Klara AdamsR&D Analyst
Klara has an MSc in Sustainable Energy Futures from Imperial College alongside a background in Mechanical Engineering. She believes R&D plays an integral role in facilitating the UK energy transition.
The government’s R&D tax incentives for SMEs have for a long time offered the most generous relief-rates for eligible companies (up to 33p per £1 on R&D).
While these rates are set to change as the UK moves towards an integrated monolithic R&D scheme for large and small companies, the categorisation criteria remain in place. In order to be classed as an SME for research and development (R&D) tax credit purposes ) you must have fewer than 500 staff, and either:
- A turnover of no more than €100 million; or
- Gross assets of no more than €86 million.
If you have fewer than 500 staff but you still surpass both the turnover and gross asset thresholds, you will be classed as a large company for R&D tax credit purposes. If this is the case, your claim would fall into the RDEC scheme.
Though R&D tax credits are centred in the UK and are administered and controlled by the UK government, the figures are set out in Euros because the definition of an SME was authored by the European Commission. A claimant company need only convert their values into euros to assess their categorisation.
The two incentives as of Winter 2023
The rates of relief that are available across the two incentives have been subject to significant adjustment and revision in recent months, with significant changes coming into effect in Spring 2023. The SME R&D tax credit scheme has been worth up to 33p for every pound spent on qualifying R&D expenditure, but this is set to change.
RDEC, the research and development expenditure credit, has received incremental increases to its rate of relief year on year. It can be worth 11p for every pound spent on qualifying expenditure.
How do you assess yourself against the criteria for SME status?
An expert adviser will be able to guide you to the correct claim route for your business. But you can work out which R&D tax-credit category is correct for your business by assessing your staff headcount alongside your turnover and balance-sheet gross assets.
The definition of ‘500 staff’
To determine whether your staff headcount exceeds the legislation’s threshold of ‘500 staff’, you should look at all the staff members on your payroll (this includes Directors). Any part-time workers should have their time converted into a unit which represents their annual contribution of working hours: e.g. someone working two days per week would be classed as 0.4 in the headcount.
Subcontractors do not count towards your headcount (they are a separate category of expenditure which is restricted by 65%); but you should include any relevant secondees or ‘deemed’ employees.
Some individuals can be excluded from the 500 staff threshold; they are:
- Students on vocational training;
- Apprentices on apprenticeship contracts; and
- Staff on maternity and paternity leave.
(Note that being on furlough doesn’t reduce your FTE, and overtime doesn’t increase FTE)
Checking against the €100 million turnover and €86 million balance sheet figures
To check your turnover and balance-sheet figures fall within the thresholds, you would ordinarily use the annual turnover figure from your finalized accounts. Any VAT can be excluded, and your accounts should be annualised if they pertain to a period of less than 12 months.
Likewise, to check your balance-sheet figure against the threshold here, you would need to check the gross assets in your annual accounts. HMRC do retain some discretionary flexibility to consider your case’s individual circumstances if you are sitting particularly close to the thresholds which means the accounts yield an unfair result.
Pay attention to connected enterprises
The term ‘connected’ enterprise has a specific definition for tax purposes. It’s related to your company’s autonomy and, potentially, your position within a group. The nature of your connection(s) and autonomy will be relevant to an R&D tax credit claim. Are you, for instance, a linked enterprise or a partner enterprise? Even if you appear to fall comfortably within the fiscal thresholds for the SME scheme, your partnership or ‘connected’ status may affect your classification.
Declaration of SME status
If there’s reason to believe you’re an SME but you cannot determine with absolute certainty( i.e. the spread of capital) you can make a declaration in good faith. An adviser will be able to help you with this.
An important factor in your assessment will be whether any parties hold between 25%-50% of the capital or voting rights within your company. Likewise, are there any enterprises in which you hold between 25% and 50% of their capital or voting rights. In such instances, these enterprises will be classed as partner enterprises. As such, the assessment criteria will encompass a proportion of their headcount, turnover and balance sheet assets. (The exact proportion will be aggregated according to the percentage of voting rights or capital that is held.)
There are some notable exclusions here too, however. These include: universities, venture capital companies (VCs), and institutional investors among some other organisations.
Specified Investment Enterprises
Ignore the 25% threshold for partner enterprises if the investor is one of the following and the holding/voting rights is not more than 50%:
1. Public investment corporations, and venture capital companies
2. Individuals or groups of individuals with a regular venture capital investment activity who invest equity capital in unquoted businesses (‘business angels’), provided the total investment of those business angels in the same enterprise is less than €1.25 million
3. Universities or non-profit research centres
4. Institutional investors, including regional development funds
5. Autonomous local authorities with an annual budget of less than €10 million and fewer than 5,000 inhabitants
The term ‘linked’ also has an important definition for tax purposes: ‘linked’ enterprises are those which control your company, or that your company controls, or that are controlled by the same individual. And ‘control’ in this case is defined by meeting any of the criteria below:
- Owning more than 50% of the voting rights
- Having the power to change the majority of the senior management team
- Being able to exert a dominant influence over the company
In this case, the total headcount, turnover, and balance sheet assets data is aggregated before considering whether the SME thresholds have been met.
It is not just companies you need to consider for aggregation. Other enterprises, such as partnerships and trusts, must be included. An enterprise is defined as any entity engaged in an economic activity, irrespective of its legal form. This includes, in particular, self-employed persons and family businesses engaged in craft or other activities, and partnerships or associations regularly engaged in an economic activity. So the aggregation can include charities, individuals, universities and government bodies too.