Guest blog: Consensus on the benefits of innovation, but how to unlock them is less clear

Having worked with the UK’s innovative businesses for more than 15 years advising on R&D tax reliefs, I’ve seen the incentive in action. It’s made me a passionate advocate for the positive impact of R&D tax reliefs. However, recent years have brought turmoil to this area of tax policy, and two weeks earlier this autumn crystallised the ongoing challenge we face to bring policymakers in both major parties fully up to speed.

What do parties think?

At panel discussions ForrestBrown hosted at the Labour and Conservative Party Conferences in October, I discussed how we can unlock business innovation across the UK with politicians and business leaders. Reassuringly, there was consensus amongst panelists at both events that innovation was a good thing. However, less clear was how to make it happen and how to measure the impact on the economy.

In Manchester the Science Minister, George Freeman, outlined his vision for the UK to become an “innovation nation”. He acknowledged that “tax incentives work” while recognising the need to shift the dialogue from spend to investment – an important distinction in a world where an increase in total R&D tax relief claimed is seen in some quarters as a problem rather than a sign of success.

Tensions between these viewpoints are exacerbated by a lack of reliable data on which to base policy decisions. Updating the methodology used by the Office for National Statistics (ONS) to measure private sector investment in R&D should have gone some way to addressing this, but negative perceptions remain ingrained. If HM Treasury could be more confident in the return on investment delivered by R&D incentives perhaps it would view relief through a more positive lens.

In Liverpool, Shadow Exchequer Secretary, Tan Dhesi MP, was also positive about the crucial role of innovation in creating prosperity. However, he pointed to the UK’s position behind France, Germany and the US in international league tables, another example of potentially flawed measurement influencing the position of policymakers. As I said in both panel discussions, bad data drives bad policy. Whichever party forms the next government will need to get this right.

What should policymakers do?

So, what would ‘right’ look like? Having specialised in this field for many years and immersed myself in the long-running consultation seeking to reform the relief, I’m often asked for my recommendations on what should be done. This is easier to do when starting from a blank piece of paper, but that is far from the reality faced by today’s policymakers or a potential incoming Labour government.

So it is important to consider where we are today – facing the prospect of a merged scheme following a period of piecemeal changes which have added significant complexity for businesses of all sizes, significant changes to the generosity of the different types of R&D relief and a widely publicised volume compliance campaign from HMRC – and how best to progress from here to a policy which is fit-for-purpose for an innovation nation.

This is far from an ideal starting point, but here are my three practical recommendation to repair R&D tax relief:

1. The single scheme is a great idea in theory. This is because the RDEC mechanism provides greater certainty and visibility to companies. A simpler rule base is also positive for both companies and HMRC’s finite resources. Less complexity leaves businesses less vulnerable to rogue advisers as well.
   
   But the current proposals are not ready. Clarity is desperately needed on how to deal with R&D supply chains to ensure relief is awarded where it has the most impact.
   
   And we lose any aim of simplicity if it is a single scheme in name only. At the moment, the government proposes retaining the SME scheme for R&D intensive SMEs, instead of simply retaining higher generosity within the single scheme. The position for R&D intensive SMEs needs to be clarified to prevent them flipping between two different schemes without any visibility of the rate of relief which will apply when making investment decisions.
   
   On the subject of higher rates for SMEs, changes announced last autumn (and implemented just a few months later), all but equalised the generosity of the reliefs offered to large businesses and SMEs. This ignores evidence that SMEs face far higher hurdles when seeking access to funding for R&D projects, which is why a higher rate has historically been available to these businesses. The move suggests a lack of understanding of the R&D ecosystem in the UK, with larger businesses often relying on an innovation supply chain of smaller businesses.
2. Error and fraud in R&D tax reliefs are real issues, but genuine innovation cannot be collateral damage in the war on non-compliance. HMRC needs sufficient resources to operate a compliance process that offers a genuine disincentive to fraudulent, negligent or abusive R&D claims. This means not just a volume of resources, but sufficient training to ensure that case workers can consistently sort good from bad. A heavy-handed, inconsistent approach not only risks discouraging genuine claimants, but it also plays directly into the hands of rogue agents willing to game the system.
   
   Poor behaviour by agents could be best addressed by improving the regulatory framework governing professional tax advisers. Members of the Chartered Institute of Taxation (and equivalent tax and accounting professional bodies) are held to a strict code of conduct designed to protect clients from bad advice.
   
   HMRC should also work harder to produce better guidance. Preventing mistakes and disputes is far more cost effective for the exchequer than relying on retrospective compliance checks to recoup amounts paid in error. With clear and accessible guidance, HMRC would be arming businesses against rogue advice. One exception is the definition of R&D, which dictates which types of innovation the incentive offers relief for. DSIT has responsibility for this definition, but needs a far more proactive role in its application, including regular reviews to keep it up to date and aligned with wider innovation policy.
3. The above two steps are significant, but largely remedial. They would help to repair damage done in recent years and provide a foundation on which to build a truly effective tax incentive for R&D. Any changes should be the outcome of proper engagement and consultation with businesses and stakeholders, based on an understanding of UK R&D and business decision-making.
   
   If we retain a scheme directed specifically to R&D intensive SMEs, the threshold needs to be more realistic, bringing more innovative businesses into the scope of the higher rate. Of course, an alternative would be to scrap the threshold completely and reinstate the higher rate for all SMEs, a move which could become possible in a world where there is more confidence that error and fraud are under control.
   
   There’s arguably a fourth step which is, once steps one to three are in place, leave it alone! We’ve seen so much change over the last two years that businesses desperately need a period of stability. Long term thinking does not always come naturally to policymakers, but it would importantly enable innovative companies to plan R&D investment for the long-term.

Conclusion

Reflecting on events in Liverpool and Manchester last month, I remain optimistic about the future for R&D tax relief and will continue to champion it as an effective pillar in the policy toolkit for incentivising innovation. Both parties understand the importance of incentivising private sector investment in innovation. But as advisers to innovative businesses, we can’t be complacent. As ever, the devil is in the detail, and a single scheme will stand or fall on how it tackles technical points such as the treatment of subcontracted and subsidised R&D.

Professional bodies such as the CIOT have a key role to play in the coming months. We need to keep the pressure on all parties to maintain stable and competitive innovation incentives, coupled with a commitment to better data with which we can measure success. The contents of the upcoming Autum Statement will give an indication of whether our message is getting through.

Jenny Tragner, Director and Head of Policy at ForrestBrown and CAA ATT (Fellow)

Read more about ForrestBrown’s party conference events here.

The views expressed in guest blogs are those of the writer and are not necessarily shared by CIOT.