Rebecca Prince
22 November '21

6 minute read

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There’s increasing talk of HMRC paying more scrutiny to R&D claims. Here we take a look at the themes coming out of recent tax cases and what the implications are for making claims.


An engineering business, and the taxpayer in this instance, made claims for two years in respect of a number of projects. The claims were made under the generous SME scheme, which typically provides an additional 25% tax relief on top of relief at the main rate of corporation tax (providing total tax relief of up to 44%). HMRC challenged the eligibility of the claim, which was appealed by the taxpayer resulting in a hearing at the first-tier tribunal.

The areas that were challenged by HMRC included inconsistencies in salary costs (compared to end of year returns), expenditure being claimed in the wrong period, limited documentary evidence in respect of timings or information regarding the specific projects, and the expert within the business not being able to provide detailed explanations to corroborate the scientific or technological advances and uncertainties. In addition, HMRC noted that the taxpayer was paid for the results of the majority of the projects by their clients, leading them to question whether the activities represented the taxpayer’s R&D or the end client’s R&D.

The lack of records and inconsistencies in both the nature of the costs compared to third party information (such as the statutory accounts, payroll records and end of year returns), clearly did not help the credibility of the taxpayer’s case. In addition, the fact the main witness for the company (the MD and ‘competent professional’ in R&D terms), could not comprehensively define the technological advances or challenges clearly created doubt.


The main theme of the case is the position that HMRC took, that where the taxpayer’s client engaged the engineering company to carry out the R&D projects and paid them for the results then this is ‘subcontracted R&D’, or ‘subsidised R&D’. The distinction between subcontracted and subsidised often rests with who retains any intellectual property developed. In either case, the projects are not eligible to be claimed under the SME scheme (albeit excess costs above the subsidy may be eligible in the case of subsidised projects). The judge agreed with HMRC that all but one of the projects was subcontracted, meaning that the taxpayer’s R&D claim was substantially reduced.

Taking this case into consideration, the reality for businesses is that they will only embark on technically challenging (and costly) projects when there is a prospect of payment by their clients. The arrangements with clients should however be carefully considered before a claim for R&D is made. Is the client paying the taxpayer for the R&D activities no matter what the outcome, or is the taxpayer incurring the financial risk (potentially meaning no payment will be received if the activities are not successful)? The latter case would indicate that relief under the SME scheme may be available. The former indicates subcontracted R&D (and no SME relief). In addition, questions such as where the intellectual property rests should be considered.

It should be noted that the existence of subcontracted or subsidised R&D does not entirely prevent a claim for R&D relief being made. Relief may still be available under the large company (RDEC) scheme. This provides relief at approximately 10%, which is often still very valuable to the taxpayer.


DNAe Group Holdings made claims for R&D relief under the SME scheme on the basis that it was an autonomous enterprise, and its parent company ‘EGL’ was merely akin to a venture capital company (‘VCC’).

Typically, when assessing a company’s status as to whether it qualifies as an SME, any companies with a 25% or greater interest in the claimant or investment by the claimant should be taken into account in considering whether the SME financial and employee headcount figures are breached.

However, there is an exception to this rule where the respective investor company is a VCC, and the VCC’s investment is less than 50%. There is no strict definition of a VCC in the tax legislation. However, the broad understanding (and the view taken in a prior tax case Pyreos vs HMRC in 2015) is that a VCC would be interested in a return on investment only and would not have a role in the day-to-day management of the claimant company.

This opinion was reinforced in DNAe Group Holdings vs HMRC at the first-tier tribunal in August 2021 and the taxpayer’s appeal for SME status was allowed.

This case provides further clarity (together with Pyreos vs HMRC) that an investor relationship should not impact a company’s ability to claim SME R&D relief, providing the investment is merely opportunistic and not influential on the strategic or day-to-day management of the business.


These cases are evidence of the fact that HMRC is definitely pushing back on R&D claims that they view as being weak or not having any validity. As members of HMRC’s R&D Consultative Committee we are hearing that HMRC are employing greater numbers of Inspectors to scrutinise claims, potentially to close the gap between genuine claimants and those that may be less robust. Our knowledgeable R&D team employ a risk-based approach to mitigate the risk of HMRC challenge.