Get with the programme
Consultation suggests government could increase tax relief for software development
As traditional UK sectors such as manufacturing and financial services falter, the government is recognising an increasing reliance on growth in the knowledge economy. On the back of a recently concluded government consultation, tax relief for companies involved in development activity is set to become even more generous. Might you take advantage of this valuable relief?
Many typically think of R&D as referring to the activities of scientists in white lab coats. It is perhaps for this reason that many companies genuinely involved in development activity, especially those in the IT sector, fail to take full advantage of related tax breaks available to them.
In cash terms, the relief can be worth as much as 26 per cent of any qualifying costs. Companies should make it a priority to be aware of the many types of activities that qualify. Eligible companies that fail to make a claim place themselves at a distinct disadvantage to competitors that claim their full R&D entitlement.
Qualifying activities
To qualify as R&D, an activity must meet definitions set out by the Department for Business, Innovation and Skills (BIS). Broadly speaking, a project will qualify if it seeks to achieve an advance in technology through the resolution of technological uncertainty. This can encompass a wide range of typical IT activities. HMRC identifies two ways in which expenditure on the development of software can qualify for relief: when development of software is the goal of the R&D project, or when development of software is used as a tool in a larger R&D project.
The first example is perhaps of greatest relevance. It refers to the development of software that in itself represents an improvement or advance over what is available in the market. Any activities that directly contribute to achieving the advance through the resolution of technological uncertainty are R&D.
But what does the word “uncertainty” mean in this context? It could reasonably be argued that there is always some element of uncertainty in any activity; it is dependent on, among other things, who is carrying out the work. The work must be sufficiently challenging, and not readily deducible, to a competent IT professional. Uncertainties that can be resolved through established or routine methodologies will therefore not qualify.
However, this still leaves many activities, even of the bread-and-butter variety, that may be eligible. Consider an IT project that seeks to increase the speed at which an app carries out calculations. One solution would be to increase the available memory to which the software has access. This solution, being readily apparent to a competent professional, is not R&D.
Another would be to create new algorithms whose improvements rely on previously untried techniques. Objectives may be less important than the means in determining eligibility.
System uncertainty should also be mentioned in this context. This kind of uncertainty can arise in situations where components or subsystems are integrated for the first time, before developers know how they will behave when combined into a complex system. HMRC has explicitly identified this as eligible for relief.
HMRC also refers to software developed as a tool for direct use in a larger R&D project. This software need not itself involve a specific advance; it simply has to contribute to a larger R&D project. Previously, a developer in this scenario was eligible only if the company were also carrying out these wider R&D activities itself. However, large firms often outsource app development, and HMRC has fortunately started to take the view that it should therefore allow such a contractor to make a claim.
Qualifying costs
All the associated costs will not qualify for relief. They will qualify only when they fall within specific categories, the most significant of which are staffing costs and externally provided workers. As a result, the scheme tends to favour labour-intensive industries, so it is perhaps surprising that we do not come across more claims by the IT industry, which would see the greatest benefit per pound of development spend. Other categories include consumable items, software and, in limited circumstances, subcontracted R&D.
Claim via corporate tax return. It is self-assessed. You can also agree the claim methodology up front with HMRC, which offers more confidence. Developers should bring all this to the attention of their finance departments.
Samantha Vanags is head of the R&D division at Grant Thornton UK LLP