PAYE and NIC cap under the merged scheme and ERIS

What is the PAYE/NIC cap?

The PAYE and NIC cap is a rule that links the amount of payable R&D tax credit you can receive to how much PAYE and Class 1 NIC your business is actually paying through payroll.

HMRC’s rule for both the merged R&D relief scheme and ERIS is:

Cap = £20,000 + 300% of your relevant PAYE and NIC liabilities, calculated by reference to “payment periods” within the accounting period. If your accounting period is under 12 months, the £20,000 is reduced proportionately.  

This is not a cap on the size of your R&D claim. It is a cap on the payable element that can be paid out (or treated as payable) when the mechanism reaches the cap step.

When does the cap come in?

Most profitable companies never notice the cap because their R&D credit is absorbed by Corporation Tax first. The cap mainly shows up when:

• You are loss making, or your Corporation Tax liability is small
• You expect some of the credit to turn into a payable amount

HMRC applies the cap in the R&D payment mechanism. For the merged scheme, it is applied at Step 3 in the CT600L ordering steps which is the PAYE/NIC cap check. At this point HMRC compares the remaining credit against the cap amount and limits how much can move forward towards becoming payable.

The key difference: merged scheme vs ERIS

Merged scheme

Under the merged scheme, the cap limits the payable credit you can receive for that accounting period. Any amount above the cap is carried forward and treated as R&D expenditure credit you can use in the next accounting period.  

ERIS

Under ERIS, HMRC’s guidance is much stricter: if you claim ERIS tax credit in excess of the cap (where the cap applies), that excess is invalid.

This is why ERIS modelling needs a cap check not just an intensity check.

What counts as “relevant PAYE and NIC liabilities”?

This is where a lot of confusion starts, especially in groups or where connected parties are involved.

Payment periods

HMRC measures the PAYE/NIC liabilities by “payment periods”, which are defined as periods that end on the 5th day of a month and for which the company must account for PAYE and NIC to HMRC.  

So, it is not based on your financial month end. It follows the PAYE month structure.

The three-step idea behind “relevant PAYE/NIC”

HMRC’s manual sets out a practical approach:

1. Start with your company’s own PAYE and NIC liabilities
2. Add certain PAYE/NIC liabilities of connected companies where they supply EPWs to you or perform subcontracted R&D for you, to the extent those liabilities relate to the R&D you are claiming
3. Remove any part of your own PAYE/NIC that relates to you acting as the supplier of EPWs or subcontracted R&D to a connected company

This prevents a group from inflating the cap in more than one place for the same underlying payroll.

The exemption that can switch the cap off

HMRC provides an exemption where a company is actively creating or managing relevant IP and it is not heavily reliant on connected party EPWs or subcontractors.

The PAYE cap does not apply in an accounting period where both conditions are met:

• Condition A: you are creating or preparing to create relevant IP, or performing significant management activities in relation to relevant IP you own, and these activities are undertaken wholly or mainly by employees (not directors unless they are employees)
• Condition B: spend on connected party subcontractors and connected party EPWs does not exceed 15% of your qualifying R&D expenditure for the period

If you qualify for the exemption, the cap step is effectively removed for that period. In CT600L terms, HMRC instructs that where the exemption applies, the cap box should equal the amount carried into the step.  

How the cap appears on CT600L

CT600L is where the mechanism is calculated. For accounting periods starting on or after 1 April 2024, the guidance confirms:

• If you are claiming RDEC only, the Step 3 cap input is £20,000 + 300% of relevant PAYE/NIC liabilities, unless the exemption applies
• If you are claiming both RDEC and ERIS, that Step 3 cap amount is reduced by the ERIS payable credit figure entered elsewhere on CT600L.

This is easy to miss and it matters because it can reduce the merged scheme payable headroom when ERIS is also in play.

Worked examples

These examples are simplified to show the cap logic. In real claims, the payment steps and notional tax restrictions also affect what reaches the cap.

Example 1: Loss making company with a small payroll

• Relevant PAYE + Class 1 NIC liabilities: £10,000
• Cap: £20,000 + (3 × £10,000) = £50,000  

If the payable amount calculated under the mechanism is £80,000, the cap restricts payment to £50,000.

• Under the merged scheme, the extra £30,000 is carried forward  
• Under ERIS, claiming above the cap risks the excess being invalid

Example 2: Accounting period shorter than 12 months

If your accounting period is 9 months, HMRC says the £20,000 element is reduced proportionately.  

So the fixed element becomes £15,000 (9/12 × £20,000), then you add 300% of relevant PAYE/NIC for the payment periods in that accounting period.

Example 3: Exemption applies

If you meet the IP condition and your connected EPW and subcontractor spend is under the 15% threshold, the PAYE cap does not apply for that period.  

In practice, that means the payable mechanism is not restricted by the cap step, which can materially change cash outcomes for genuine IP-building businesses.

Common mistakes

A few patterns come up repeatedly:

• Using the wrong PAYE reference period, or using accounting months instead of payment periods ending on the 5th.
• Forgetting connected party adjustments where a connected company supplies EPWs or performs subcontracted R&D
• Assuming “we have lots of subcontractor spend” increases the cap. It does not, unless it feeds into relevant PAYE/NIC in the specific connected party ways HMRC sets out
• Claiming ERIS above the cap without checking the exemption position first

If you are expecting a cash outcome, run the PAYE/NIC cap check early and keep the supporting PAYE and NIC workings alongside your claim file. It is one of the quickest ways to avoid surprises and keep your submission straightforward for HMRC to review.