Research and Development: Definition and Appeals
ANNEX 1 - EXISTING GUIDANCE IN INLAND REVENUE'S CAPITAL ALLOWANCES MANUAL ON THE MEANING OF `SCIENTIFIC RESEARCH'
Guidance on the meaning of `scientific research', based on advice from the Department of Trade and Industry and decisions of the Secretary of State, is set out in the Revenue's published Capital Allowances Manual. The relevant extract from CA5002 and CA5003 is reproduced below.
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Definition of scientific research |
5002. Scientific research is defined in the statute as "any activities in the fields of natural or applied science for the extension of knowledge". Activities are scientific research if they involve: |
| Section 139(1) CAA 1990 |
The application of existing principles in an existing area, however, is not regarded as scientific research, but rather as technological development. The essential test is innovation. |
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Fundamental research and prototypes |
5003. Scientific research includes the development of a piece of fundamental research up to the production stage. Expenditure on the construction of prototypes, pilot plant etc qualifies for scientific research allowances if the prototypes etc are used to test the results of the basic research or the possibility of applying the results of the basic research to manufacture. Expenditure on prototypes etc constructed to explore purely commercial possibilities does not, however, qualify for scientific research allowances. |
ANNEX 2 - DRAFT NEW GUIDELINES ON THE MEANING OF `SCIENTIFIC RESEARCH' AND `RESEARCH AND DEVELOPMENT'
Introduction
1. Science is the systematic study of the nature and behaviour of the material and physical universe, and technology is the practical application of science, especially in industry and commerce. The process by which new scientific and technological information is discovered, gathered and used involves theoretical conjecture, observation, experiment, measurement and deduction, and is referred to as research and development (R&D).
2. `Scientific research' as defined for tax purposes, and `R&D' as described above, are considered essentially to be one and the same. R&D is therefore creative work undertaken on a systematic basis in order to increase the stock of knowledge, including knowledge of man, and the use of this stock of knowledge to devise new applications. R&D may result in intangible as well as tangible outputs.
Definition of R&D
3. R&D is defined in terms of research and experimental development. Research is further divided into basic and applied research. R&D covers the following related activities.
Basic Research is experimental or theoretical work undertaken primarily to acquire new knowledge of the underlying foundation of phenomena and observable facts, without any particular application or use in view.
Applied Research is also original investigation undertaken in order to acquire new knowledge, but directed primarily towards a specific practical aim or objective.
Experimental Development is systematic work, drawing on existing knowledge gained from research and/or practical experience, that is directed to producing new materials, products and devices; to installing new processes, systems and services; or to improving substantially those already produced or installed which will lead to an extension of knowledge.
4. The following activities are subsections of basic research.
Pure-basic Research is defined as the advancement of knowledge without explicit orientation to long-term economic or social benefits and with no positive efforts being made to apply the results to practical problems or to transfer the results to sectors responsible for its application.
Orientated-basic Research is carried out with the expectation that it will produce a broad base of knowledge likely to form the background to the solution of recognised or expected current or future (practical) problems or possibilities.
5. Research and experimental development is distinguished from other related activities by the presence of an appreciable element of novelty and the resolution of scientific and/ or technological uncertainty, that is, where the solution to a problem is not readily apparent to someone familiar with the basic stock of commonly used knowledge and techniques in the area concerned.
Scope and nature of R&D
6. R&D is distinguished by the non-routine nature of the work and the novelty of what is being created in an atmosphere of technological uncertainty, and if successful will result in a technical advance.
7. The boundaries of R&D are illustrated by the following examples.
8. In medicine, routine testing (such as body scanning, autopsies or blood tests) is not R&D, but a special investigation to determine the effectiveness of a certain type of cancer treatment would be R&D.
9. For physical phenomena, routine monitoring such as daily records of temperature and pressure variation or quality control on material composition is not R&D. But a programme of work to investigate the effects of climate change, to devise new methods or instruments for measuring temperature and pressure, or for evaluating materials' properties would be R&D.
10. In engineering disciplines, R&D generally includes the development of a piece of fundamental research up to the production stage. For example, design and drawing work for the preparation, execution and maintenance of production standardisation (i.e. jigs and tools), or to promote the sale of products, does not constitute R&D. But if design, drawing and operating instructions are for the setting up and operation of pilot plant and prototypes primarily to test R&D hypotheses then they would constitute R&D.
11. Scientific and technical information services maintained to support a research laboratory would be included as R&D. But the activities of a firm's central libraries or documentation centre open to all staff would generally be excluded.
12. Software should be given equal treatment to other forms of technological activity. That is to say, for a software project to be classified as R&D it must achieve a scientific and/or technological advance, and form part of a project to resolve scientific and/or technological uncertainty on a systematic basis. Software R&D might also include developments in such areas as theoretical computer science, new operating systems, new programming languages, significant technical advances in algorithms, new or enhanced query languages, or object representations, software engineering methodologies for improved computer programmes and artificial intelligence. In this context, artificial intelligence might cover technical advances in such areas as machine vision, robotics, expert systems, the understanding of natural language and automatic language translation. So the development of, say, a new natural language interface for a computer game could still qualify as R&D even though the games application falls outside the areas normally associated with R&D.
Problems at the boundary of R&D and other related activities
13. Care must be taken to distinguish R&D from other activities which may be part of the innovation process. For example, in relation to development expenditure incurred on installation, R&D would not include installations based upon the use of well-established products or processes, which may only be new to the user and do not represent any departure from standard practice or any technical advance for the industry sector concerned.
14. There may also be difficulties in distinguishing experimental development from pre-production development. The basic rule here is to look at the primary objective of the work undertaken. If the primary objective is to make further technical improvements on the product or process, then the work comes within the definition of R&D (subject to the basic requirement that R&D has to include an appreciable element of novelty for the extension of knowledge). If, on the other hand, the product, process or approach is substantially set and the primary objective is to develop markets, to do pre-production planning, or to get a production or control system working smoothly, then the work is no longer R&D.
15. This is illustrated by the treatment of prototypes and pilot plant. A prototype is an original model constructed to have all of the technical characteristics of the anticipated new product. The design, construction and testing of prototypes would fall within R&D, but once any modifications necessary to reflect the test findings have been made to the prototypes and further testing satisfactorily completed, then the R&D phase has been completed and pre-production has begun. Similarly, pilot plant forms part of the R&D phase for as long as it is used to evaluate hypotheses, develop new product formulae, establish new product specifications, design special equipment and structures and prepare operating instructions or manuals on the process. Once this experimental phase is over, a pilot plant may begin to operate as a commercial production unit, at which point it no longer represents an R&D activity.
16. It is intended that research in the humanities and social sciences should generally be excluded but it is recognised that some aspects of the fields of natural or applied science require consideration be given to man-machine interfaces (i.e. virtual reality) and where such research forms an integral part of the natural or applied R&D it may be included.
Exclusions from R&D
17. R&D must be distinguished from a wide range of related activities. The following are examples of activities that are not R&D*:-
(1) education and training (although research by postgraduate students carried out at universities could be included)
(2) scientific and technical information services (unless they exclusively form part of the direct support for a research laboratory)
(3) general purpose data collection (although research to devise new survey methods or sampling methodologies could be included as R&D)
(4) testing and standardisation (although research to devise new methods of testing could be included as R&D)
(5) feasibility studies
(6) specialised (routine) medical care
(7) administrative and legal patent and licence work (although patent work connected directly with R&D projects is included)
(8) policy studies
(9) routine software development
(10) routine computer maintenance
(11) quality assurance
(12) the simple acquisition of rights in, or arising from, scientific research
(13) market research.
* Not all of these exclusions are relevant to determining qualifying expenditure for the differing purposes of section 136(b) CAA 1990 and section 508 ICTA 1988. In the latter case, criteria are set out in the DTI's Guidance Notes for Applicants.
18. The following are examples of commercial activities which are also excluded from R&D
(1) the range of commercial and financial steps necessary for innovation and the successful development and marketing of a new product, process or service
(2) the production and distribution of goods and services
(3) administration and other supporting services (with no exception for the management and distribution of R&D funds)
(4) general support services (such as transportation, storage, cleaning, repair, maintenance and security).
ANNEX 3 - A POSSIBLE NEW STATUTORY DEFINITION OF `R&D'
DRAFT CLAUSE: DEFINITION OF RESEARCH AND DEVELOPMENT
1. —(1) Subject to the following provisions of this section, in [this Part] "research and development" means any of the following activities—
(a) the systematic search for new knowledge or for new understandings of what is already known;
(b) the systematic search for new uses for what is already known or understood;
(c) the systematic search for new techniques for application in the use of any knowledge or understanding.
2. Subject to any order of the Treasury under subsection (9)(b) below, in this section references (however framed) to new knowledge, to new understandings and to what is known or understood shall be confined to knowledge and understandings of any of the following matters, that is to say—
(a) physical, chemical, biological or medical science;
(b) mechanical, chemical or electrical engineering, including electronics;
(c) technology, including information technology;
(d) such other matters as the Treasury may by order designate for the purposes of this section.
3. Subject to subsection (10) below, knowledge and understandings shall not be regarded as new for the purposes of this section unless—
(a) the search for them involves a significant amount of creativity, originality or innovation; and
(b) they do not already form part of the stock of human knowledge and understanding.
4. Subject to subsection (10) below, a use for any knowledge or understanding shall not be regarded as new for the purposes of this section unless—
(a) the search for that use involves a significant amount of creativity, originality or innovation; and
(b) that use has novel features which, in the case of knowledge or experience previously put to use, make it significantly different from any previous use to which the knowledge or understanding in question has been put.
5. Subject to subsection (10) below, techniques applied for any purpose shall not be regarded as new for the purposes of this section unless—
(a) the search for them involves a significant amount of creativity, originality or innovation; and
(b) they have novel features that make them significantly different from any techniques that have previously been applied for that purpose.
6. Subject to subsection (7) below, the activities which constitute research and development under this section include—
(a) in the case of activities within paragraph (a) of subsection (1), the verification of any new knowledge or new understanding carried out as part of the search for the knowledge or understanding;
(b) in the case of activities within paragraph (b) or (c) of that subsection, the determination of the viability or practicability of any new use or, as the case may be, technique carried out as part of the search for the new use or, as the case may be, technique.
7. Subject to subsections (8) and (10) below, the activities which constitute research and development under this section do not include—
(a) any activities carried on for the purpose of ascertaining whether a demand for a new product or service exists, the extent or nature of such a demand or the expenses of meeting such a demand; or
(b) any activities carried on for the purposes of or in connection with the commercial exploitation of something the commercial exploitation of which has already been decided upon or otherwise undertaken.
8. Activities shall not be excluded by virtue of subsection (7) above if the purposes falling within that subsection can reasonably be regarded as insignificant when compared with any other purposes for which the activities are carried on.
9. For the purposes of this section—
(a) medical science does not include psychiatry; and
(b) the matters falling within paragraphs (a) to (c) of subsection (2) above shall be treated as excluding all such other matters as the Treasury may by order describe for the purposes of this paragraph.
10. Nothing in this section shall require any activities carried on by any person to be treated as not being research and development by reason only that activities about which, or about the results of which, it would not be reasonable to expect that person to know are being or have been carried on by another person.
11. Any power of the Treasury under this section to make provision by order for the purposes of subsection (2) above shall include—
(a) power to make different provisions for different cases; and
(b) power to make such incidental, supplemental, consequential or transitional provision as they think fit.
ANNEX 4 - THE OECD FRASCATI MANUAL, 1993
1. What is commonly known as the Frascati Manual* was published by the OECD in 1993 under the title "Proposed Standard Practice for Surveys of Research and Experimental Development". The Frascati Manual was developed, and is updated from time to time, by a subcommittee of the OECD of which the UK is a member.
*"The Measurement of Scientific and Technological Activities, Proposed Standard Practice for Surveys of Research and Experimental Development" (The "Frascati Manual") 1993. OECD Paris, 1994, ISBN 92 64 14202 9
2. The Frascati Manual provides the internationally accepted standard by which R&D is defined and measured. The activities included under Frascati go wider than the statutory definition of scientific research for the purposes of the existing tax reliefs (see Chapter 2). The humanities and social sciences are included in R&D in Frascati, but are excluded from the definition of scientific research for tax purposes, since that is confined to "activities in the fields of natural or applied science".
3. The Frascati Manual is a technical guide for use by statisticians in compiling statistics on R&D for national purposes and for international comparisons. As such, it does not provide a readily accessible guide for use by tax officials, taxpayers and their advisers on the meaning of scientific research. It also contains other material, in particular on the measure of the spending on R&D, which is not relevant to the existing special tax reliefs for R&D. It is accordingly not considered appropriate to incorporate the Frascati Manual itself into the proposed new guidelines on the meaning of scientific research.
4. The approach taken is rather to base the guidelines on the activities which qualify as scientific research on the principles in the Frascati Manual. The draft guidelines at Annex 2 will form the principal guide for tax officials, taxpayers and their advisers on the meaning of the existing scientific research definition.
ANNEX 5 - SSAP 13
1. Standard Statement of Accounting Practice SSAP 13 (Accounting for research and development) is the accounting standard governing how any company discloses R&D, including guidance on when development costs should be capitalised. SSAP 13 requires very large companies (as defined) to disclose their spending on R&D in their accounts.
2. There is a free standing definition in SSAP 13 of R&D. SSAP 13 explains that this is based on the internationally accepted definitions set by the OECD (that is, in line with the Frascati Manual). The guidelines on R&D in Annex 2 will accordingly run in parallel with the definition of R&D in SSAP 13.
3. SSAP 13 also sets out the way in which spending on R&D should be treated in the accounts. There are various differences between these rules and the existing special tax reliefs for R&D in Chapter 2. The existing reliefs for revenue and capital spending on R&D are more generous in some cases than the accounting treatment in SSAP 13.
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