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Review of UK’s R&D tax relief system: implications for life sciences

Out-Law Analysis | 17 Jun 2021 | 8:06 am | 5 min. read

UK life sciences businesses routinely engage in overseas research initiatives and clinical trials to inform the development of new medicines. That activity could fall outside the scope of the UK tax reliefs system for research and development (R&D) under potential reforms the UK government is considering.


In his 3 March 2021 budget, the UK’s chancellor of the exchequer, Rishi Sunak, announced an extensive review of the R&D tax reliefs system, to ensure that the “UK remains a competitive location for cutting edge research, that the reliefs continue to be fit for purpose and that taxpayer money is effectively targeted”.

The government has set itself the target of raising total investment in R&D to 2.4% of UK GDP by 2027. R&D tax reliefs are viewed as being a significant incentive to encourage such investment. Boosting innovation and technology also forms part of the UK government’s ‘build back better’ post Covid-19 recovery strategy. This reinforces the notion that the intention of reform is to improve rather than restrict access to the reliefs.

Simmons Penny

Penny Simmons

Legal Director

Some of the possible routes for reform could prove problematic for life sciences businesses, giving rise to unintended consequences

The scope of the review

Details of the wide-ranging review are contained in a consultation paper. The document does contain any clear proposals for reform. Rather, it vaguely alludes to the direction of travel that reforms might follow by outlining aspects of the system that are subject to review and seeking input as to whether changes should be made. Many of these aspects will be of interest to life sciences businesses.

Broadly, the scope of the review is to consider whether to:

  • expand the definition of R&D;
  • continue to maintain two separate relief systems for larger and smaller businesses;
  • introduce changes to how the system is administered, and;
  • introduce territoriality requirements to make the reliefs more targeted.

The UK life sciences sector invests more in R&D than any other UK sector, so any improvement to the tax reliefs will be positively received. However, some of the possible routes for reform could prove problematic for life sciences businesses, giving rise to unintended consequences.

The current system

Two reliefs are currently available for certain qualifying R&D related expenditure. Both reliefs adopt the same definition of R&D and qualifying activities. R&D for tax purposes is defined by reference to activities that are treated as R&D under UK generally accepted accounting practice (GAAP) and fall within the Department for Business, Energy and Industry Strategy’s (BEIS) guidance. Broadly, the guidance specifies that the R&D activity must take place within a project that seeks to achieve an advancement in science or technology.

Where certain conditions are met, relief is available for small or medium sized companies (SMEs) in the form of an effective deduction of 230% on qualifying R&D costs. Loss-making SMEs may have the option of receiving a cash repayment of the tax credit in return for surrendering R&D related losses. Any repayment is capped at 14.5% of the losses available for surrender. For accounting periods beginning on or after 1 April 2021, any repayment is also subject to an annual cap of £20,000 plus three times the company’s total PAYE and national insurance contributions’ liability.

The research and development expenditure credit (RDEC) is also available. Although primarily targeted at larger companies, it may be used and can prove valuable to SMEs in certain circumstances. The RDEC uses a different method of calculating corporation tax relief on R&D expenditure. The ‘above the line’ RDEC is brought into account as a trade receipt, increasing taxable profits or conversely reducing losses. A credit of 13% of the qualifying R&D expenditure is then credited to the company. In certain limited circumstances, a repayment may also be available.

Simmons Penny

Penny Simmons

Legal Director

Simplification should be welcomed but should not lead to the dilution of the effectiveness or availability of SME relief that is vital to biotech and other life sciences start-ups

Structure and administration of the reliefs

The government’s consultation considered whether the two relief systems should be consolidated. Consolidation may simplify the regime, which may be attractive; however, this may be difficult to achieve in practice.

There are significant differences between the two systems and, most notably, there are circumstances where one relief may be available where the other is not. For example, SME relief rather than the RDEC may be available where an SME has subcontracted the R&D to another entity. The ability to subcontract R&D activities can be vital to biotech start-ups that may not have the resources and sufficient finance to conduct the R&D itself. A cash repayment is also more likely to be available under SME relief.

Simplification should be welcomed but should not lead to the dilution of the effectiveness or availability of SME relief that is vital to biotech and other life sciences start-ups.

R&D definition

The consultation also considers the definition of R&D and the nature of activities that should qualify for relief. It is unsurprising that reviewing the current R&D definition would fall within the scope of the consultation, since it is based on BEIS guidelines first published over 15 years ago.

However, the government should consider that the definition is well understood by many businesses whose success may be reliant on R&D reliefs. Within the life sciences sector, R&D tax credits often form a major part of an SME’s financial planning. Many biotech start-ups will be loss-making for several years and therefore, the availability of SME relief may be crucial to their viability, constituting an essential component of their initial capital raising structure.

For biotech and other life sciences SMEs, when considering whether to amend the R&D definition, it is likely to be a case of “if it ain’t broke don’t fix it”. Any change to the definition should be carefully considered to ensure that it remains broad enough to allow for continued developments in science and technology, whilst also remaining straightforward and easy to apply.

Simmons Penny

Penny Simmons

Legal Director

If the government decides to introduce a territoriality requirement, it should introduce a carve-out for overseas R&D that is integral to the development of the innovation


The consultation also poses the question as to whether a territoriality requirement should be added to the eligibility criteria for R&D tax relief. Currently, there is no requirement that the R&D activity must be undertaken in the UK. UK companies that incur R&D overseas may still be eligible for full tax relief. However, the government wants to ensure that the reliefs incentivise UK innovation and are appropriately targeted in a way that best benefits UK industry. Given Brexit, it is unsurprising that the government is now questioning whether to introduce restrictions on the availability of R&D reliefs for activity undertaken overseas.

However, territoriality restrictions are likely to be concerning to life sciences businesses, particularly those in the biotech space focused on developing the next generation of medicines and, importantly in the current context, vaccines.

Overseas research may be vital to the eventual development and approval of a new drug or vaccine. For example, for a new vaccine or drug to obtain approval by the US Food and Drug Administration (FDA) it is likely to be essential that a clinical trial is undertaken in the US. Given the extent of the US market, FDA approval may be essential to the viability of the new treatment. However, if tax relief is unavailable in relation to overseas clinical trials, the investment required to pursue projects may prove too costly for a UK biotech. Therefore, a territoriality requirement could become an insurmountable stumbling block for some life sciences innovation.

If the government decides to introduce a territoriality requirement, it should introduce a carve-out for overseas R&D that is integral to the development of the innovation.

Next steps

It remains unclear how the R&D tax relief system may be reformed. As a result, it is difficult to draw any conclusions as to the impact of the review on the life sciences sector. However, if the consultation yields evidence that changes could lead to increased investment in innovation, particularly if increased investment supports the UK’s post Covid-19 recovery, it is likely that the UK government will be keen to introduce reforms quickly.

The consultation closed on 2 June. We should hear more about the government’s proposals in the next budget, expected to be in the autumn.