Credit where it’s due, sometimes

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Magazine Article, Source : The Manufacturer
Zone : Innovation Design and PLM
Published : September 2006

Not everyone is delighted with the way the R&D tax credits are applied. John Dwyer reports

Twenty years ago it would have been laughable, but some of today’s manufacturers actually think quite highly of a Labour Chancellor of the Exchequer. Eamonn Walsh, technical director of Merseyside-based computer-technology firm Brainboxes, gives two reasons: Gordon Brown’s allowing the Bank of England to set interest rates; and the R&D tax credit (RTC).

The RTC’s appeal is that, for every £100 a large company spends on a project that qualifies, the credit entitles it to £125 of tax-free income. For an SME, this rises to £150 per £100. Large companies have been able to claim the credit since 2002, two years after SMEs.

Walsh calls the credit a classic case of win-win: “We get a tax credit for our heavy investments in R&D. If these pay off HM Government gets it all back a year or two [later] in tax on the company’s growing profits. It really eases the burden that comes with taking big risks on new product development – and every company wants to minimise its risks.”

The Treasury says the 20,000 RTC claims made to March represent nearly £1.5 billion in support. They include Sheffield knife maker Harrison Fisher, which won back half the cost of developing its award-winning Taylor’s Eye Witness range of kitchen knives, cutlery and sharpeners.

John Lake is director of operations at Exfo Europe, a global manufacturer of telecommunications test equipment. Lake believes RTCs are ‘very positive’, particularly for small companies that get a bigger benefit from the RTC.

Now Nissan too has reason to give thanks to Gordon. Last month, in a widely-watched test case, its London design centre won approval from HM Revenue and Customs (HMRC) to claim the RTC for work there going back two years. The design trade press speaks of the decision as a breakthrough and the Design Council is poring over it to see whether smaller companies will also be able to make similar claims.

But the Council’s research suggests that only 10 per cent of businesses know the RTC even exists. And financial advisors Deloitte estimate that only 55 per cent of eligible SMEs have submitted claims since 2000.

Paul Radage is business development manager of C-Tech Innovations, a £3 million-plus Chester-based contract R&D specialist with 40 staff. C-Tech performs its own R&D as well as carrying out research on behalf of commercial clients, whether sole blue chips, SMEs or multi-partner collaborations.

Radage believes poor RTC take-up is a result partly of lack of knowledge that the assistance exists and partly of its perceived complexity: “It’s all down to awareness and knowledge.”

C-Tech has a great deal of experience of the RTC: “When we have claimed it we have worked with auditors and we have found it fine.” But he agrees that, without expert help, it’s difficult to work out what work and what costs qualify.

HMRC’s decision depended on whether C-Tech was doing the work for itself, for others or for a consortium; who was paying for the work; whether it was already grant-funded; and where ownership would reside of the intellectual property that resulted. “It’s not a simple case of ‘do I qualify?’,” says Radage.

In Radage’s view, any company trying to get the credit on their own would find “there’s a lot of trial and error involved.” He strongly advises going to a good advisor or tax specialist first.

Walsh, a customer of the DTI-funded Manufacturing Advisory Service North West (MAS NW), says the credit doesn’t cost the Treasury a penny: “Usually the biggest cost in any company – especially in R&D – is wages and it allows us to create jobs in innovation.”

The benefits include not only increased tax revenue on higher profits but more National Insurance and income tax from new R&D staff, savings on social security payments to anyone previously on the dole, import substitution and gains in foreign exchange from exports. And if the person hired has been a student they may start to pay back their student loan.

Some tax offices don’t see it quite that way. Another MAS NW customer, REM UK, found the whole thing impossible, says its managing director Chris Braithwaite.

Nelson, Lancs, based REM employs 100 to design and make washing equipment and related furniture for hair and beauty salons and turns over £9 million. Four or five years ago, says Braithwaite, REM expanded its R&D department ‘dramatically’ to produce new designs: “We bought graduates, and we were quite happy to do it because that’s built up the business.”

REM developed a [3D] computer program for salons to design their own salons using its furniture. REM used a local team of CAD specialists to develop a new ‘washpoint’ which, says Braithwaite, was an improvement on its rivals: “It involved a lot of stress testing, which we had done for us by Northern Technologies in Nelson.”

Three years ago REM’s accountants told Braithwaite these ‘substantial’ costs would qualify for credits: “I took the view that, if the government was going to give us money for what we were going to do anyway, I’m quite happy to have it. So we prepared a list of the projects that we thought qualified and put the claim in.”

REM had already deducted the sums from its corporate tax returns when the local tax office wanted to investigate REM’s work.

“Two guys came in and crawled through everything. What they didn’t know about manufacturing would fill volumes,” he says ruefully. “They concluded that what we were doing was design and not R&D and we’d have to pay it back.” The bill to REM was £25,000.

“The application was batted back and forth for up to 12 months,” says Braithwaite. “The auditors suggested we put a claim in for the last year ended but I said I can’t be bothered. We could appeal to the [HMRC] commissioners but I said I’m spending too much time on this and I’ve got a business to run, and I told them to sod off.

“We didn’t even ask for this,” says Braithwaite. “It was our auditors who came up with it. Then last Friday I look in the Financial Times and I see Nissan has won an R&D tax credit. Well Nissan can wield a big stick, but little companies like us, we can’t have it.”

Throughout, says Braithwaite, “the [tax inspectors’] whole attitude was antagonistic. You’re having to prove you are doing what you say you are.”

The UK needs companies like REM: “We’ve trebled exports in four years and doubled turnover in six.” Braithwaite’s export target is now 10 per cent: “It used to be one per cent.”

There’s another problem. Westwind Air Bearings of Poole, Dorset, claims more than 50 per cent of the available world market for the specialist hole-drilling spindles used in the electronics industry. Technical director Tony Bannan sees the benefits of R&D Tax credits going either to small companies with sales of £400,000 or less, or to firms like BAE Systems: “If you’re the mass of companies in the middle, like us, you get nothing.”

The EEF acknowledges this, and says this may have been put right in the last budget. But EEF chief economist Steven Radley agrees that the RTC is overwhelmingly taken up by large companies like BAE or chemical companies who would probably have spent the money on R&D with or without the tax benefit. But the advantage, says Radley, is that they do it here rather than abroad.

Small companies, for which the credits were first designed, also make use of them under more favourable terms and conditions. But the companies in between don’t do as well.

As it is, Radley points out, mid-sized companies – those with up to 499 employees – are failing to do as much innovation as they could because, “though they are larger than SMEs, they don’t have the capacity for taking on risk. Quite a lot of the grant funding available is accessible by companies of all sizes, but they are not aware that they can access it. And what that means,” he continues, “is that they are not going on to the next stage of growth and innovation.”

In a recent EEF survey mid-sized and large companies were more likely than SMEs to have problems with getting government support of any kind, not just RTC. But the credits caused particular aggravation.

Finding the right person for advice on the tax credit was a problem for 60 per cent of companies. But then a lot of them relied for information on universities and the regional development agencies. And these, the EEF notes dryly, are “not necessarily key sources of expertise on the credit.”

For now it’s worth remembering that in 2008 the back dating now allowed on claims – two years under the large-company scheme and six years under the SME scheme – will be harmonised to two years. “People have to look at that now,” says Radage, “because it’s only fifteen months away.”

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