The R&D tax credit is a valuable tax-based incentive that’s designed to encourage investment in R&D by SMEs and larger companies alike. KPMG’s Ken Hardy explains what SMEs can do to get the most out of it and how it could be improved
R&D drives significant economic growth in the Irish economy, not only in the pharmaceutical, biotechnology and medical devices sectors, but also in ICT, heavy and light engineering, food, drink and other related areas. As a result, it’s critical for companies conducting R&D to be aware of the valuable R&D Tax Credits (RDTC) and claim what they are entitled, to support further growth and potential in their business.
The Irish RDTC plays a vital role in providing SMEs with additional funding for their R&D activities. It provides companies with up to 25% of their R&D expenditure as a tax credit or as cash (subject to certain conditions being met). This 25% credit is made available in addition to the 12.5% corporation tax which currently exists for all companies operating in Ireland. In essence, companies may be entitled to a net subsidy of 37.5% (ie 12.5% corporation tax deduction + 25% R&D tax credit).
‘Valley of death’
The process whereby an innovative idea is translated into a profitable endeavour is often a lengthy and challenging process. It requires a significant investment in personnel and infrastructure. In industries that are highly regulated, development of new products and systems can take even longer to achieve.
SMEs, in particular, are exposed to the dreaded ‘valley of death’ in the development cycle, a critical period where the probability of failure is highest and attracting funding is at its most critical and difficult to come by. RD&I grants can be leveraged from the IDA and Enterprise Ireland to support companies during this critical phase, as well as RDTC funding from the Revenue Commissioners.
Do SMEs claim their fair share of RDTCs?
We often find that SMEs are unaware they qualify for the RDTC, or if they are claiming, that they are not claiming their full entitlement. In 2019, the latest year for which statistics are available, the Irish Government supported businesses with €626 million in RDTC funding (cost to the Exchequer) and SMEs accounted for the significant majority of the claims made (89%), but only a fraction of the total RDTC funding provided (28%). It’s important to bear in mind that two thirds of claims made each year are for €100,000 or less (ie 1,080 claims out of 1,601 in 2019) and 80% of claims are for €200,000 or less (1,270 out of 1,601 claims in 2019). So, there are a large volume of relatively low value RDTC claims being made by SMEs each year. It’s also important to note that while the RDTC is a cost to our Exchequer, it is also a pull factor for companies considering coming to Ireland and for existing companies considering expanding their reach. Encouraging investment in R&D and the use of new technologies and innovations is also important for society as we grapple with challenges such as climate change, housing issues and greater demands on health services.
Why are SMEs not submitting more claims and larger claims?
We often find that SMEs believe that there is a significant staff burden and cost in claiming the RDTC and as result, are discouraged from claiming it. This does not necessarily need to be the case. If the appropriate systems are established at the outset of the R&D project, the information required to meet what the Revenue call the ‘Accounting Test’ and the ‘Science Test’ should fall out in a reasonably straightforward manner – it’s all about planning for the claim.
What can be done to make the RDTC more accessible to SMEs?
The Irish RDTC is competitive and compares well with similar reliefs in other jurisdictions. However, it could be improved and made more accessible to SMEs, with limited cost to the Exchequer. Modest improvements, as outlined below, would be impactful, and at a modest and controllable cost:
- Increasing the RDTC rate from 25% to 35%, for all qualifying R&D expenditure up to a threshold of say €500,000, with the existing 25% rate applying to all expenditure in excess of that
- Increasing the existing outsourcing restrictions from 15% of all qualifying R&D expenditure, or €100,000 whichever is the greater, to say 25% of all qualifying R&D expenditure up to a threshold of €300,000, whichever is the greater. This would particularly benefit smaller innovative businesses that would not have resources for substantial onsite R&D activities
- An acceptance that rent and other general overheads, which are a significant drain on cash for SMEs and which are a necessary cost for carrying out the R&D work, be treated as qualifying R&D expenditure, subject to a capped amount
- A new provision should be introduced to allow SMEs claim the credit before trading begins, allowing more SMEs to see an earlier return on R&D investments.
The Finance Act 2019 proposed a regime for small and micro companies, however it ran into a number of challenges from the European Commission and did not proceed. The suggestions we are making above should however be acceptable, as the measures would be available to all eligible taxpayers.
What should SMEs do before claiming RDTCs?
Get informed. The RDTC is a valuable source of funding and just like many other areas of business, appropriate time and effort will need to be invested in making a claim. Taking advice at the right time can however make your time investment more efficient and targeted to maintaining the right types of records and evidence from the get-go. Also, it is a tax relief, and SMEs should expect that the Revenue Commissioners may want to understand the details of their claims. It’s a good idea to factor this into your claim preparation process, so that you are ready to share the relevant details when needed.
This is a specialist area and SMEs should ensure that they and their advisors fully understand and document thoroughly the Accounting Test and Science Test mentioned earlier. This can be a complex area and professional judgement and experience are often necessary.
KPMG recognised the importance of this specialism in 2004 when we established our dedicated R&D Tax Credit practice – a multidisciplinary practice comprising of finance, tax professionals, scientists and engineers who exclusively work on RDTC claims. Our SME team have filed RDTC for companies of every size and scale and in all industry sectors.
Find out more at kpmg.ie
Ken Hardy is a Tax Partner and R&D Incentives Practice Leader, KPMG in Ireland