Understanding the Accounting Treatment for R&D Tax Credits

27 September 2023

How you record the accounting treatment for R&D tax credits depends on which incentive you’re eligible for either RDEC for larger companies or the SME scheme for small businesses. R&D tax credits can be received as either a cash injection or a reduction in corporation tax. This article will provide you with the essential information about how to perform double-entry accounting for R&D tax credits so you can create a successful claim and receive the financial benefit you’re entitled to!

The difference between the accounting treatment for R&D tax credits under RDEC and the SME scheme

There are two tax incentives under R&D. If you are a larger company, you’ll be claiming under the Research and Development Expenditure Credit (RDEC). While there are some exceptions to this, most small and medium enterprises who engage in R&D activities will claim for the SME scheme as they meet this eligibility criteria. 

The main difference between the R&D tax credit accounting treatment under RDEC and the SME scheme is that R&D tax credits are treated as a “below the line” benefit whereas for RDEC it is considered “above the line”. The SME R&D tax credit is treated as an 86% tax deduction in the computation. Meanwhile, the RDEC tax credit is treated as income (currently 20% from April 2023) in the income statement. 

Let’s explore this in more detail.

R&D tax credit accounting treatment for SMEs

The good news is, the accounting treatment for small and medium-sized enterprises is actually quite straightforward! To put it simply, R&D tax credits (the financial boost you receive), are non-taxable so they will only affect your tax liability. In other words, your R&D tax credit is not taxable income. It is a below-the-line benefit and will be shown in your income statement (also known as your profit-and-loss account) either as a Corporation Tax reduction or a credit. Eligible costs are essentially written off as expenses so you get a lot of this money back. 

You can claim for R&D over two tax years, and your R&D result will affect adjustments to your corporation tax that may have already been paid. If your R&D tax credits do change your corporation tax liability, you can include a prior year adjustment, once your R&D claim is completed and processed.

Double-entry accounting treatment for SMEs

Since SME relief lowers your tax obligations, which is categorised as a below-the-line relief, it should be accounted for in the tax section of your profit-and-loss (P&L) statement.

An example of your pre-R&D claim tax charge to the accounts 

• Debit (Dr) – Total Corporation Tax (CT), recorded in the balance sheet
• Credit (Cr) – Additional CT, recorded in the P&L statement

And when you receive SME relief from HMRC

• Debit (Dr) – Bank, documented in the balance sheet
• Credit (Cr) – Total CT, documented in the balance sheet

R&D tax credit accounting treatment for RDEC

On the flip side, the accounting treatment for R&D tax credits becomes slightly more complicated under the Research and Development Expenditure Credit (RDEC) which is designed for larger companies. 

This is because an RDEC claim is classed as taxable income, an above-the-line benefit. This means that the R&D credits that companies receive under RDEC should be classed as credit when calculating the pre-tax profit. Essentially, the R&D tax credits from RDEC increase income.

Since RDEC is considered taxable income, there are two approaches for incorporating it into your company’s financial statements. One option is to treat your RDEC claim as additional income, while the other is to subtract the amount from your R&D expenses. It is advised to work with an R&D tax credit specialist to help you navigate the complexities of claiming under RDEC to prevent any costly mistakes and ensure your claim aligns with your business goals.

The options for accounting for RDEC

Similar to the SME credit, you have the flexibility to finalise your R&D claim calculation in advance to reflect an accurate figure in your financial statements and provide a reasonable estimate which many companies do because they weren’t aware of the R&D initiative at the time, or opt to make a prior-year adjustment at a later time. You’ll need to decide on what option is most appropriate for your business. It needs to be documented in your profit and loss statement either as income or taken off the R&D expenditure total.

Double entry accounting treatment for RDEC

To post a company’s tax (pre-R&D claim) 

• Debit (Dr) Corporation tax charge (profit-and-loss statement)
• Credit (Cr) Corporation Tax (balance sheet)

To decrease a company’s tax liability in accordance with its R&D claim

• Dr Corporation Tax (balance sheet)
• Cr Corporation tax charge (profit-and-loss statement)

In case of receiving a tax return

• Dr Bank (balance sheet)
• Cr Corporation Tax (balance sheet)

When R&D credit is anticipated to be paid 

• Dr Corporation Tax (balance sheet)
• Cr Corporation tax charge (profit-and-loss statement)

When R&D credit is received  

• Dr Bank (balance sheet)
• Cr Corporation Tax (balance sheet)

How do I record my R&D tax credit claim?

The methods for accounting for your R&D tax credit are dependent on when you complete your claim. In the case of a limited company, the typical deadline for filing annual statutory accounts typically precedes the deadline for the Corporation Tax Return. Therefore, the manner in which you present your tax credit or reduction on your profit and loss statement also referred to as an income statement, is contingent on when you compute your R&D expenditure. The key to simplifying the accounting treatment for the R&D tax credits is to create documentation at every stage of your R&D process.

Do you need any assistance with the accounting treatment?

The R&D tax credit incentive has a wide breadth of eligibility. What puts businesses off from creating a claim is either a lack of awareness of R&D or they are put off by the complications within the R&D tax credit accounting treatment. The expert team at Alexander Clifford can streamline the entire process for you with our in-house finance and technical experts who collectively make a confident claim for you that is accurately accounted for. Our stringent processes have already retrieved over £83 million for our clients across the UK, now it’s your turn! Contact us today to find out how we can help you receive the financial reward for your innovation while preventing enquiries from HMRC.