1. PricewaterhouseCoopers LLP Research & Development Tax Reliefs Tracey Bentham & Denise Roberts 8 July 2003

2. PricewaterhouseCoopers LLP R&D Tax Reliefs Introduction Reliefs available Small company relief rules Qualifying R&D Qualifying expenditure Sub-contract R&D Claims and documentation Action Points

3. PricewaterhouseCoopers LLP R&D Tax Reliefs R&D Allowances R&D Relief for qualifying expenditure incurred by small companies (SMEs) after 1 April 2000 R&D Relief for qualifying expenditure incurred by large companies after 1 April 2002 Vaccines Research Relief (VRR) for costs of research into drugs and medicines for “killer diseases” (TB, Malaria & Aids) expenditure after 22 April 2003. Reliefs available

4. PricewaterhouseCoopers LLP R&D Tax Reliefs 100 % tax depreciation on capital expenditure on research assets This has been in place for a number of years previously called Scientific Research Allowances Is available to all companies R&D allowances

5. PricewaterhouseCoopers LLP R&D Tax Reliefs SME relief was the first new incentive introduced and has driven the large companies relief. An SME is a company that has: –less than 250 employees –Not have 25% or more of its share capital or voting rights owned by non SME’s unless they are VC’s or equivalent. Small & Medium sized Enterprises (SMEs) And either turnover  €40 million (c £25 million), or balance sheet total  €27 million (c £17 million) This is the European Commission definition

6. PricewaterhouseCoopers LLP R&D Tax Reliefs For qualifying expenditure incurred after 1 April 2000 If the SME is loss making can either surrender the loss and claim a refund equivalent to 24% of R&D expenditure from the Inland Revenue (refund limited to PAYE/NIC paid in the period)e.g. Spend £100,000, refund received £24,000 or carry the loss forward to utilise against future profits If in profit inflate qualifying R&D expenditure by 50% to obtain a taxation ‘super deduction’ SME’s – what can you claim?

7. PricewaterhouseCoopers LLP R&D Tax Reliefs Profit maker£’000 PBT100 Dep’n20 CA’s(30) 90 R&D (50@50%)(25) Taxable profit65 SME’s – examples Loss maker£’000 LBT(100) Dep’n20 CA’s(30) (110) R&D (50@50%)(25) (135) Surrender losses (for tax credit) 75 Loss c/f(60) Tax saved: £25k@20%

8. PricewaterhouseCoopers LLP R&D Tax Reliefs SME’s – examples Loss maker£’000 PBT100 Dep’n20 CA’s(150) (30) R&D (100@50%)(50) (80) Surrender80 Tax credit £80@16%

9. PricewaterhouseCoopers LLP R&D Tax Reliefs Gain - a 125% deduction for qualifying expenditure Main differences –No cash back available –65% rate for subcontract costs do not apply –No requirement to retain rights to IP –Grant income is ignored Large Company’s Relief

10. PricewaterhouseCoopers LLP R&D Tax Reliefs A new definition was introduced by FA 2000 and had effect from 1 April 2000 Basically qualifying R&D is:- –That which is treated as R&D under normal accounting practice (SSAP 13) and –Is qualified by the DTI guidelines on the meaning of R&D for tax purposes the Inland Revenue have recently issued their commentary on the DTI Guidelines which will In addition to the Tax Bulletin issued in December the Inland Revenue have recently issued commentary on the guidelines which will form part of a new Corporate Intangibles and R&D (CIRD) Manual for internal use by Inspectors What is qualifying R&D?

11. PricewaterhouseCoopers LLP R&D Tax Reliefs SSAP 13 covers the following –Pure or basic research –Applied research –Development Based on the Frascati definition –“creative work undertaken on a systematic basis in order to increase the stock of knowledge …..and the use of this stock of knowledge to devise new applications” Must be an appreciable element of innovation What is qualifying R&D?

12. PricewaterhouseCoopers LLP Tax Bulletin Must seek to achieve scientific or technological advancement –Generates information that advances understanding of scientific disciplines To resolve technological uncertainty –Seeks to expand knowledge base –Incorporates capability not previously available in standard practice –Uncertainty rather than economic or financial risk is the important characteristic –Involves removing technological uncertainty through systematic investigation –Improvement ineligible if the outcome is predictable Systematic investigation –Objectives clearly stated at an early stage –Method set out –Results identified R&D Tax Reliefs What is qualifying R&D?

13. PricewaterhouseCoopers LLP R&D Tax Reliefs Key messages in the DTI guidelines: Creative work undertaken on systematic basis to increase the stock of knowledge; or Use of the stock of knowledge to devise new applications Pure or applied research AND development (only experimental development and not commercial) Appreciable innovation Resolving technological uncertainty R&D versus product development What is qualifying R&D?

14. PricewaterhouseCoopers LLP £25,000 (£10k from 9 April 2003) qualifying expenditure de minimis in a 12 month period. Must be revenue cost. Attributable to qualifying R and D activity of the company. Staff costs, consumable stores and certain sub-contracted R and D. Intellectual property must vest at least in part in the company that carries out the R&D (only for SME relief). Expenditure is not subsidised ie state aid, grant, subsidy. (only for SME relief) Qualifying Expenditure R&D Tax Reliefs

15. PricewaterhouseCoopers LLP Include salary, pension contributions, employers NIC, costs of agency staff Redundancy costs and BIK not eligible. Only costs of staff directly involved in R&D activity are eligible e.g. engineers. Computer programmers, data input staff, director of research (not secretarial or administrative staff) If staff only spend part of their time on R&D their costs are apportioned –Less than 20% – none qualifies. –More than 80% – all qualifies –Between 80% and 20% – apportioned. Full appointment basis included at FB 2003 – awaiting Royal Assent. Eligible staff costs R&D Tax Reliefs

16. PricewaterhouseCoopers LLP Consumable stores are items which would be included within stock under normal accountancy principles. There is no accounting definition for consumable stores but the principle is that it is stores which are used up in the R&D activity and which by their nature have a comparatively short life Expenditure on heat, light, power and lease payments are not consumable stores Software licensing costs and the definition of consumables for these purposes are subject to further consultation. Consumables R&D Tax Reliefs

17. PricewaterhouseCoopers LLP R&D Tax Reliefs Pre Trading Expenditure Generally expenditure prior to the commencement of trade is recognised for tax purposes on the day trade commences. Under R&D relief qualifying costs may be recognised in the accounting period in which they were incurred Resulting loss may be used as follows; –Surrendered for a cash repayment –Set against other income of the same period –Surrendered as group relief or carried forward An election must be made in writing to the Inland Revenue Have 2 years to make the election

18. PricewaterhouseCoopers LLP SSAP 13 allows development R&D costs to be deferred and treated as intangible assets. Qualifying R&D costs which are deferred will only be eligible for relief when they are expensed in the profit & loss account. Capitalised costs R&D Tax Reliefs

19. PricewaterhouseCoopers LLP The essential difference between the SME and large relief is:- This is highlighted in the situation where the R&D activity is either sub- contracted out of the company or sub-contracted to it Subcontracted R&D R&D Tax Reliefs Company that commissions work & takes risks SME reliefLarge relief Company that Undertakes the R&D

20. PricewaterhouseCoopers LLP Activity subcontracted out of company R&D Tax Reliefs R&D on the company’s own projects Large Relief only if makes payments to an individual, partnership or qualifying body eg University SME65% of costs eligible for relief

21. PricewaterhouseCoopers LLP Activity subcontracted to the company R&D Tax Reliefs R&D contracted to the company Directly undertakes R&DContracts out R&D Large Relief available if contracted out by a large company, charity, government agency or overseas resident company Relief if contracted out from a large company and to a qualifying body, individual or partnership SME Relief under large company scheme if contracted out by a large company (i.e. 125%). No relief if contracted out by SME Relief under large company scheme if contracted out from a large company and to a qualifying body, individual or partnership. No SME relief.

22. PricewaterhouseCoopers LLP R&D Tax Reliefs The claim must be made in the tax return The claim should be documented,although under CTSA no requirement to submit documentation Inland Revenue expect records to be reasonable in the context of the size of the claim and business to which it relates They are encouraging companies to meet with their inspectors in advance of making a claim. It should be noted however that this is not an advance clearance mechanism. Claims & Documentation

23. PricewaterhouseCoopers LLP R&D Tax Reliefs Assess what will qualify Examine systems to capture the data and calculate the claim What type of claim will be made? How will this be accounted for? Consider SSAP 13 disclosure in accounts Discuss the timing of the tax returns Action Points

24. PricewaterhouseCoopers LLP Any Questions ? PwC contacts: Tracey Bentham 0117 928 1194 Denise Roberts 029 2080 2308 Clare James 029 2080 2218 Mark Tibbert 029 2080 2722