Tax Talk: R&D across borders
Read time: 5 mins
When a group gets big enough, you can bet at least one member is up to something interesting. The trick is working out whether that constitutes R&D for tax purposes, whether the group structure allows you to make a claim and, if so, where you can make that claim.
After HMRC review their findings from the recent consultations on R&D, the rules may change slightly. But for now, there are two R&D schemes available in the UK – one for SMEs, the other for large companies.
An SME has less than 500 staff and either turnover under €100 million or a balance sheet total under €86 million. Knowing which scheme applies is essential. An SME claim can be worth up to £24.70 per £100 spent, whereas a large claim is only worth up to £10.50 per £100 spent. Certain costs can only be relieved under one scheme.
The relief only applies to companies and, when considering your company size, you have to look at the wider group position. Broadly, if there is a minimum 25% holding in company capital or voting rights, you will have to aggregate at least the relevant percentage of that company’s financials and headcount. On the other hand, if there is control (over 50%), you must add all the numbers together, so there is no apportionment.
Let’s consider the different group scenarios.
1. UK company subcontracts R&D to an overseas group companyAs long as the UK company remains in control of the project, it can make an R&D claim even if most people carrying out the R&D activities work for an overseas entity. But remember that large companies can only bring subcontracted costs into an R&D claim in very limited circumstances.
If your UK company is claiming under the large scheme, you’ll need to ensure that the overseas individuals are Externally Provided Workers [SB3] (EPWs). This means they are more akin to agency staff than third parties. Some groups have a specific company that operates as a staff controller so, in this case, it will be possible. As always, the details matter.
Under both schemes, where the expenditure is eligible to be included in a claim but would usually be restricted by 65%, you may choose to claim either the payment made by the UK company or the actual cost of the overseas company, whichever is lower.
From 1 April 2020, there is a PAYE/NIC cap for SME claims. If you have many other staff in the UK doing non-R&D activities, it shouldn’t affect the claim. But if your UK payroll bill is low, your claim will be capped at 300% of the combined PAYE and NIC bill, together with an extra £20,000 de minimis.
2. Overseas branch of UK company undertakes R&DIf you have an overseas branch, it will normally have to register as a Permanent Establishment[SB4] , file an overseas tax return and pay taxes in that foreign country. However, unless you elect to exempt branch profits from the company’s UK tax return, the branch profit / loss will be part of your UK company’s tax return and therefore you can still make an R&D claim.
3. UK company carrying out R&D has overseas subsidiariesGroup size matters. The thresholds do not just cover UK companies; you must consider overseas companies too. For most corporation tax purposes, you only look at companies with at least a 51% connection. Beware, therefore, not to forget about investments that are too small to consolidate or that don’t file in the UK.
Having an overseas connection won’t stop you making an R&D claim, but it could push your company from SME into large scheme territory.
4. Partnership with UK corporate members carries out R&DIndividuals trading in business together cannot access R&D tax relief. But there’s a little-known rule for companies that are members of partnerships. In some circumstances, the partnership can make an R&D claim and allocate the extra deduction to its corporate members.
HMRC’s generosity does not extend to allowing corporate members to claim a payable tax credit. So, whilst it’s a neat trick to have up your sleeve, it’s not the most efficient way to structure R&D within a group. It’s always better to have a company undertake the R&D activity – if you can.
5. Foreign parent remunerates UK companySuppose a UK company is carrying out R&D and an overseas parent makes a payment to the UK. In that case, HMRC could potentially view the UK company as having its R&D subsidised. This could block R&D relief.
Where there is a group recharge, the cost-plus model for transfer pricing is not recommended, especially for SMEs. Instead, the group should consider a profit split. Another option is a hybrid model [SB5] where recharges are at cost but the UK receives a reduced royalty on the eventual use of the intellectual property.
If the work is too far advanced for a rethink of transfer pricing and the UK company is effectively a subcontractor, it could claim R&D as a large company (even if only [SB6] an SME). In addition to the reduced relief rate, the UK company will most likely be unable to claim relief for its own subcontractors.
6. UK company undertakes R&D jointly with foreign group entitiesIn many cases, one group company will be responsible for the R&D work, and it will be obvious where you should make a claim. But more than one company can incur its own costs, and more than one company can jointly benefit from the R&D work.
Where collaborative R&D takes place, each company can legitimately explore a separate R&D claim in its own country. So, in the UK, if another group company were to claim for R&D on its own costs in its own country, this would not stop the UK company from claiming R&D on its own costs.
If you think your group might be undertaking R&D, it’s worth talking to an expert when you’re still in time to make a claim. We can advise on your R&D situation in the UK and connect you with a member firm in any country where you think a group company might have a foreign claim.
To explore this further, please get in touch with Shona Barker or your usual PKF contact.