R&D credits under the microscope

The Treasury’s consultation into research and development tax credits comes
to an end next week.

Consultations launched by HM Revenue & Customs or by the Treasury can
pass often without note. This one, however, has some meaty issues attached. The
research and development tax credit, introduced by Gordon Brown, is under

Problems with the credits began to surface earlier this year. Reports
suggested that the administering of the R&D credit was a shambles, with HMRC
inspectors handing out money without knowing whether applicants were eligible or
not. Its defense was that HMRC’s inspectors were not trained in assessing the
origin of a scientific advance, and their lack of expertise was proving to be a

Then, in July, a civil case at the High Court blew open the whole process.

BE Studios, a small software manufacturer, sued its former advisers, Smith
& Williamson, for not advising that it could have claimed the credit.

It had subsequently done so under different advisers, but only after the
company had been ‘mothballed’. It argued that, if S&W had given it better
advice, it could have continued trading.

The judge’s verdict on BE’s claim was damning: the company would not have
been able to survive either way, and it did not deserve R&D tax credits in
the first place. BE had claimed £150,000 in R&D tax credits for work that
did not qualify, which had been overlooked by a seemingly unsuspecting Revenue.

BE’s claims had even included the somewhat ridiculous suggestions that it was
eligible because it had researched period costumes for a television documentary.

Why didn’t the Revenue query the claims more closely, advisers asked? Was
this evidence that inspectors were ill-qualified to understand these claims?

The BE’s case provoked a good deal of debate about the credits, not least
because it subsequently emerged that BE’s advisers, a firm of chartered accou
ntants, had also been claiming them. HMRC has since issued guidance notes to
companies, signaling a crackdown on the problems like those encountered with BE.

But the Treasury is now at a crossroads over the reliefs, and it is grappling
with whether it should introduce a system of scientifically trained advisers to
assess the credits. After all, some of the tax advisers preparing the claims are
science specialists. Surely those assessing them should be similarly trained?

Despite the publicity over the BE claim, it was rare. And business groups are
more concerned about cases where companies are eligible, but the claims are
being scrutinised and audited to death.

Anecdotal stories about small businesses hounded by HMRC are widespread. Some
businesspeople claim they have been made miserable by dismissive tax inspectors,
who pour scorn on their work as being scientifically irrelevant.

Simon Sweetman of the Federation of Small Businesses complained in
Accountancy Age recently that the crackdown was unnecessary: ‘[HMRC] can’t ask
more questions,’ Sweetman says. ‘The situation had become so bad that for claims
worth £10,000, small companies might have to pay £5,000 in professional fees to
get them. It isn’t worth the effort.’

The CBI has also criticised the credits, with deputy director general John
Cridland saying in July that companies were ‘experiencing too much uncertainty
and inconsistency’.

It is small businesses, and small software businesses, that appear worst
affected. Businesses involved in research and development obviously welcome
credits to assist their work, and the programme fits neatly into the
chancellor’s rhetoric on the high-tech skills economy.

But if the Treasury wants to avoid more headlines about money being wasted,
or small businessmen being hounded, it may have to act on its consultation and
reform the scheme – sooner rather than later.

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