Two of the biggest changes in the merged scheme concern work done by people who are not the company's employees. The first decides who claims when R&D is contracted out: the company that made the decision to undertake it. The second decides where the work must be done: for accounting periods beginning on or after 1 April 2024, relief for contracted out R&D and externally provided workers is generally limited to work carried out in the UK. This page covers both, with the 65% rules and the exceptions.
What it is
| Category | Definition | Amount that qualifies | Location rule |
|---|---|---|---|
| Contracted out R&D | R&D the company engages another person to carry out, where the company decided to undertake it and it was contemplated or intended that R&D of that kind would be done | 65% of the payment to an unconnected contractor; the contractor's relevant expenditure where connected | UK only, with exceptions |
| Externally provided workers | Individuals supplied by a staff provider who are not employees of the company and work under its supervision, direction and control | 65% of the payment to an unconnected provider; the provider's relevant expenditure where connected | UK only, with exceptions; the test is where the worker's earnings are subject to UK PAYE |
| Own employees | Directors and employees of the company | Apportioned staffing costs | No location restriction |
Who it applies to
The decision-maker rule. Under the merged scheme, where one company contracts another to carry out R&D, the customer claims if it made the decision to undertake the R&D, and it was reasonable to assume when the contract was made that R&D would be needed to deliver it. The contractor can claim only for R&D that the customer did not intend or contemplate when the contract was made. This replaced the old rules under which large company customers could not claim for subcontracted work and SME contractors sometimes could.
Connected parties. Where the subcontractor or staff provider is connected with the company, the qualifying amount is the lower of the payment and the connected party's own relevant expenditure on the work, and the parties may elect to be treated as connected even if they are not.
How it works
The location restriction. Contracted out R&D qualifies only if the work is undertaken in the UK, and externally provided workers only if their earnings are subject to UK PAYE. There is an exception where the conditions necessary for the R&D are not present in the UK, are present in the location where the work is done, and it would be wholly unreasonable to replicate them in the UK. The conditions can be geographical, environmental or social, or legal or regulatory, for example a disease that does not occur in the UK, a sea depth, or a licensing regime; cost and the availability of workers are expressly not qualifying conditions.
| Overseas work | Qualifies? | Reason |
|---|---|---|
| Clinical trial in Kenya for a disease endemic there | Yes, exception | The patient population is not present in the UK |
| Deep-sea equipment test in Norwegian waters at a depth unavailable in UK waters | Yes, exception | Geographical condition |
| Software development by a contractor in India because it is cheaper | No | Cost is not a qualifying condition |
| Agency engineers in Germany because UK engineers were unavailable | No | Availability of workers is not a qualifying condition |
| The company's own employee working from Spain | Yes, as staffing costs | No location restriction on employees |
Mixed contracts. Where a contract covers both R&D and other work, or both UK and overseas work, the payment is apportioned on a just and reasonable basis and only the qualifying part is claimed at 65%.
Worked example
Illustrative example. Orwell Marine, a hypothetical UK company, decides to develop a new hull coating and contracts three parties in its year to 31 December 2025: Humber Labs, an unconnected UK laboratory, for formulation work at £120,000; a Dutch test tank for trials at £50,000, chosen because it was available sooner than UK tanks; and its connected Irish subsidiary for application trials at £40,000, where the subsidiary's own cost was £35,000. It also uses an agency chemist, UK based and on UK PAYE, at £60,000.
| Payment | Test | Qualifying |
|---|---|---|
| Humber Labs £120,000 | Unconnected, UK, Orwell decided to undertake the R&D | 65%: £78,000 |
| Dutch test tank £50,000 | Overseas; availability is not a qualifying condition | 0 |
| Irish subsidiary £40,000 | Connected and overseas; the location restriction applies regardless of connection | 0 |
| Agency chemist £60,000 | Unconnected externally provided worker on UK PAYE | 65%: £39,000 |
| Total | £117,000 |
Humber Labs cannot claim for the formulation work, because Orwell contemplated the R&D and decided to undertake it.
Common questions
We do R&D for customers. Can we ever claim? Yes, for R&D the customer did not intend or contemplate when the contract was made, including R&D you undertake on your own initiative beyond the contract. Read each contract.
Does the restriction apply to our own staff abroad? No. Staffing costs have no location test.
Our contractor sub-subcontracts abroad. Does that matter? The restriction looks at where the R&D is undertaken, so overseas work down the chain can fail it; ask the contractor where the work is done.
Related pages
Official sources
Educational content only, not tax advice. See the disclaimer.