Is that a similar experience with you or you probably see a lot more than us?
Joe: 19:19 Yeah, well now we do. Yeah, for ourselves. But that’s actually a good thing in so many ways. We have a number of inquiries, some on claims submitted, some on claims that we have or for clients for whom we just represent them on an inquiry basis. You’re right, there seems to be two strands. There’s the R&D inquiry, and then there’s the fraud investigation service inquiry, the two actually mutually exclusive, you can have one, finalize it and then still find yourself victim to the other.
However, it’s very unlikely if you’ve been through an R&D inquiry that HMRC will suspect you’re a fraud, but the other way around is much more regular. What we’re really finding, the fraud investigation service ones are very factual. Having made these payments, they are very clear and apparent, targeting of fraud. And if you can prove those, you can get them closed quite quickly.
The typical agent HMRC R&D inquiries now, whilst they still come in very much a similar format, what we have found is there’s been handing over of the responsibility to these new inspectors. So, you might have got so far down the line with an inquiry that might have been open for a couple of years. And find that right at the last minute gets handed to someone else who goes through the whole process again, I can feel your pain. It’s enormously frustrating, it’s very poorly managed. And quite often you end up going through the same questions over and over.
You rightly touched on the fact that, there were very few inquiries for some time, and that was due to understaffing. And it was also due to HMRC’s and the government’s commitment to supporting businesses through COVID. So we all understand there’s a bit of a mandate to ensure that these claims were processed quickly, that there was as little resistance to what appeared to be qualifying claims. In the first instance, to ensure that UK PLC could continue to function in really difficult and unforeseen circumstances. We’re now paying the price because a lot of the fraud happened in that period, it’s very apparent, and HMRC have a 100 extra people, how up to speed they are and how many of them still here, since they took them on is actually not publicly available. But we are seeing increased scrutiny and we’ve probably seen our inquiry rates increase, maybe twice, there’s maybe doubled in the last year. But that’s still a very acceptable level of inquiry, given the value on offer.
So very slow process in some cases, always frustrating. But it’s a really good opportunity for you to prove your methodology and get a bit of a rubber stamp on the work that you’re doing because, frankly, without an inquiry from time to time, it’s very much opinion based and lots of experience. But it’s nice to get that scrutiny from HMRC. From time to time…
Matt: 22:19 Yeah, I get that. So say we’ve been making claims for a number of years, we’ve got this a bit of a worry but you have to go through R&D and actually HMRC agree that’s R&D. Yeah, that’s quite a relief, isn’t it?
Joe: 22:32 You can look at any other area of tax. You look at VAT CT… VAT inquiries attempt penny, everyone. I mean, everyone gets a VAT inquiry in their life, don’t they? And there’s no reason that R&D shouldn’t be the same. And in fact, if you look at other schemes globally, they’re much more frequent. So, meaning in Canada, you submit your claim and you wait for your inquiry. In America it happens, but they do much the same. Lots of US for R&D advisory firms have a huge team of litigators to deal with inquiries, specifically.
Matt: 23:07 So, the takeaway point there is: we think that inquiries have continued to increase and actually it’s not a bad thing.
Joe: 23:14 They are here to stay and look, when the knowledge within the industry on both client side and advisor side is of a sufficient level that fraud is reduced, errors are reduced. They will be able to loosen the reins, the inquiries will feel less intensive because there’ll be less frequent, there’ll be a higher barrier to entry and a deeper understanding across the industry. So inquiries are here to stay, they may as well intensify for that in the short term, but the future will be protected because of inquiries.
Matt: 23:48 And timescales for resolving an inquiry. Can they vary? What are your experiences?
Joe: 23:55 We’ve had some closed in six weeks, where it’s very clear and apparent R&D. We’ve also had cases where it’s taken upwards of two years. Now in that particular case, we’ve had three different inspectors. They all require the exact same information in various different guises over and over again, we’ve had countless meetings, we then moved on to another inspector and right now actually, we’re just in the death throes, we’re very close to closing it, but quite if we get that done for Christmas, it will be will be quite a celebration, but that’s the worst case scenario. Quite often we’ve seen up to six months. Up to six months is will be considered a satisfactory time frame for an inquiry closure.
Matt: 24:47 Are there any issues that they particularly pick on in inquiries and in the construction industry, which I work with a number of clients on, they picked on the idea of subcontracted… who owns the R&D? Sure, you’re not both claiming you and the subcontractor.
Joe: 25:11 Yeah, for sure. And of course, if the principal contractor is an RDEC company, a large company, they can’t claim for the subcontracting costs. So there’s more potential to lose cash for HMRC, there’s more expenditure required if an SME qualified typically in that instance, certainly that’s a favourite way for them to go. That’s typically about ownership and the structure of the contract. So, things can be cleared up through the contract, and just having the right kind of communications from the outset. Another favourite is subsidies, if subsidized expenditure, you’re working for a client, you’re required to do R&D in order to complete the project, who owns that R&D? It’s effectively subsidized by the by the client, in which case, only internal R&D would ever qualify. So again, that’s much about contract terms, where the expertise lies, autonomy, those kinds of things. Another real favourite, which is interesting, because it doesn’t feature in the current guidelines is record keeping. So record keeping is repeatedly used and we all know that it’s good to have good record keeping for tax purposes, going back six years, it’s the famed number that we’ll stick to. But for R&D purposes, it’s exclusively omitted or exclusively not required, per I think para 13 of the code guidelines. So it’s funny now that they fit features so heavily, it’s not unexpected. But if you don’t have your records, in order, if you can’t prove the time that was spent where of when and the kind of work that certain subcontractors carried out on your behalf, then you’ll find it very difficult to qualify your claims on inquiry. And that’s a bit of a lesson for all of us I think.
Matt: 27:07 Just going to finish now on a question coming in, it’s quite an interesting one. Is there any space in the R&D claim for innovative digital agencies working in AR, augmented reality, and innovative tech for advertising campaigns?
Joe: 27:27 Yeah, it is and I really like that question, because it actually highlights a couple of things. It highlights that R&D can potentially exist in lots of different industries, but also, that innovation in and of itself isn’t necessarily qualifying for R&D purposes. So what I mean by that is you could have a series of technologies that you’re using together that have never been used together in that way. But if they work fairly harmoniously, in order to achieve a certain outcome, the use of lots of innovative technologies that haven’t been used together before, wouldn’t necessarily qualify for R&D.
Now, if you had to integrate those technologies in some way, adapt them, in order for them to work harmoniously, there could be some R&D and the time taken to do that, and the technologies that are developed in order to do that. Additionally, it’s very difficult to know without more detail, actually what they’ve been using, what technologies, were they invented for this purpose, have I fundamentally improve the way that this piece of tech is used, because I’ve managed to make it interact with this technology over here and this one over here and these screens now used to work with those kinds of cameras, but now they do because we were able to circumvent this piece of the technological challenge. And whilst the answer isn’t simple, and typically is yes, it can qualify, it’s very difficult to know without digging deeper into what the innovative technologies are and how they interact with one another.
Simply placing innovative technologies next to one another, doesn’t qualify. Bringing them together and making them work as one could, however… It feels like the big yes and no type answer is a good place to finish.
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