The UK’s Research and Development (R&D) tax credit scheme is designed to incentivize innovation by allowing companies to claim tax relief on qualifying R&D expenditures. However, the interpretation of what constitutes eligible R&D activities has been a point of contention between advisors and HM Revenue & Customs (HMRC). A recent First-tier Tribunal (FTT) decision in the case of Stage One Creative Services Ltd v HMRC has provided significant clarity on this matter, particularly concerning the definitions of ‘subcontracted’ and ‘subsidised’ R&D activities.
This case follows the recent the Collins Construction Ltd v HMRC FTT, which also ruled in favour of the taxpayer on similar grounds, overturning HMRC’s rejection. See our blog on this case.
Stage One Creative Services Ltd (SOCS) specializes in engineering, construction, and automation solutions for live events and installations. The company claimed R&D tax relief under the Small and Medium-sized Enterprise (SME) scheme for certain projects. HMRC denied these claims on two primary grounds:
- Subsidised Expenditure: HMRC contended that the R&D expenditures were ‘subsidised’ because they were met directly or indirectly by another party, namely SOCS’s clients.
- Subcontracted R&D: HMRC argued that the R&D activities were ‘contracted out’ to SOCS by their clients, rendering the expenditures ineligible under the SME scheme.
SOCS appealed HMRC’s decision, leading to the FTT hearing.
Tribunal Findings
The FTT ruled in Favor of SOCS on both counts:
- Subsidised Expenditure: The tribunal determined that for expenditure to be considered subsidised, there must be a clear and direct link between the payment received from a third party and the specific R&D expenditure. In SOCS’s case, the contracts with clients were for delivering end products, not for conducting specific R&D activities. Therefore, the expenditures were not deemed subsidised.
- Subcontracted R&D: The tribunal found that SOCS had autonomy over how it fulfilled its contractual obligations and that the contracts did not specifically require R&D activities. As such, the R&D was not ‘contracted out’ by the clients to SOCS.
Implications for Claimants
This decision has several important implications for companies claiming R&D tax credits:
- Clarification of Definitions: The ruling provides clearer definitions of ‘subsidised’ and ‘subcontracted’ R&D activities, which can help companies better assess the eligibility of their R&D expenditures.
- Contractual Arrangements: Businesses should review their contracts to ensure that R&D activities are not explicitly required by clients, as this could impact eligibility under the SME scheme.
- Autonomy in R&D: Maintaining autonomy over R&D activities and bearing the associated financial risks are factors that can support claims for R&D tax relief.
Challenges Ahead
Despite the favourable outcome, pursuing such claims through tribunals can be resource-intensive and inaccessible for many SMEs. Businesses should document R&D projects and seek expert advice to pre-empt disputes.
Conclusion
The Stage One Creative Services Ltd case marks a significant development in the interpretation of R&D tax credit eligibility, offering valuable insights for businesses engaged in innovative activities. By understanding and applying these clarifications, companies can better position themselves to benefit from the incentives designed to foster research and development in the UK.
Kapitalise helps your business navigate the process from start to finish. We represent your business with HMRC even after you receive your tax relief. To find out how we can help you, please contact us.