The New Merged R&D Scheme Explained
The government has combined the old Research and Development Expenditure Credit (RDEC) and SME R&D Tax Relief schemes into the new ‘merged’ scheme – also known as the new RDEC scheme – with major implications for UK innovators.
This guide explains the key things you need to know about this new scheme, including how much you can claim, how to file for it, and what impact it will have on your business.
By Lewis Songaila, Head of R&D Tax Relief
Introduction to the merged scheme
The merged scheme RDEC, to use its official title, applies to accounting periods (APs) starting on or after 1 April 2024. Most companies that file for R&D Tax Relief will claim under this new regime.
The merged R&D expenditure credit is largely based on the old RDEC scheme, offering eligible businesses an above-the-line credit worth 15% to 16.2% of their qualifying expenditure. However, it also incorporates some features from SME R&D Tax Relief, such as the higher PAYE Cap, making it more generous than the original RDEC scheme.
That said, the most lucrative form of R&D Tax Relief remains enhanced R&D intensive support (ERIS), which offers up to 27% relief to unprofitable SMEs that are investing heavily in innovation.
If you’re struggling to come to terms with this new regime and want to make sure you’re interpreting its rules and regulations accurately, GrantTree’s R&D tax experts are here to help. Just get in touch, and we’ll get you up to speed.
Key features of the merged RDEC scheme
- Funding - The new scheme offers an above-the-line credit worth 20% of your qualifying expenditure. This is subject to corporation tax or notional tax if you’re unprofitable
- Timing - It affects accounting periods starting on or after 1 April 2024
- Overseas R&D - Like ERIS, the merged scheme does not provide relief on costs associated with overseas contractors and externally provided workers (EPWs). Though there are some exceptions
- Subsidised R&D - Unlike the old SME scheme, the merged scheme allows companies to claim relief on projects that have been subsidised. With grant funding, for example
- PAYE Cap - Loss-making companies are subject to the PAYE Cap, which limits the size of payable credit they will receive based on their PAYE and NIC liability
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How will the merged scheme impact my business?
How the merged scheme will affect you depends on your company’s size and financial position, and whether it performed R&D on behalf of another company. The explanations reference large companies and SMEs. You can find more on what these terms mean for the purposes of R&D Tax Relief here. Now, let’s explore.
The impact on large companies
Positivies
- You can now claim relief on costs for contracting work to other UK-registered businesses
- The scheme applies a notional tax rate of 19%, compared with 25% under the old RDEC scheme. This means loss-making companies will receive 8% more relief.
- The process of claiming under the merged scheme is the same as the old RDEC regime, so you won’t need to learn a brand-new process
Negatives
- In most cases, you will no longer be able to claim for overseas EPW costs anymore
The impact on SMEs (that are not unprofitable and R&D-intensive)
Positivies
- You can claim relief on subsidised R&D, including projects that are grant-funded
Negatives
- The merged scheme offers less relief than the old SME scheme unless you are breaking even
- If you have never claimed RDEC before, you will have to learn a brand-new claims process
- In most cases, you won’t be able to claim relief on overseas subcontractor and EPW costs
The impact on unprofitable, R&D-intensive SMEs
You will claim R&D Tax Relief via the enhanced R&D intensive support scheme instead of the new merged scheme.
You qualify as R&D-intensive if your company invested more than 40% of its total expenditure on eligible development costs. This falls to 30% for APs starting on or after 1 April 2024.
Subcontractors performing R&D for another UK company
If you’re performing R&D on behalf of another UK company, you are likely to be impacted by the new rules around subontracted R&D that take effect at the same time as the merged scheme.
Generally, the new rules allow the customer to claim relief rather than the contractor. This is providing that the customer intended or contemplated the need for R&D.
However, there are some circumstances where you, as the contractor, can claim relief. Specifically, if your customer is ineligible for R&D Tax Relief or if they did not consider the need for R&D.
How much funding can I claim through the merged scheme?
The new RDEC scheme offers a payable credit worth 20% of your qualifying expenditure. The credit is’ above-the-line’, meaning it’s subject to tax.
Profitable companies pay corporation tax on their credit – either the main rate (25%) or the small profits rate (19%). After tax, the credit is worth between 15p and 16.2p per £1 invested.
Unprofitable companies are subject to a notional tax of 19%, down from the 25% applied under the previous scheme. After the notional tax is applied, the credit is worth 16.2% of a company’s expenditure.
The notional tax makes sure that both profitable and unprofitable companies receive similar levels of funding.
Here’s how the relief available from the new RDEC scheme compares with the previous regimes and ERIS. All figures are post-tax.
| Costs incurred before 1 April '23 | Costs incurred after 1 April '23 but in APs starting before 1 April '24 | Costs incurred in APs starting from 1 April '24 | |
|---|---|---|---|
| Old RDEC | 10.5% | 15% - 16.2% | - |
| Merged Scheme | - | - | 15% - 16.2% |
| SME R&D Tax Relief | 18.6% - 33.35% | 8.6% - 21.5% | - |
| ERIS | - | 26.97% | 26.97% |
Why has the government created the merged scheme?
The government says it created the merged scheme to “simplify and improve” R&D Tax Relief.
In some ways, this change will make things simpler. Now, the majority businesses will only ever claim under one scheme. That means they only need to learn one set of rules and one claims process. However, some businesses will also need to know how to claim under the ERIS scheme, so this new configuration will not be simpler for everyone.
The government also highlighted the fact that structuring the relief as an above-the-line credit, like the previous RDEC scheme, makes it easier for company decision-makers to see the value of R&D. This makes the merged regime more effective at incentivising innovation.
In 2021, the government launched a review into whether R&D Tax Relief was cost-effective and fit for purpose. Following this review and a connected consultation, HMRC produced several suggestions for reforming the scheme, including merging the RDEC and SME R&D Tax Relief into a single regime.
Most of the reforms were accepted by the government, the merged scheme being one of the last to take effect. Its arrival signals the end of a period of major upheaval for R&D Tax Relief.
New rules on contracted out R&D
Coinciding with the arrival of the merged scheme, the government has introduced new rules around claiming R&D relief for costs associated with contracted development work. This change is designed to make it easier for customers and contractors to understand who can claim relief.
You can read our detailed blog on the new contractor rules here. As a quick summary:
- In most cases, the new rules place the right to claim relief with the customer
- The customer’s size no longer impacts their ability to claim relief on contractor costs
- However, there are some circumstances where the contractor can claim relief instead of the customer
- Namely, if the customer is ineligible for relief or if the arrangement between the customer and contractor does not satisfy the new definition of ‘contracted out’ R&D
In addition, costs overseas contractors and EPWs based overseas are no longer eligible for relief.
However, there is an exemption where you need to conduct your R&D in another country with certain geographical, environmental or social conditions, and it would be ‘wholly unreasonable’ for you to replicate them in the UK.
You can read more about the new restrictions on overseas subcontractors and EPWs here.
No restrictions on subsidised R&D
The government have also removed restrictions around claiming R&D Tax Relief on subsidised R&D.
Previously, companies had to claim relief on subsidised projects via the RDEC scheme, in line with the EU’s state aid rules. This meant SMEs were unable to claim under the more generous SME scheme, reducing their funding.
These restrictions have now been removed, meaning that the existence of a subsidy no longer affects which scheme companies must apply to.
This is especially good news for innovative SMEs. Profitable and non-R&D-intensive companies will receive more relief (up to 16.2% vs 10.5) on subsidised projects, while R&D-intensive loss-makers will be able to claim 27% relief under the ERIS scheme.
A more generous PAYE/NIC Cap
The government has incorporated the PAYE/NIC cap from SME R&D Tax Relief into the new merged scheme. The PAYE cap limits the amount of relief loss-making companies can receive based on the size of their PAYE and NIC liability.
The cap is three times your combined PAYE and NIC liability, plus £20,000. So, if your combined PAYE and NIC liability during your AP was £300,000, your cap would be £920,000.
This is much higher than the cap under the old RDEC scheme, which was just the same your combined PAYE and NIC ability.
Any relief you are due over your PAYE cap is carried forward to your next accounting period.
The PAYE cap also applies to the ERIS scheme. However, any relief over the cap is surrendered. It cannot be carried forward.
You can be exempt from the PAYE Cap if you satisfy two conditions:
The 7 steps to calculating your credit
You will receive your relief from the merged scheme as one or more of:
- A reduction in your corporation tax liability
- A cash credit
- An offset against future corporation tax liabilities
There are seven steps to working out what form your relief will take, which you need to perform as part of the submission process.
These basically are the same steps you would follow when claiming under the old RDEC scheme, but with a few important differences.
First off, HMRC will use your relief to settle (discharge) any outstanding corporation tax you owe for the accounting you’re claiming for. This will include the tax owed on your credit if your company is profitable.
Next, you need to deduct the notional tax.
The tax is applied to:
- The amount remaining from Step 1
- Minus the gross credit claimed for your accounting period less the notional tax rate
For profitable companies, the tax rate is 25%. For unprofitable companies, it’s 19%.
It sounds complicated, but it’s pretty simple unless you’re carrying a credit forward from a previous period.
Let’s look at a couple of examples.
Example 1
You’re a loss-making company with a claim of £100,00 for your accounting period, with no credit carried forward from previous years.
In that case, your notional tax calculation would look like this.
The amount carried forward from step 1: £100,000. You’re unprofitable, so there’s no corporation tax to discharge.
The gross credit minus the notional tax rate: £100,000 – 19% x £100,000 = £81,000.
The amount carried forward minus the gross credit less the notional tax rate = £19,000.
So, in this simple example, you would pay a notional tax of £19,000. This is the same as your credit minus the notional tax rate.
You can carry forward the notional tax to offset against future corporation tax.
Example 2
Now let’s say everything’s the same as example 1 but you’ve carried relief worth £60,000 from a previous year.
In that case, the amount carried on from step 1 would be £160,000. That’s your relief from your most recent accounting period plus the previous year.
Meanwhile, your gross credit would still be £81,000.
So, the difference between the two would be £79,000.
This is the amount of notional tax you would ‘pay’.
If you need help calculating your notional tax liability, GrantTree is happy to help. Just get in touch and we’ll guide you through the process so you’re not claiming more or less than you should be.
In step 3, if your company is unprofitable, you need to calculate and account for your PAYE Cap.
Any amount from step 2 over the PAYE Cap is carried forward, where you can claim it as a credit in your next accounting period.
You use the amount from Step 3 to settle any corporation tax you owe from other accounting periods.
Here, you can use the amount from Step 4 to pay corporation tax owed by other companies in your group.
Next, you use any funds remaining from Step 5 to settle any other money you owe to HMRC – PAYE, VAT, and so on.
Finally, you can claim any amount remaining from Step 6 as a payable credit.
That’s so long as:
- Your company is a going concern
- None of your previous claims are under enquiry
Claim with GrantTree. Access your full allowance while minimising your compliance risks
The government promised that the merged scheme would make claiming R&D Tax Relief simpler.
Whether it does this remains to be seen. But, at least in the short term, this major change is bound to make claiming riskier, more complicated, and more time-consuming.
If you want to save your company time and minimise your chances of an HMRC enquiry, GrantTree can help.
With 15 years’ experience preparing compliant claims and over £450 million successfully secured for our clients, our R&D Tax specialists are ideally positioned to help you navigate the latest legislation and secure your full allowance of funding.
To find out more about how GrantTree can help, just drop us a line.
FAQs
Eligibility for the new merged scheme hinges on four things:
- You need to be a going concern
- You need to be liable for corporation tax
- You need to have one or more projects that satisfy the government’s definition of qualifying R&D
- You need to have qualifying spend connected to those projects
The best way to find out if you’re eligible is to speak to one of GrantTree’s R&D Tax experts.
The merged scheme provides funding in the form of a payable expenditure credit.
The credit is classed as trading income and is subject to corporation tax.
It is recognised in a company’s pre-tax income.
You can only claim under the merged scheme for accounting periods starting on or after 1 April 2024.
So, if your financial year ends on 30 June, then you would claim for activity that occurred in the period from 1 July 2023 to 30 June 2024 under either the SME, ERIS or old RDEC schemes, depending on your eligibility.
Then, you would claim for work conducted in the period 1 July 2024 – 30 June 2025 under the merged scheme, assuming you’re eligible.
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