SMEs Facing Government-Imposed “Innovation Wasteland”

The majority of Small or Medium-sized Enterprises (“SMEs”) expect their R&D investment to be severely diminished as a direct result of the government’s plans to reduce the rates of R&D Tax Credits, according to new research by the Federation of Small Businesses (“FSB”) published in late February. In a press release outlining its findings, the organisation raised its concerns that the proposed changes will undermine innovation and the United Kingdom’s competitive standing.

Disincentive for SMEs

Fiscal moderation plans were first announced by Chancellor of the Exchequer, Jeremy Hunt, in August 2022 and included a reduction in the relief that will be available for UK SMEs under the R&D Tax Credits regime. Indeed, the rate reductions have already been included in Finance Act 2022 and are set to take effect from April 2023.

The results from research undertaken by the FSB confirms a difficult knock-on effect from the proposed cuts, as one in five small firms are heavily considering the viability of their UK operations. To further compound matters, around 64% of those SMEs surveyed are now less likely to invest in R&D.

As R&D is a key tool used by SMEs to break the barriers to entry into new sectors, improve existing products and/or services, FSB members have raised additional concerns about the shrinking UK competitive advantages that had been available to SMEs.

Support for Start-ups and Scale-ups

The FSB research confirmed that “around 30% of small firms claiming R&D tax relief are new claimants”. Whilst some of these companies may have been operating for some time, many of these companies will be start-up or scale-up SMEs that often utilise R&D Tax Credits to support future growth plans. It is imperative that the Chancellor does not hinder the growth plans for these companies as they will be the unicorns of the future – not only delivering revenue, jobs and tax receipts – but also innovative breakthroughs in key areas such as the energy, engineering and medical sectors.

Many of these smaller SMEs are considering pivoting away from R&D to lower risk operations as the support for R&D activities decreases. Unfortunately, this shift may well lead to a reduction in jobs for higher skilled workers too.

An Innovation Wasteland

There have already been calls from several affected firms and several important voices have been adding their perspective to the situation to highlight the expected effects for SMEs who may compete with global or large-scale companies.

Martin McTague, National Chair of the FSB, went as far as to say that the UK could be facing an “innovation wasteland if Jeremy Hunt does not take control of Treasury innovation policy and restore the single most successful industrial policy of the last decade”. The changes, he says, are “not worthy of a country with our history of innovators”. We could see many of these innovators pursuing their R&D within other countries, leaving us behind in the future.

The growing pressure on the chancellor may well be making an impact however, as sources close to HM Treasury and HM Revenue and Customs have suggested that additional support may well be provided to SMEs operating in high-innovation sectors. This is certainly something to watch out for the 2023 Spring Budget.

Preparing For The Future

During challenging economic conditions, support such as R&D Tax Credits prove invaluable to SMEs. Indeed, Martin McTague commented that his “members tell him the tax credits scheme is more accessible and useful than grants”.

R&D Tax Credits may support operational activities but can also provide an incentive for new, innovative activities and provide a chance for SMEs to continue their missions.

The FSB is just one voice of many across the country raising the alarm on the government’s plan. At Momentum, as specialist R&D tax credit consultants we too, have been working with other organisations to represent SME business interests and concerns by submitting evidence to the Treasury’s review of the R&D Tax Credits regime.

Please let us know how your business is being affected by the new restrictions.