R&D (Research and Development) means the discovery and creation of new knowledge to uncover and enable the development of new products, processes, and services, or the improvement of existing ones.
In business, R&D is the first stage of the development of a potential new product or service. Businesses will research their target market, along with customer needs and pain points to develop new and improved products and services, with the end goal of successfully bringing them to market.
R&D is important for businesses to remain competitive, and of course, to increase their profit. However, it does often bring some risk due to the uncertainty of the project. Businesses can’t be sure whether their goals are feasible and whether they’ll ultimately achieve their objectives.
In this article:
What is R&D for tax purposes?
The UK government introduced R&D tax credits in 2000 to stimulate innovation in the UK economy. R&D tax credits are available to limited companies in the UK with an eligible R&D project.
HMRC’s definition of Research and Development for tax purposes is when “a project seeks to achieve an advance in science or technology.” With this in mind, to get an indication of whether your project could qualify as R&D in the eyes of HMRC, we would advise looking at the following three criteria regarding your project:
- Is there a high degree of uncertainty? For your project to qualify, you will need to have tried to overcome some form of scientific or technological uncertainty. If the outcome of your project was a foregone conclusion, with success guaranteed, it is unlikely to qualify. With uncertainty comes risk, so the good news is that it doesn’t matter whether your R&D project is successful. What counts is just that you have tried to overcome this uncertainty. Only the costs incurred within the R&D project are considered, not the outcome of the project itself.
- Will it drive competitive innovation? Your R&D project should aim towards a genuine innovation that hasn’t been seen elsewhere. The new or modified product, service, or process should make an advancement in its field.
- Does it require experienced professionals? The uncertainty (challenge) should not be easily worked out by a professional in that field. Instead, they should require competent professionals, which indicates that the advance was challenging to achieve. A competent professional is expected to be knowledgeable about the relevant scientific and technological principles involved, be aware of the current state of knowledge, have accumulated experience and be recognised as having a successful track record. Simply having worked in a field or having an intelligent interest in it does not, by itself, make a person a competent professional.
Any project that involves substantial innovation should be eligible, as long as it is scientific and technical and not just an aesthetic or cosmetic enhancement. Learn more in our guide to R&D tax credit eligibility.
Which industries can claim R&D tax relief?
R&D tax credits are claimed by organisations across all sectors. Any organisation that seeks to research or develop an advance in their field can qualify, and claim on both successful and unsuccessful projects.
In 2022-2023, a total of £7.5 billion of R&D tax credits were claimed. Most commonly, R&D tax relief is claimed by companies in software development, manufacturing, engineering, construction, and pharmaceuticals. See our case studies to learn about some of the claims we’ve supported for companies across a range of sectors.
When claiming R&D tax credits, there are often questions as to what counts as R&D. If you think you might have a qualifying project, get in touch with one of our team for a free eligibility assessment.
Which businesses do R&D?
Large corporations have dedicated R&D departments so their innovation is more visible. However, research by the US Small Business Administration shows that small businesses actually have more patents per employee than larger firms. This is often so that small businesses can carve out a niche in competitive markets.
Benefits of R&D
Developing new products or services
A straightforward way to measure the impact of R&D is to track revenue from new products or services. Look at total sales and how these new products affect overall profitability.
Improving processes
R&D can also focus on internal processes – often reducing costs. For example, creating a bespoke software platform to automate customer service will not only streamline operations, but it can be R&D as well if it involves a technological advance.
Ancillary benefits
Some R&D projects don’t deliver commercial success but they still add value by:
- Showing a particular product direction is unviable, therefore saving future time and resources.
- Giving insights into where your industry is heading so you can plan long-term.
Other ways R&D benefits your business
- Hiring: Innovative companies attract top talent – especially in technical roles.
- Brand awareness: Demonstrating innovation can boost your public profile and PR.
- Partnerships: New technologies can open doors to collaborations with universities, public bodies or other businesses.
- Attracting external finance: Venture capitalists and other investors are often drawn to companies with strong R&D pipelines expecting future growth.
When R&D might not be suitable
Not all sectors will benefit equally from R&D. In low-tech or service-based businesses (e.g. a restaurant chain), large-scale R&D might not deliver enough return to justify the investment.
Investing the right amount in R&D
Even in suitable industries, striking the right balance is key. Over-investing in R&D can lead to diminishing returns. On the contrary, under-investing in R&D might stifle innovation and future growth.
How R&D benefits the economy
1. Strong additionality ratios
According to HMRC’s most recent evaluation of R&D tax reliefs (August 2022), every £1 of R&D tax relief generates between £1.80 and £2.20 of additional R&D spending. No subsequent HMRC publications have updated or replaced these 2022 figures so these are the most up-to-date official numbers. This shows how R&D tax relief really does drive private sector investment in innovation.
2. Industry-wide and regional spillovers
When one company makes big R&D strides those benefits can apply to competitors, suppliers and partners. Studies show that companies near R&D-intensive companies often experience higher turnover and productivity growth – evidence that innovation radiates outwards and strengthens local and regional economies.
3. Attraction of talent and investment
Companies doing genuine R&D are more attractive to skilled professionals, venture capitalists and other funding sources. A track record of innovation can open doors to partnerships, raise your business’s profile and drive long-term growth.
4. Diversification and resilience
Investing in R&D allows you to broaden your product or service offer, reducing reliance on a single product. This diversification can help you adapt quicker to market changes and stay competitive even in tough economic times.
5. Steady growth path
R&D isn’t just for immediate returns; it’s an investment in the future. Even if an R&D project isn’t commercially successful it can yield valuable learnings, generate new ideas and inform better decisions in product design, process optimisation and long-term strategy.
