r&d – TaxWatch

‘Our tax system is too complicated’ concludes Treasury Committee report on tax reliefs

26th July 2023 by Sarah Walton

The Treasury Select Committee (TSC) today published a report¹ about the complicated world of tax reliefs. Last year TaxWatch provided written evidence to the Committee on this enquiry and in December last year, TaxWatch’s then acting director, Alex Dunnagan, gave oral evidence.

The report calls on the Government to regularly review tax reliefs and removal of those that no longer fit their policy objectives, cost significantly more than expected or are vulnerable to abuse.

It focuses on concerns about the number and complexity of tax reliefs, along with lack of scrutiny of their cost and effectiveness. They recognise that part of the problem arises due to governments introducing new reliefs, often following lobbying from interested parties, which then prove difficult to remove even if there are known problems with their operation. The scale of this issue is demonstrated by the fact that 105 of the 339 identified non-structural reliefs (i.e. those designed to promote certain behaviour) were estimated to cost £195bn in 2021-22. This equates to 72% of the health and social care budget (£272bn) in the same year.

Tax reliefs were also identified as creating opportunities for abuse, most clearly highlighted by evidence around R&D tax reliefs. Recent data (published since the TSC report was compiled) has suggested that levels of fraud and error in these reliefs are, in fact, much greater than previously estimated. Alex pointed out that, in addition to poor tax policy design issues, HMRC did not have sufficient resources to police the potential abuse of reliefs. In particular he referred to issues dealing with tens of thousands of R&D relief claims submitted every year.

The report refers to the closure of the Office for Tax Simplification (OTS) and the difference between their remit, which was to review the existing tax system, and a new focus by the Treasury and HMRC on tax policy design, which will only consider new tax policies.

The TSC call for a number of actions, including designating non-structural reliefs as public spending so they can be properly scrutinised as such. They also recommend five year reviews of each relief with a view to removing those that no longer serve policy requirements. While we support all of the recommendations, the volume and nature of the work involved would require significant resources and political commitment. Bearing in mind the closure of the OTS, it seems likely that this is not going to be top of anybody’s priority list.

TaxWatch have identified that it is not just in the area of reliefs where old tax policies linger without review of their purpose or effectiveness. We will shortly be publishing an analysis of issues around property taxation that we believe should be substantially reformed.

1Tax Reliefs, House of Commons Treasury Committee, 18 July 2023, https://committees.parliament.uk/publications/41067/documents/200054/default/

Around £1bn per year lost to fraud and error in R&D tax relief claims

20th July 2023 by Claire Ralph

£1.13bn – revised estimate of error and fraud in 2020-21 (previously £338m)
24.4% – revised rate of error and fraud in SME scheme (previously 5.5%)
£1.05bn – estimated error and fraud in 2022-23

HMRC have finally published initial data from their random enquiry programme (REP) into R&D tax relief claims which indicates significant underestimates in previous calculations of fraud and error in the schemes.

Data only enables them to restate 2020-21 figures at this stage (due to time lags in completing enquiries) but these suggest £1.13bn was lost to fraud and error in the schemes in that year, up from the £338m previously reported. The bulk of this problem arises within the scheme for small and medium sized enterprises (SMEs) which accounts for over £1bn of that loss. This equates to a staggering 24.4% rate of error and fraud in the SME scheme.

HMRC’s initial estimate of the most recent tax year (2022-23) is £1.05bn lost to error and fraud related to R&D tax schemes.

TaxWatch has been reporting on problems within the R&D claims industry for some time. In particular we have focused on the increasing number of largely unregulated advisers operating as ‘claims farms’. These have used hard sell sales techniques to persuade businesses to make claims for spending that at best pushes the boundaries of the rules and at worst clearly does not qualify. The advisers take a percentage cut of the benefit received so have an incentive to claim the largest amount possible. HMRC’s pay now, check later process means that money is paid out initially, resulting in firms claiming they have a 100% success rate. However, we are aware of cases where, when HMRC subsequently challenge a claim, the problem advisers leave their clients to deal with the enquiry, keeping the cut they have already taken.

Despite widespread discussion of these issues within the R&D claims industry, HMRC have been slow to tackle this problem. With almost 85,000 claims made in 2020-21and limited detail about each claim provided to HMRC then policing the schemes is a huge task. However, the failure to get a grip on this issue is likely to have fuelled abuse of the schemes as advisers’ confidence in their ability to get away with it increased.

Recent increases in compliance activity by HMRC have been widely reported. Unfortunately this is alongside recurring reports of lack of skilled and experienced staff to deal with what is complex legislation. TaxWatch has long identified concerns about resourcing of HMRC for compliance activity, particularly when skilled staff recover much more than they cost (HMRC report rates of return of around 18:1). An additional concern here is that poor handling of enquiries is discouraging genuine claimants from pursuing relief through these schemes. We are aware of one business that has actually moved its R&D facility outside the UK following frustrations at how their claim was being investigated. This could end up with the worst of both worlds whereby the businesses intended to be supported do not claim and those that don’t qualify walk away with the money.

HMRC has had its resources cut by large amounts over recent years while having to deal with significant extra responsibilities of Brexit and the Covid support schemes. The nature of the work means that new investigation resources cannot just be produced at short notice as it takes some years for people to be fully trained. The problem with R&D tax reliefs identified by this new data puts a spotlight on a more widespread problem of inadequate long term funding and planning of resources for HMRC. This requires attention before large amounts more money are lost.

TaxWatch give evidence at Treasury Select Committee

28th December 2022 by Alex Dunnagan

TaxWatch Acting Director Alex Dunnagan gave evidence to the Treasury Select Committee (TSC) on Monday 19th December highlighting the abuse of tax reliefs.

Written evidence

In November we submitted written evidence to the TSC for their inquiry on tax reliefs, focussing on both Creative Sector reliefs and the R&D reliefs.

TaxWatch’s evidence pointed out that Creative Sector reliefs are costing far more than anticipated, with the vast majority of these reliefs going to large multinational corporations. These multinationals are developing entertainment products that would likely have been produced regardless of whether or not the relief was available.

We also highlighted that companies claiming hundreds of millions of pounds in reliefs are engaging in profit shifting. These multinationals are producing games and films in the UK while claiming relief, then selling the taxpayer subsidised intellectual product at effectively cost price to overseas parent companies. It is these overseas companies, usually US based, which then distribute the product, generating significant profits, and with that, significant Corporation Tax bills outside the UK.

As for R&D reliefs, we pointed out that HMRC’s estimate of fraud and error with R&D relief (£469m in 2021-22) is likely a significant underestimate. While the true scale of abuse with R&D reliefs is not known, it could well costs billions of pounds every year. Without adequate compliance checks, we will simply never know the true scale of fraud and error.

Our evidence also pointed out that there are tax advisers boasting of 100% success rates in applying for R&D relief. There are companies that offer software which auto-generates relief claims, and accountants stating that it is the government intent to provide R&D relief for things such as cocktails and menu updates. This clearly is not the intent of Parliament.

Treasury Select Committee session

In addition to the facts presented in the written evidence, during the oral evidence session, Alex was able to highlight the lack of scrutiny these reliefs receive. There are close to 1,200 reliefs, the majority of which receive little to no government scrutiny. Even the smaller reliefs can have expenditures larger than government departments. Video Games Tax Relief, originally forecast to cost £35m a year, cost £197m in the year ending March 2022. The Serious Fraud Office by comparison had a budget of £74m last year.

The session was attended by Harriett Baldwin (Chair); Rushanara Ali; Anthony Browne; Dame Angela Eagle; Danny Kruger and Siobhain McDonagh. The panel consisted of Alex Dunnagan, Acting Director, TaxWatch; Dr Hosam Al Kaddour, Head of Teaching and Learning, Accounting Department, University of Southampton; Anita Monteith, Head of Taxation Policy, Institute of Chartered Accountants in England and Wales; and Dr Jo Twist OBE, CEO at UK Interactive Entertainment.

TaxWatch welcomes any opportunity to present further evidence on tax reliefs.

The full transcript for the evidence session is available here.

HMRC Investment Announced

11th April 2022 by Alex Dunnagan

A step in the right direction, but more to be done

£161m investment in HMRC compliance work – set to bring in an additional £3bn over next five years
New 50 strong HMRC team tackling R&D fraud to be in place by 2023

Fraud within the tax system costs the UK tens of billions of pounds a year,^[1]The tax fraud gap – 2021 edition, TaxWatch, 16 September 2021, http://13.40.187.124/tax_fraud_gap_2021/ with HMRC recently put under intense scrutiny on their record of tackling the problem. ^[2]HMRC’s record on covid support and tax fraud under the microscope, TaxWatch, 14 February 2022, http://13.40.187.124/hmrc_record_covid_support_fraud/ Arguments can be made about the strategy HMRC pursues in tackling tax fraud, but ultimately, everything the department does comes down to resources available as a result of government decisions on investment.

While most media coverage of the Chancellor’s Spring Statement last month focussed on the cost of living crisis, one announcement that appears to have flown under the radar is an extra investment in HMRC’s compliance work and a new team tackling the abuse of R&D. Though these actions won’t see the eradication of tax fraud in this country, they are certainly a positive move.

HMRC Compliance

HMRC is set to see an additional £161m of funding for its compliance work, which is expected to generate more than £3bn in additional revenues over the next five years. With such a healthy return on investment, why isn’t more being spent on compliance?

The March 2021 Spring Statement revealed that refocusing attention on covid fraud would lead to less tax being collected until 2023-24 as staff were moved from other areas of compliance work. ^[3]Spending Review 2020, HM Treasury, 15 December 2020, https://www.gov.uk/government/publications/spending-review-2020-documents/spending-review-2020.

The 2022 Spring Statement sets out additional compliance resources for HMRC and suggests that the £161m investment will bring in an additional £3bn. HMRC is expecting an additional £18 in tax revenues for every £1 spent.

It was announced in December last year that the DWP is set to receive £510m for additional compliance work to tackle fraud and error, with the expectation that this will “deliver savings” of £3.15bn by 2026-27.^[4]See Funding to fight Covid related tax and benefits fraud, TaxWatch, 29 December 2021, http://13.40.187.124/covid_fraud_spending_dwp_vs_hmrc/ The amount of fraud in the benefits system is far smaller than that in the tax system, and the predicted return on investment is £6 for every £1 spent – 1/3 of the ROI for tax compliance. The question the government needs to answer is: why is more being spent on benefits compliance, which results in a lower return on investment?

New R&D team to tackle abuse of reliefs

In the run-up to the Spring Statement there were a number of rumours that the Chancellor was about to overhaul the way in which R&D reliefs worked.^[5]Sunak plans overhaul of ‘generous’ R&D tax credits, Financial Times, 02 March 2022, https://www.ft.com/content/c948c5c5-06cb-4770-a789-e8146df49014 In his Mais lecture of February 2022, Sunak stated that that “in spite of spending huge and rapidly growing sums, clearly it [R&D] is not working as well as it should.”

However, when it came to the statement, very little new was actually announced. There was talk of legislation on overseas R&D expenditure and the inclusion of cloud computing costs, but for the most part the message was that we should wait until Autumn for further developments. The Chancellor said, “the government will consider what more can be done to tackle the abuse of R&D tax reliefs, particularly in the SME scheme, ahead of Budget 2022.” This is not the first time we have been told to wait and see. The Autumn Budget 2021 referred to combating the abuse of R&D tax reliefs “later in the Autumn”. It appears the can has been kicked further down the road.

In November 2021, a treasury report on R&D Tax Reliefs referred to “the creation of a new cross-cutting team focussed on abuse.” ^[6]R&D Tax Reliefs, HM Treasury, 30 November 2021, https://assets.publishing.service.gov.uk/government/uploads/system/uploads/attachment_data/file/1037348/RD_Tax_Reliefs.pdf The Spring Statement also mentioned this “new cross-cutting HMRC team”, but failed to give any further detail. TaxWatch approached HMRC for more information, and we were told that the aim was for the team to be set up by 2023. An HMRC spokesperson said:

“We are committed to tackling error and fraud within R&D Tax reliefs. We are creating a 50-strong team, working right across HMRC, to further support the ongoing work in this area.

“This new team and the other measures announced in the Autumn are designed to tackle abuse and boundary pushing while limiting the impact on compliant businesses.”

It’s likely that these 50 will be moved from elsewhere within HMRC, rather than being new staff altogether. Details should become clearer throughout the year, and there is a realistic possibility that this new team will somehow involve the fraud investigation team.

The creation of this new team is a step in the right direction. If the team functions well and is able to target the right cases for inquiry, we may start to see HMRC begin to make serious progress against the egregious abuse within the R&D system. Watch this space.

References[+]

References
↑1	The tax fraud gap – 2021 edition, TaxWatch, 16 September 2021, http://13.40.187.124/tax_fraud_gap_2021/
↑2	HMRC’s record on covid support and tax fraud under the microscope, TaxWatch, 14 February 2022, http://13.40.187.124/hmrc_record_covid_support_fraud/
↑3	Spending Review 2020, HM Treasury, 15 December 2020, https://www.gov.uk/government/publications/spending-review-2020-documents/spending-review-2020
↑4	See Funding to fight Covid related tax and benefits fraud, TaxWatch, 29 December 2021, http://13.40.187.124/covid_fraud_spending_dwp_vs_hmrc/
↑5	Sunak plans overhaul of ‘generous’ R&D tax credits, Financial Times, 02 March 2022, https://www.ft.com/content/c948c5c5-06cb-4770-a789-e8146df49014
↑6	R&D Tax Reliefs, HM Treasury, 30 November 2021, https://assets.publishing.service.gov.uk/government/uploads/system/uploads/attachment_data/file/1037348/RD_Tax_Reliefs.pdf

Budget 2021 – Four tax takeaways

2nd November 2021 by Alex Dunnagan

On Wednesday 27 October, the Chancellor Rishi Sunak unveiled his Autumn Budget 2021.

This budget was billed as one looking ahead to the “post-Covid” era, with a lot of focus on growth and the economic outlet. Numerous news outlets have covered the major stories coming out of the budget. At TaxWatch, what we have scrutinised is the perhaps lesser covered tax stories.

1 – Additional Compliance Work

An additional £292m across three years was announced for HMRC, with the goal of ‘bearing down on tax avoidance and evasion’.

The Taxpayer Protection Taskforce, announced in the Spring 2021 budget, is to see an additional £55m of funding next year. This is in addition to the previously announced £100m investment. It is not clear whether this £55m is part of the aforementioned £292m.

This taskforce will seek to recoup money wrongly claimed from pandemic support schemes, such as furlough.¹ The spring announcement on the Taxpayer Protection Taskforce stated that it will be staffed by “HMRC operatives” suggesting that staff are to be moved from elsewhere within HMRC.

The March 2021 Budget revealed that the extra spending on compliance would actually lead to less in tax being collected year on year until 2023-24, with one reason given being “impacts on compliance yield reflecting reprioritisation (including to respond to COVID19).”²

Budget 2021 policy decisions (£ million)

HMRC is set to see a “£0.9 billion cash increase over the Parliament to £5.2 billion in 2024-25”. Spending Review 2020 revealed that £1bn would be going to HMRC “to reform and enhance the UK customs system after the end of the transition period, including investment in vital physical and IT infrastructure and additional support for UK traders”.³ So while the £0.9bn cash increase sounds impressive, it’s worth bearing in mind that the vast majority of this will not go towards tackling tax fraud, but rather to deal with the additional complexities surrounding the UK’s departure from the European Union.

2 – Clamping down on promoters of tax avoidance

The budget also revealed that the forthcoming Finance Bill 2021-22 will feature legislation for further measures to clamp down on promoters of tax avoidance.

Section 5.74 of the budget announced that the measures will:

allow HMRC to freeze a promoter’s assets so that the penalties they are liable for are paid
deter offshore promoters by introducing a new penalty on the UK entities that support them
provide for the closing down of companies and partnerships that promote tax avoidance schemes, and
support taxpayers to steer clear of avoidance schemes or exit avoidance quickly, by sharing more information on promoters and their schemes.

In September 2020 we submitted evidence to HMRC as part of their consultation “Tackling Disguised Remuneration Tax Avoidance”,⁴ calling for those who sell disguised remuneration tax avoidance schemes to be investigated for tax fraud.

These proposed measures stop short of HMRC applying the full criminal law to prosecute those who design, operate, and promote dishonest tax avoidance schemes. TaxWatch’s view remains that the best deterrence is to put those who promote fraudulent schemes before a jury.

3 – R&D reliefs need to be made ‘fit for purpose’

Plans to increase R&D investment to £22bn per year, as outlined in the March 2020 budget, have been pushed back from a targeted May 2024 to 2026-27, with the government acknowledging that current R&D reliefs are not fully “fit for purpose.”

It has long been known that the cost of the R&D expenditure credits is far greater than what was originally anticipated, with a February 2020 NAO report highlighting that the actual costs were more than double those forecast.⁵

Costs compared with forecast for the research and development (R&D) expenditure credit

Sunak stated in his speech that:

“Companies claimed UK tax relief on £48bn of R&D spending. Yet UK business investment was around half of that, at just £26bn. We’re subsidising billions of pounds of R&D that isn’t even happening here in the United Kingdom. That’s unfair on British taxpayers.”

While it’s correct that there are issues with R&D reliefs, the cause of the problem isn’t necessarily research conducted abroad, but whether or not the research is conducted at all.

The total number of claims for R&D tax credits for 2019-20 was 85,900, with £7.4bn in relief claimed on £47.5bn of expenditure. The ONS estimates that businesses only carried out £25.9 billion of privately-financed R&D in the UK in 2019.⁶ Overseas expenditure can qualify for tax credits, and HMRC previously produced an initial estimate of £4 billion to £7 billion for overseas expenditure in the year ending March 2018. It is highly unlikely that the amount of overseas expenditure in 2019-20 was £21.6bn, the difference between UK R&D and total R&D claimed. Rather, the data points to large scale abuse.

The government said it would set out separate plans to combat abuse of R&D tax reliefs “later in the autumn”.

4 – Climate change given short shrift

With the UK hosting the 2021 United Nations Climate Change Conference, known as COP26, it seemed a little odd that there was so little on climate in the budget. A week prior to the budget, the UK Government had published its Net-Zero Strategy,⁷ with talk of “Removing dirty fossil fuels from the global economy.”

The chancellor failed to use the word “climate” even once during his budget speech. He did, however, reveal there would be a cut to the rate of air passenger duty on domestic flights, along with the cancellation of the planned rise in fuel duty.

Image by mohamed Hassan from Pixabay

1 Fraud and the Coronavirus Job Retention Scheme, Taxwatch, 12 May 2021, http://13.40.187.124/furlough_fraud/

2 Budget 2021, HM Treasury, March 2021, https://assets.publishing.service.gov.uk/government/uploads/system/uploads/attachment_data/file/966868/BUDGET_2021_-_web.pdf

3 Spending Review 2020, HM Treasury, 15 December 2020, https://www.gov.uk/government/publications/spending-review-2020-documents/spending-review-2020

4 TaxWatch to HMRC: Prosecute sellers of disguised remuneration schemes, TaxWatch, 02 October 2020, http://13.40.187.124/hmrc_loan_charge_fraud/

5 The management of tax expenditures, National Audit Office, 14 February 2020, https://www.nao.org.uk/wp-content/uploads/2020/02/The-management-of-tax-expenditure.pdf

6 Research and Development Tax Credits Statistics, HMRC, September 2021, https://www.gov.uk/government/statistics/corporate-tax-research-and-development-tax-credit/research-and-development-tax-credits-statistics-september-2021

7 Net Zero Strategy: Build Back Greener, Department for Business, Energy & Industrial Strategy, 19 October 2021, https://www.gov.uk/government/publications/net-zero-strategy