R&D Tax Credits Under HMRC's Reformed Regime: Maximising Claims Correctly

The Merged Scheme: What Changed from April 2024

For accounting periods beginning on or after 1 April 2024, the previous dual regime, where SMEs claimed under a separate scheme and large companies claimed under the R&D Expenditure Credit (RDEC), has been replaced by a single merged scheme. The headline changes for most companies are:

• Standard credit rate of 20 per cent applies to qualifying R&D expenditure for most companies. This credit is taxable: the net benefit after corporation tax (at 25 per cent for most companies above the small profits rate) is 15 per cent of qualifying expenditure.
• Enhanced credit rate of 27 per cent applies to R&D-intensive SMEs. These are companies where qualifying R&D expenditure exceeds 30 per cent of total expenditure in the period. The net benefit for an R&D-intensive SME is approximately 20.25 per cent of qualifying expenditure after tax.
• The previous SME scheme additional deduction (which could deliver a benefit of up to 33.35 per cent of qualifying expenditure for loss-making SMEs) no longer exists. Companies that were previously on the SME scheme have seen a material reduction in the cash value of their claims.
• The loss-making company credit (previously the SME payable credit) is replaced by the ability for R&D-intensive SMEs to surrender the enhanced credit for cash at a rate tied to the enhanced percentage.

Qualifying for the 27% Enhanced Rate: The R&D Intensity Test

The 27 per cent enhanced rate is the most valuable outcome available under the merged scheme. Qualifying requires the company to be both an SME (fewer than 500 employees and either annual turnover not exceeding €100m or a balance sheet total not exceeding €86m) and R&D-intensive (qualifying R&D expenditure of 30 per cent or more of total expenditure).

The intensity test calculation is as follows: qualifying R&D expenditure as a proportion of total expenditure for the accounting period. Total expenditure is not the same as total costs: it is the total operating expenditure of the business, calculated on a cash basis (payments made in the period). The test excludes capital expenditure and dividends paid.

For a typical fintech or deep tech company at Series A or B, the 30 per cent threshold is more achievable than it might initially appear. A company with 20 engineers spending 80 per cent of their time on qualifying R&D, a total headcount of 30, and all other costs at approximately the same per-head rate would have qualifying R&D expenditure of approximately 50 per cent of total expenditure. The intensity test would be met comfortably.

The intensity test creates a cliff edge: companies that are at or near the 30 per cent threshold should model their qualifying expenditure carefully before filing, because the difference between a 29.9 per cent and 30.1 per cent intensity ratio is the difference between a 20 per cent and 27 per cent credit rate on the entire qualifying expenditure base. For a company with £1m of qualifying R&D expenditure, that difference is £70,000 in credit value.

What Expenditure Qualifies Under the Merged Scheme

The categories of qualifying expenditure under the merged scheme are broadly similar to the previous regimes, with the important addition of cloud computing and data costs that became eligible from 1 April 2023.

The qualifying expenditure categories are:

• Staff costs: Gross salary, employer NIC, and employer pension contributions for employees directly and actively engaged in qualifying R&D. For employees who spend only part of their time on R&D, the qualifying proportion must be calculated and documented. The documentation requirement is strict: HMRC expects project-level time allocation data, not a rough percentage applied to the whole team.
• Externally provided workers (EPW): Costs of contractors or agency workers provided through an intermediary and directly and actively engaged in qualifying R&D. Under the merged scheme, EPW costs qualify at 65 per cent of the relevant payment (down from 65 per cent under the SME scheme, consistent with RDEC). Only the 65 per cent qualifying element is included in the claim.
• Subcontractor costs: For the merged scheme, subcontractor costs qualify at 65 per cent of relevant payments, but only where the subcontractor is an unconnected party and the work is qualifying R&D. Costs paid to connected parties do not qualify.
• Software costs: Software directly used in the qualifying R&D activity. Cloud computing costs (including IaaS and SaaS costs where the software is directly used in the R&D process) qualify from 1 April 2023. This is an important change that is frequently underutilised in claims.
• Consumables: Materials, utilities, and other consumable items used directly in the R&D process. For a software company, consumable costs are typically minimal; for a deep tech hardware or biotech company, they can be substantial.

What Does Not Qualify

Understanding what does not qualify is as important as understanding what does. HMRC enquiries are frequently triggered by the inclusion of non-qualifying costs in a claim. The most commonly over-claimed cost categories are:

• Commercial production costs: Once a product or process has been developed and is being used commercially, the costs of maintaining, operating, or improving that product are generally not qualifying R&D. The boundary between ongoing development and commercial production is one of the most contentious areas in HMRC R&D enquiries.
• Sales, marketing, and business development: These costs never qualify, even where the product being sold is itself the result of R&D. The activity must be scientific or technological, not commercial.
• Routine testing and quality control: Testing that is carried out as part of the production process rather than to resolve scientific or technological uncertainty does not qualify. Routine software testing (regression testing, user acceptance testing) does not qualify. Testing to validate a novel approach or resolve a technical uncertainty may qualify.
• Social sciences, arts, humanities, and economics: R&D relief applies only to advances in science and technology. Data analytics that delivers business insights is not qualifying R&D unless it involves an advance in the underlying technology or methodology that is not commercially available.
• Land costs and capital expenditure on assets with a useful life beyond the period: Capital expenditure generally does not qualify for R&D relief, with the exception of software and specific consumable items.

The Advance Authorisation Requirement

From August 2023, companies claiming R&D relief for subcontractor costs or externally provided worker costs for the first time must notify HMRC in advance using the R&D claim notification service. This requirement applies to first-time claimants and also to companies that have not claimed in the previous 3 accounting periods.

The notification must be submitted within 6 months of the end of the accounting period to which the claim relates. Failure to notify within this window means the company cannot claim R&D relief for subcontractor and EPW costs in that period, regardless of whether those costs would otherwise qualify. This is a hard deadline with no discretion for late filing.

The practical implication is that any company not currently in the R&D regime, or that has not claimed recently, should check its notification status before the 6-month window closes after each accounting period end.

Structuring a Compliant Claim

A compliant R&D claim under the merged scheme must include three elements that must withstand HMRC scrutiny: the technical narrative, the cost breakdown, and the project descriptions. All three must be consistent with each other and with the accounting records.

The technical narrative should describe, at a project level, the scientific or technological advance being sought, the baseline of knowledge at the start of the project, the specific uncertainties that had to be resolved (which a competent professional in the field could not have resolved by reference to existing knowledge), and how the company sought to resolve those uncertainties. This is not the same as describing what you built: it is describing why building it was uncertain and why the uncertainty was scientific or technological rather than commercial.

The cost breakdown must show, for each cost category, the specific costs claimed, the methodology used to calculate the qualifying proportion (particularly for staff time apportionment), and the link to the qualifying projects described in the technical narrative. Each line in the cost schedule must be traceable to a specific project or set of projects.

Worked Calculation: A Fintech at Two R&D Intensity Levels

Consider a UK fintech company with the following cost structure in its accounting year ending 31 March 2025:

HMRC Enquiry Risk and the Claim Notification

HMRC's R&D compliance activity has increased substantially since 2023. HMRC statistics show that the number of compliance checks opened against R&D claims increased by approximately 40 per cent between 2022/23 and 2024/25, with particular focus on software companies, fintech, and technology consultancies. The compliance checks most frequently identify three issues: overclaiming of staff time to qualifying projects, inclusion of routine or commercial development costs as qualifying R&D, and inadequate documentation of the technological advance and uncertainty.

The consequences of a successful HMRC enquiry are: repayment of the overclaimed credit, interest on the overclaimed amount (currently calculated at the HMRC interest rate, which was approximately 7.75 per cent in late 2025), and potentially a penalty if the overclaim is found to be careless or deliberate. In the most serious cases, companies are referred to the R&D Compliance team for a full review of all open periods.

The claim notification requirement introduced in August 2023 also applies: first-time claimants must notify within 6 months of the period end. Missing this window means subcontractor and EPW costs cannot be included, which for a company that relies heavily on contractors can substantially reduce the available claim.

Key Takeaways

• The merged R&D scheme from April 2024 replaces both the SME scheme and RDEC. The standard credit rate is 20 per cent; the enhanced rate for R&D-intensive SMEs is 27 per cent.
• The R&D intensity test requires qualifying R&D expenditure to exceed 30 per cent of total expenditure. This threshold should be modelled carefully: the financial difference between 29 and 31 per cent intensity can be substantial.
• Qualifying expenditure includes staff costs, EPW costs at 65 per cent, subcontractor costs at 65 per cent (unconnected parties only), software, cloud computing, and consumables. Cloud computing costs have been qualifying since 1 April 2023.
• Non-qualifying costs include commercial production, sales and marketing, routine testing, and social sciences. These are the most common sources of over-claimed expenditure.
• The claim notification requirement (within 6 months of period end) applies to first-time claimants and companies that have not claimed in the previous 3 years. Missing this window disqualifies subcontractor and EPW costs.
• The technical narrative is not a compliance formality. It is the primary defence in an HMRC enquiry. It must describe the scientific or technological advance, the uncertainty, and how the uncertainty was resolved, at a project level with consistency to the cost schedule.
• HMRC enquiry activity has increased substantially. Claims prepared without adequate documentation, time-recording evidence, and a credible technical narrative are significantly more likely to receive a compliance check than in previous years.