Stage One Creative Services Ltd (hereafter “SOCS”) was an engineering company specialising in the provision of engineering, construction and automation solutions for live events and installations. SOCS regularly took commissions to develop projects which had no precedent with no certainty of whether the projects could be delivered.
Overview of the case
- SOCS made an R&D claim under the SME scheme for the accounting periods ended 31 December 2017, 2018, and 2019.
- HMRC rejected these claims stating that the expenditure was ineligible for relief as it was subsidised indirectly by clients and the R&D was contracted out SOCS.
- SOCS appealed this decision stating that the expenditure was neither subsidised nor contracted out to SOCS.
- HMRC opened discovery assessments into the 2017 and 2018 accounting periods for an overpayment of R&D tax credits for 2018 and a removal of the 2017 claim resulting in tax being payable due to incorrect tax returns.
- SOCS also appealed these assessments stating that the R&D claims on the returns were prepared in accordance with Practice Generally Prevailing (PGP) at the time and as such the returns were correct and the discovery was not validly made.
Key points of the Case
Subsidy Condition
- Throughout this case, SOCS relied on the decision in Quinn citing that HMRC’s interpretation of the subsidised condition was incorrect. They cited Judge Morgan’s statements for the Quinn case, effectively stating that for expenditure to be met indirectly there needs to be a direct link between the price paid and the R&D costs. SOCS reiterated the judges’ statement indicating that HMRC’s approach limited the scope of enhanced R&D tax relief claimable.
- HMRC initially relied on the decision in Hadee when closing the enquiry, and at the hearing argued that payments made for wider commercial projects inherently included payments for the R&D, effectively meeting costs indirectly. They explicitly rejected the need for a clear link between funds and the R&D expenditure as determined in the Quinn and Collins Construction cases. They further cited that there was an error in law in the Quinn case consequently making the decision a wrong one.
- The Tribunal however, agreed with and adopted the same approach as in Quinn, rejecting HMRC’s arguments, stating that they did not accept there was an error of law in Quinn. The tribunal asserted the need for a clear link between funds and their use in the R&D project. The tribunal further found that the decision in Hadee was not relevant as the basis for it was the lack of documentation, whereas this case had an abundance of documentation. The tribunal found that similar to Quinn, the price of the project did not cover the costs of R&D and there was no expectation of reimbursement or payment for R&D from both parties.
- The tribunal concluded that the R&D was not subsidised and SOCS could claim for the expenditure.
Contracted Out condition
- HMRC reprised their argument that contracts did not need to explicitly state that the R&D was contracted out. They argued that once R&D was undertaken to fulfil contract obligations, the R&D was contracted out.
- The tribunal disagreed and adopted the same approach in Quinn and Collins, considering the surrounding circumstances such as ownership of IP, economic risk, autonomy and technical expertise of both parties. As these were found to be in favour of SOCS, the tribunal concluded that the R&D was not contracted out and SOCS was allowed to claim the expenditure.
- The tribunal stated that HMRC’s approach would prevent enhanced R&D relief from being claimed, when undertaken in fulfilling a contract with another party.
Discovery Assessment
- HMRC argued that it had always been their approach since 2000 to only consider projects unconnected to clients to be qualifying for SME relief and that the R&D reports provided by SOCS lacked detail and justification for deeming the projects to not be subsidised or contracted out per their longstanding interpretation.
- SOCS disagreed counter arguing that the report had enough relevant detail and was based on the PGP at the time outlined in the old CIRD and amplified by the Research & Development Consultative Committee (“RDCC”) meeting in October 2013. SOCS stated that HMRC had radically changed their guidance in November 2021 which was after the relevant periods and wanted to apply this new approach to past claims.
- The tribunal assessed HMRC’s guidance pre-November 2021, the amendments made on 30 November 2021, reactions from tax advisors and the ICAEW as well as evidence from HMRC on their approach. If there was PGP at the time and HMRC had changed their approach, then based on evidence provided by SOCS, the discovery assessment was not validly made.
- The tribunal concluded that based on amendments to the guidance it was clear HMRC had changed their approach to both the subsidised and contracted out condition. The tribunal stated there was clear PGP pre-November 2021 and SOCS’s returns were prepared accordingly. The discovery assessments were not validly made.
Case takeaways
The tribunal decisions in Collins Construction and SOCS have reinforced the ruling in Quinn, affirming it as the correct interpretation of the law on subsidised and contracted-out expenditure, a win for taxpayers. The tribunals further stated that HMRC’s interpretation of the law was incorrect and unjustified.
In their most recent update, HMRC have decided not to appeal SOCS and released updated guidance in February 2025.
If you need any advice or have any questions regarding how these recent ruling or the incoming merged scheme might affect your R&D tax relief claim, please feel free to contact rdtax@ct.me
