Securing outside investment can be a major turning point for your company. But it could also have a significant impact on your R&D Tax Credits claim. Here’s what you need to know.
Securing outside investment – whether from a VC, Angel or Private Equity firm – can be a real game-changer for your business.
But after you celebrate successfully closing your funding round, there’s something you should bear in mind about your newly-stocked financial war chest: it could impact your R&D Tax Credits claim.
The good news is that acquiring fresh funding won’t stop you from claiming R&D Tax Credits altogether. But it may cost a large percentage – as much as 44%, in fact – of your windfall.
It all depends on how HMRC classifies your relationship with your investors.
A question of autonomy
If your company receives equity investment, HMRC will classify you and your investors as either:
If you’re still classified as an autonomous enterprise after you’ve raised money, your R&D Tax Credits claim won’t be affected.
On the other hand, if you and your investors are classed as linked or partner enterprises, your company may lose SME status.
This could mean that you have to claim R&D Tax Credits through the Research and Development expenditure credit (RDEC) scheme, which offers less funding than its sibling initiative, SME R&D Tax Relief.
Let’s explore each of these classifications in more detail, and how they might affect your claim.
Autonomous enterprises
A business is autonomous when no external corporate entity owns 25% or more of its shares. If none of your investors hold 25% or more of your company’s voting rights, you should be classified as autonomous.
However, things are more complicated if your investors are ‘linked’.
Investors are linked if they share a family connection or are required to vote in concert.
Confusingly, linked enterprises, which we’ll come onto in a moment, are something completely different.
If two or more of your investors are linked, and jointly own 50% or more of your company, and 50% or more of another company in the same or a related industry, then you might not be an autonomous enterprise.
Linked investors can be difficult to spot. And it can be hard to know how to treat them when claiming tax credits.
If you have external investors that are in some way connected, it’s a good idea to seek specialist advice from an R&D Tax Credits consultancy GrantTree.
But returning to autonomy: If your company isn’t autonomous, the question becomes whether you and your investors are linked enterprises or partner enterprises.
These will determine whether you are still considered an SME for R&D Tax Credit purposes
Linked enterprises
HMRC will treat your company as a linked enterprise if your investor:
- Owns more than 50% of your company’s shares
- Can appoint or remove a majority of your management team
- Can exert a “dominant influence” over your company
To put it another way, if one of your investors controls your company, you are ‘linked’.
It is possible to be linked to an individual investor. Provided you are both in the same industry.
An example of this would be an SME airline that is 51% owned by Richard Branson. Here, the SME airline would also be linked to any other companies he owns 50% or more of.
So, what happens if you and your investor are linked enterprises?
Well, you will need to include your investor’s employee headcount, revenue, and balance sheet – plus those of any other firms that the business is linked to – when you take the company size test.
The company size test is the calculation that determines whether your business is an SME or a large company for R&D Tax Credits purposes.
By and large, SMEs should apply for the SME scheme, which allows them to reclaim up to 27% of their development expenses.
Large companies must apply for the Research and Development Expenditure Credit – or RDEC – which only lets them reclaim up to 16.2% of their costs.
Depending on your investors’ workforce and finances, it’s perfectly possible that being linked could push your business into the large company bracket.
If you’re still classed as an SME, then you should be able to claim SME R&D Tax Relief. Assuming you’re not disqualified for other reasons.
Partner enterprises
If you and your investors are neither autonomous nor linked enterprises, the last option to consider is whether you are partner enterprises.
You are a partner enterprise if one or more of your investors owns between 25% and 50% of your company’s voting rights.
A significant share in other words, but not a controlling stake.
If you and your investors are partner enterprises, you have a much better chance of being eligible for SME R&D Tax Relief.
For a start, you only have to add a portion of your investors’ staff, revenue and balance sheet to your own when taking the size test.
How much you add depends how large a share your partner owns of your business.
If your partner owns 25% of your company’s shares, you’ll add a quarter of its staff and finances. If it owns 50% of your company’s shares, you’ll add half.
As an example, let’s say Company A and Investors Ltd are partner enterprises. Investors Ltd owns 30% of Company A and has a balance sheet worth €100 million. In that case, Company A would only need to add €30m to their finances when taking the company size test.
For comparison, let’s say Company A and Investors Ltd are linked enterprises. In that case, Company A would have to add all €100 million of Investor Ltd’s balance sheet to their own. This would take them above one of the thresholds in the size test.
This is why being a partner enterprise is much less likely to take you into large company territory.
Even better, under HMRC rules, there are several types of organisations that can own between 25% and 50% of your business without being considered a partner.
These include VCs, institutional investors, and certain local authorities.
Here is the complete list:
- Public investment corporations and VCs
- Individuals or groups of individuals with a regular venture capital investment activity that 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
- Universities or non-profit research centres
- Institutional investors, including regional development funds
- Autonomous local authorities with an annual budget of less than €10 million and fewer than 5,000 inhabitants
Maximise your R&D Tax Credits claim
We hope that gives you a better idea of how equity investment could impact your R&D Tax Credits windfall.
Even with this guidance, we know that the rules around claiming tax credits after raising money can be confusing. And that this can make it extremely difficult and stressful to prepare a complaint, fully-maximised filing.
If you want expert help filing for R&D Tax Credits after closing a funding round or have any questions about the scheme, our tax and technical specialists are here to help.
Just drop us a line, and one of our people will be right with you.
