5 priorities for Kwasi Karteng to stimulate SME innovation

Traditionally, “supply side” economics prioritises tax cuts and deregulation; a “radical supply side agenda” presumably means radical shifts in legislation relating to business tax and bureaucracy. 

Here is our “radical” agenda to support a truly significant change in UK private sector innovation amongst SMEs, a programme that was launched well after other similar programmes in Canada, USA and France. So, the UK was late to the table and the programme, and how it is managed, is now in some areas outdated and looking ripe for reform. As HMRC makes the transition from “Her Majesty’s Revenue and Customs” to the next generation “His Majesty’s Revenue & Customs” is seems a fitting time for fresh thinking and also, again belatedly, to massively ramp up support for sustainability-related innovation and R&D.

Currently HMRC is pursuing an increasingly aggressive and “scattergun” approach to checking R&D tax credit claims. We fully endorse efforts to target fraudulent and erroneous claims – these need to be identified and purged - so funds can be allocated to legitimate claimants. However, the current random approach, backed with aggressively-worded and legally-presumptuous communication is, by mistake or design, targeting businesses who have made entirely legitimate claims. As a result, there are a number of business leaders who have been in contact with us and stated that they do not want the risk of being drawn into an HMRC investigation, despite already putting in fully evidenced claims for which they are 100% eligible. In essence legitimate claimants are being punished and disincentivised, because HMRC’s historic compliance processes and resources were not fit for purpose and their response could be seen as being unprincipled, heavy-handed and unfocused. It is a bad look. HMRC fails to pick up on large scale fraud, so legitimate claimants are directly penalised and put off.  The alternative, we would suggest, is a targeted data-driven approach; less force, more finesse. An approach which will get better results in the long term, with less unintended negative consequences.

Government departments have already demonstrated that they can automate and massively improve the experience and outcomes related to taxation. Just look at the DVLA and the profound improvements in the “customer” experience related to VED, MOTs and other vehicle-related taxes and administration. HMRC need a similar approach to customer service, transparency and automation. This would be made simpler with the implementation of the oft-promised bonfire of bureaucracy and a huge reduction in the complexity of the UK tax code, which is cited often as a key factor in the difficulties faced by UK businesses and by HMRC as they struggle to navigate arcane, labyrinthine rules and nuances. A more efficient process for tax returns and tax reliefs would have a number of benefits: 1) a reduction in the cost of running business tax and rebates 2) the refunds and tax code reductions for business would be quicker, enhancing UK limited companies cash flows – putting vital funds back into the economic system to support timely investment and long term business success 3) Company leaders would be better incentivised to claim the rebates that they deserve, with a simpler, quicker and more transparent process, and therefore the businesses that are innovating would receive the rebates and tax reductions that they need to sustain and increase investment.

The current definition of what constitutes an SME business, for the purpose of R&D tax relief, is both woefully outdated and anachronistic. Established in 2008 – sounds recent but is 14 years ago - the financial boundaries for what defines an SME, and therefore which business can claim the more generous R&D Tax Relief as opposed the larger company RDEC scheme, are historic and need a very significant review to bring more businesses into the frame for this important relief. Based on UK inflation since 2008, and the current high inflation rates that all businesses are facing, we recommend a minimum 33% increase in the current SME definition criteria for turnover and balance sheet assets. And while doing that – how about changing the criteria to be in Sterling, to ensure that we have a stable set of financial criteria that are not impacted by the vagaries and often significant shifts in the value of the Euro on the global currency markets? Whatever one’s political believes on Brexit, pegging R&D tax relief to the Euro feels incongruous and backward-looking. Now we are no longer part of the EU and have never had the Euro as our national currency it would be an important simplification and a symbolic change. Symbolic it may be, but symbolism and relatability matter when it comes to incentivising small business leaders, people who have emotions and, yes, prejudices, to engage in any tax relief programme.

Today the UK economy risks being crippled in the short term by energy prices and price volatility, plus in the longer term by climate change. In 2022, businesses face huge energy cost increases, even despite the best efforts of business leaders to be more efficient and recent government energy announcements to mitigate the impact of massive wholesale price rises. There is a huge potential upside in increasing private sector innovation and investment in alternative transition or energy efficiency programmes for economic success, tax take and the strategic security of the nation. We suggest that Kwasi Kwarteng should reset the criteria related to R&D tax relief and increase the tax rebate available where an innovation programme directly relates to energy efficiency or alternative energy - switching away from unsustainable gas supplied and other fossil fuels. Business energy use, cost and sustainability are economic, geo-strategic and climate imperatives. Imperatives and opportunities that a radically re-imagined R&D tax programme could directly and positively impact.

This recommendation is not directly in our interest, as our fees are pegged to the R&D tax relief that our customers claim; higher corporation tax rates mean that the value of individual claims made will increase. But, if Kwasi Kwarteng is following – in his own words - “a radical supply side agenda” to stimulate investment, jobs and growth, it would seem simpler and more sensible to follow the policy logic. Cancelling the corporation tax rate rise will put back £21billion in tax into hard pressed businesses’ balance sheets in 2022/23, will save an estimated £50 million adjustment cost that UK businesses will have to absorb. This change will naturally encourage more innovation and investment, with private capital being invested locally and not absorbed into a central amorphous tax pool.

The UK economy faces a huge range of direct and growing challenges. Stagnant growth, economic uncertainty, desperate energy cost inflation, ongoing labour shortages, industrial action, wage bill rises, sustainability and climate change, a rapidly rising cost of capital with higher interest rates, ongoing post-Brexit adjustments and a chronic failure to truly develop our national productivity rates. 

The competitiveness of small businesses – the real backbone of the UK economy - is at direct risk. We are facing a set of changes to the R&D tax relief programme, from 1st April 2023, that when seen in the context of the 2022 economic challenges, just tinker at the edges. All while a growing cadre of HMRC’s keen new compliance officers bear down on legitimate R&D tax relief claimants, with a seemingly unsophisticated and untargeted approach. 

Minimal pending positive changes to the R&D tax relief scheme (albeit very welcome to see advanced cloud computing, data and analytics included, belatedly), an economic tsunami in which UK businesses will be harder pressed to find spare capital to invest in innovation, and an unprecedented acceleration in indiscriminate, sometimes unwarranted, HMRC compliance enquiries. If you wanted to disincentivise innovation it might be hard to imagine circumstances and policies that are better designed to achieve exactly that aim.

Kwasi Karteng’s in tray will be groaning – almost literally one imagines – but with clear-sighted, decisive action he can be a true change-maker. A Chancellor who not just reacts to a crisis (take a bow Rishi) but changes economic foundations and leaves a positive mid-term legacy. By radically evolving the design and delivery of the UK’s R&D tax relief programme, Kwasi Kwarteng could directly support a much-needed acceleration in investment in innovation and R&D via the private sector and begin to defibrillate the UK economy.