Research done by Beauhurst shows that startups receiving Innovate UK grants (a form of funding we’ll cover below), receive on average 15% more funding during equity rounds and reach an average valuation 30% higher than those businesses that haven’t received a grant. That research is online here (pdf).
While a lot of attention is dedicated to the process of achieving equity investment, it’s hard to find advice on the full variety of alternative funding options available to UK startups. This article aims to resolve that. It will cover the various forms of government funding available and under which circumstances it makes sense to apply for each.
It makes sense for all UK startups to consider Innovate UK and EU grants while in product development phase.
We recommend applying for R&D tax credits once you’ve spent more than £20,000 on developing your product.
Ensure your accountant is aware of the full variety of funding options available, or find one who is.
Funding Options Available
R&D tax credits
Innovate UK Grants
Innovate UK Loans
EASME (EU) Grants
R&D Capital Allowances
R&D Tax Credits
We recommend applying for these once you’ve spent more than £20,000 developing your product.
This is probably the most well-known route to government funding. R&D tax credits deliver either tax relief (if you’re profit-making) or cash credits (if you’re loss-making) on your expenditure for R&D. The value of the credit is typically around 30% of your business’ R&D expenditure. HMRC has specific definitions for what constitutes R&D, but typically the product and engineering activities of most tech startups qualify.
As the most common R&D costs for startups are engineering & product team salaries, at EmpowerRD we make the judgement that it’s worth applying for R&D tax credits once you’ve spent at least £20,000 on these roles. Although you can claim R&D credits having spent below that threshold, our view is that the cost of your time will likely exceed the value of the credit. It is also worth noting that you need to have closed your first year’s accounts to be able to make a claim.
There are three ways startups typically make a claim: claiming directly themselves, claiming with their accountant, or employing an R&D tax credit specialist. The rule of thumb we work to is that claims against £20-£50k of qualifying R&D expenditure can be handled internally or with an accountant, whereas claims on expenditure exceeding £50,000 should be handled by a specialist. HMRC’s level of scrutiny increases as your claim value increases, and so too does the possibility of missing out relevant expenditure and receiving less back than you are due for. However these are guidelines, and a number of factors may mean your case does not fit them - not least the expertise of your team or accountant.
There are numerous specialist agencies who can help with your R&D claim. At EmpowerRD we’ve deployed technology to improve the claim process, making it significantly more cost-effective and time-efficient in the process.
Innovate UK Grants
We recommend that all startups talk to the Knowledge Transfer Network to assess their eligibility for these grants.
Innovate UK is a national body set up to help stimulate innovation in the economy. They’ve invested over £2.5billion in the UK economy since 2007. The grants they provide to SMEs are designed to fund pre-commercialisation stage R&D e.g. feasibility studies, prototyping etc. The majority of grants are linked to a specific technology brief, but they also offer a smaller amount of “SMART” grants to all innovative SMEs. You can find the list of grant briefs on the GOV.UK website. The average grant size to SMEs in 2018 was £220,000. The range can be from £25,000 to £millions.
We recommend that all startups talk to the Knowledge Transfer Network about these grants. They’re a ‘delivery partner’ for Innovate UK. Their role is to inform businesses about the funding options available and can point you in the right direction for which grants may be applicable to your startup. They also offer advice on how to write grant applications.
Innovate UK Loans
The favourable terms of these loans may make them an attractive alternative to equity-diluting early venture rounds.
InnovateUK loans are designed to help innovative companies who have a working technical product and require funds for its commercial distribution. Loans vary in size between £100,000 and £1million. There’s a typical 7.4% interest rate with a 5-10 year repayment schedule, so the terms are typically favourable versus bank debt for the same business growth stage. Although of course, we recommend assessing all of your options before taking on a loan.
Depending on your business model and revenue forecasts, this may be an effective alternative to raising a seed round.
EASME (EU) Grants
Available even at business plan stage. Worth investigating early on.
While we remain a n EU member state, any SME can apply for the “SME instrument” grants provided by the European Commission. There are also sector specific grants. More details of these can be found on the EASME website.
Grants vary in size from €50,000 up to €2.5million depending on the stage of development. Phase 1 of the SME instrument applies to business plans and feasibility studies, so some EASME grants can be applied for even at the earliest stages of your business’s development.
As with Innovate UK funding, there are organisations (part of the “Enterprise Europe Network”) who are tasked with advising businesses on how to access this funding. These differ depending on which part of the country you’re in. A full list can be found here.
Look into this if you plan to apply for a patent.
Patent Box is a tax reduction designed to outweigh the costs of applying for a “qualifying IP right” most typically a patent. If granted, a company can apply a reduced corporation tax rate of 10% to worldwide profits arising from the invention. Any UK company can elect into the Patent Box.
Patent Box is designed to increase the margins of profit-making inventions. As a result, it may make sense to elect in once the patented invention has gained market traction. The impact of electing into Patent Box and when you elect in are quite complex so we recommend discussing this with an accountant or tax advisor with expertise in this area.
R&D Capital Allowances
These are most relevant to hardware startups investing in production machinery, or later stage businesses investing in internal IT systems.
R&D Capital Allowances provide a tax break for innovative businesses who invest in fixed assets to support R&D. The most common example for tech companies is the development of a bespoke internal IT system. More broadly, investment in a new plant or machinery for R&D can also be claimed.
The scheme offers 100% tax relief on the relevant capital expenditure . The commercial activity must meet the standard of innovation also required of R&D tax credits. This is likely to be most relevant to your business once you’ve reached a certain scale and invest in internal IT systems. Or if your business invests in machinery for production. We recommend talking with your accountant about this.
Author: Hari Sandhu, CEO and Founder, Empowerrd
EmpowerRD was founded with the belief that too much government funding was being taken by inefficient advisors who weren’t incentivised to lower their cut. We’ve deployed modern technology to deliver an improved R&D claims experience at a fraction of the cost of traditional advisors. EmpowerRD is a Forward Partners portfolio company.