Pharmaceutical R&D tax credit regulatory legislation: The need for clarity

However, there are still many companies not taking full advantage of the cash relief available. In 2013 UK businesses spent £28.9bn on R&D activities, but the total R&D expenditure against which claims were made during this period amounted to only half of that figure (£14.3bn).

This article will address some of the main technical challenges and considerations for companies seeking to make a claim, shedding some light on what for many is seen as a daunting and complex process.

R&D tax credits as an income source

Ultimately, the scheme provides claimants with an additional revenue source, allowing them to reinvest into further development – particularly beneficial to SMEs who may be midway between funding rounds, or in a pre-trading period. As more companies become aware of the scheme and seek to utilise it, the pharmaceutical industry will need to ensure it keeps on top of regulatory changes introduced by the scheme’s administrator HM Revenue & Customs (HMRC).

HMRC feedback has prompted the Government to update legislation to reflect new challenges posed by the growing pool of claimants. The focus of its attention has recently been on clarifying the rules around the inclusion of ‘consumables or transformable materials’ in an R&D tax credit claim, a factor which has significant implications for pharmaceutical R&D professionals.

Providing a straightforward definition of consumables is not simple. Guidance states that the term ‘consumable or transferable materials’ includes water, fuel and power, but in reality the definition can safely be broadened to include laboratory chemicals and electronic components, among other things.

In April 2015, the Government introduced legislation with the chief aim of preventing tax credits from subsidising production, manufacturing and the delivery of services resulting from R&D activity.  Where a company sells or otherwise transfers ownership of the products of its R&D activity as part of its ordinary business, then the cost of materials that go to make up those products is excluded from expenditure qualifying for relief.

Other factors to consider

In addition to the consumables legislation, HMRC is becoming more vigilant in its approach to documentary evidence used to support claims and is coming to expect claimants to be more proactive. For instance, the keeping of timesheets as a way for businesses to report total staffing costs is a perfect example of how firms can determine the appropriate proportion of staff time attributable to R&D projects. Contemporaneous record keeping has the additional benefit of evidencing the fact that a technological or scientific advancement was actively being sought, the key criteria by which R&D is defined for the purposes of a claim.

A greater understanding of the activities that can be classed as R&D for the purposes of a claim could provide companies with a greater financial reward. Many assume that R&D only relates to new products, but if an existing product is being developed, modified or improved for the purpose of gaining a competitive advantage then it can still attract relief.

There is also a preconception that eligibility only applies to the manufactured product, and not the means by which it is manufactured, but this is not the case. Improvements to the manufacturing process that give companies a competitive edge, such as the sterility of the manufacturing environment, or the speed of production, if addressed though research and development can also be included in a claim.

A claim in practice

Agenda1, a specialist analytical company working within the pharmaceutical industry, has successfully benefitted from the UK R&D tax credit scheme and uses the available cash relief as an additional means to fund ongoing R&D activities.

The firm spends a considerable proportion of its time developing testing methods for its clients. In the majority of cases, there is no existing testing methodology and each project requires a bespoke setup in order to provide the specific analysis the client requires.

As its managing director Ian Siragher explains: "A lot of our work is based around the early stages of new product development where clients require us to help them develop and validate new approaches to manufacturing systems. For example, a client recently came to us after having developed a wound management system. They required us to develop a novel way of testing the quality of the product in order to demonstrate that the dressing would achieve what they wanted it to do.

"Our work sees us address a number of uncertainties which is where the majority of our R&D efforts are focused. It also exposes us to the associated risk that these new, novel solutions won’t reach commercial stage for one reason or another, limiting our ongoing involvement.

"Therefore, commercially the R&D tax credit scheme is important as an additional source of cash relief and offers us the confidence to further invest in staff and equipment needed to grow our facilities.  In terms of submitting claims, I have found that the transparency of the system is very reassuring."

While R&D tax credit uptake is on the rise, there is still significant scope for companies to take advantage further. We hope to see more and more pharmaceutical companies taking advantage of valuable tax relief which could lead to further investment in innovation and cutting-edge research.

Jenny Tragner, director at R&D tax credit consultancy ForrestBrown and member of the UK R&D Consultative Committee