Stage One Creative Services Limited v HMRC
Case number: TC09358
25 October 2024
Collins claimed under the SME scheme for 27 projects that were undertaken in delivery of construction contracts. The issue concerned whether the expenditure was subsidised 1052(6) and 1053(5) CTA 2009 (‘the Subsidised Condition’); or Contracted out sections 1052(5) and 1053(4) (‘the Contracted Out Condition’).
The burden of proof rested with the taxpayer to satisfy that, on the balance of probabilities, the expenditure was not subsidised or contracted out.
There were 25 different contracts but could be reviewed based on 4 more standard agreements. These set out
(1) that Collins shall carry out and complete both the design and the construction of the works.
(2) that in return for those works Collins is to be paid the contract sum.
(3) an analysis of the contract sum.
(4) documents describing the proposals by Collins for the design and construction which they are satisfied will meet in all respects the client’s requirements.
(5) that copyright in all the design documents remains vested in Collins, with a waiver provided for the client.
(6) very limited circumstances in which the Contract Sum may be adjusted, none of which were pertinent to the R&D activity.
Whilst HMRC witness statements detailed the history, provisions and intent of the scheme the tribunal commented its presentations provided limited evidential value when considering the matter at hand.
Mr Bartram, the MD and qualified Surveyor of Collins, detailed the process of tendering for work and when R&D arises. He concluded that the need for R&D only arises once the project has been won and price agreed.
He continued to show a grasp and understanding of those things that came up in projects that didn’t qualify as R&D. He described the process he had with advisors and how their approach was to challenge.
The case brought up similar issues to Stage One Creative, that the projects were loss making and not commercially viable
HMRC focused on the application of Section 1138(1)(c) where the expenditure is met “directly or indirectly” and should follow a logical, plain English interpretation.
Collins’ challenge to this was that the bargain made was specific and it is the deliverable that the clients pay for. The costs of R&D related to that deliverable has not been paid for as part of the contract, i.e. not subsidised and Collins cited the precedent set in Quinn (London) Ltd v HMRC [2022] SFTD 122 (TC) (Quinn)and endorsed further in HMRC v Perenco UK Ltd [2023] UKUT
Quinn ruled that expenditure is treated as subsidised in three sets of circumstance
(a) “if a notified State aid is, or has been, obtained in respect of – (i) the whole or part of the expenditure….”,
(b) “to the extent that a grant or subsidy (other than a notified State aid) is obtained in respect of the expenditure”, and
(c) “to the extent that it is otherwise met directly or indirectly by a person other than the company”.
Judge Morgan commented ‘However, in my view, on the natural interpretation of these provisions as viewed in the overall context of the SME scheme, it is apparent that s 1138(1)(c) is not intended to apply in circumstances such as those in this case, in the absence of a clear link between the price paid by the Client/customer and the expenditure on R&D:’
HMRC argued that Quinn and Perenco had been misplaced because
On contracted-out expense HMRC argued that the client had contracted Collins for the project and to achieve the desired outcome, any development work would be part of that agreement even if not specifically listed.
Collins response was that there was no basis for knowing if any R&D activity would be needed at the start of the project, so this cannot be factored into the price or have specific contractual terms to cover this at the time of contract was drafted.
HMRC pointed to A1 Lofts Limited v HMRC [2010] STC 214 which the FTT followed which set the logic of how to consider the identification of specific activities and it is a matter of contract to decide.
The FTT followed the principle in Redevco Properties UK 1 Ltd v HMRC [2023] UKFTT 665 and that the tribunal should follow the decision in Quinn, disagreeing with HMRC that the Quinn decision was wrong.
On the subsidised condition they followed Quinn under the same logic that the bargain made does not cover the specific costs and there is no agreement for the client to pay or reimburse those costs.
By adopting A1 Lofts, the FTT decided that considering the evidence it is unlikely that the R&D activities are known and agreed at the initial contract stage and is therefore not likely to fall in scope of the bargain.
The FTT agreed that as Collins continued to have ownership of the fruits of R&D and the lack of specific contractual terms, the bargain between the parties was not for Collins to undertake R&D activities on behalf of their clients.
They then turned to consider the relevant contracted our provision within s 1052 Qualifying expenditure on in-house direct R&D and s1053 (qualifying expenditure on contracted out R&D) and concluded that the contracts between Collins and their clients do not ‘contract out’ R&D activities and allowed the appeal .
This case demonstrates the point we often make that R&D tax relief can be complex and can fall into a grey area. This complexity is increased when consideration is made by a balance of probabilities, as opposed to a beyond reasonable doubt. This is helpful for businesses as shows once again, a reasonableness of the courts.
The new guidance issued affirms what the tribunal had to say and, going forward, this issue may well not come up. It will be interesting to see if HMRC look to focus their enquiry efforts in a different ‘grey area’ in the scheme or possibly sector…
Case number: TC09358
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Case number: TC09238