R&D tax credits under FRS 105, IFRS and FRS 101: where the treatment differs from FRS 102

The answer is the same in outline under every UK framework: the merged R&D expenditure credit is income above the line, ERIS sits in the tax line, and no accounting standard names either of them. Three things change. A micro-entity using FRS 105 books the credit to a caption called Other income and cannot recognise deferred tax at all. An IFRS reporter has an option UK GAAP does not offer: it may deduct the credit from the R&D expense rather than show it as income. And an FRS 101 subsidiary applies IFRS recognition and measurement but, in our view, cannot use that netting option, because its accounts are Companies Act accounts.

Everything the frameworks share — why the credit is above the line, when to recognise it, what lands in the tax charge — is on our guide to accounting for the merged credit under FRS 102. This page states only what differs.

Which framework changes what?

How does FRS 105 change the answer for a micro-entity?

In five ways, and one of them closes an argument the other frameworks leave open.

The caption is different. The micro-entity profit and loss account has eight lines: turnover, other income, cost of raw materials and consumables, staff costs, depreciation and other amounts written off assets, other charges, tax, profit or loss. There is no “other operating income” heading, so the credit goes to Other income.

The balance sheet says less. The micro format shows current assets as a single figure, with no debtors caption, so the amount recoverable from HMRC is recognised but never shown on its own line. Keep the split between cash expected and corporation tax discharged on your own working papers.

Development costs cannot be capitalised. FRS 105 prohibits recognising an internally generated intangible asset and requires research and development spend to be written off as incurred. That removes the choice FRS 102 reporters have to settle — credit to income in the year of the spend, or spread over the life of the asset it funds. With no asset, there is nothing to spread.

Grant accounting applies more directly. FRS 102 puts assistance delivered through the tax system outside its grant section altogether, so the treatment there is reached by analogy. FRS 105 has no such exclusion, and no choice of grant model either. The destination is the same — income in the year of the spend — but a micro-entity has less to argue about how it got there.

And deferred tax is prohibited outright — the standard says so in one sentence. So the question that occupies loss-makers under every other framework, whether the notional tax withheld from a payable credit is an asset or just part of this year’s charge, does not arise. It is part of the charge.

The micro-entity minimum accounting items are presumed by the Companies Act to give a true and fair view, so nothing obliges the company to say where the credit went. That saves work, at the cost of visibility: a lender or a buyer reading the filed accounts sees a figure for Other income and no way to tell how much of it is the credit. Where the figures drive someone else’s decision, give them a schedule.

More claimants sit inside the regime since the thresholds rose. A company now qualifies if it meets two of three conditions — turnover not more than £1 million, a balance sheet total not more than £500,000, and not more than 10 employees. The first two figures were £632,000 and £316,000, and the new ones apply to financial years beginning on or after 6 April 2025. After a company’s first financial year, meeting the conditions or ceasing to meet them changes its status only if it happens two years running. Size is not the only gate: a company whose accounts are consolidated into group accounts cannot use the micro-entity provisions at all, and there are other exclusions besides.

Do small companies under FRS 102 Section 1A do anything different?

Not on recognition or measurement. Section 1A governs presentation and disclosure only; every other requirement of FRS 102 still applies, so the credit is recognised at the same time, for the same amount, in the same place. Disclosure is what falls away: a small entity is not specifically required to give the disclosures in the rest of FRS 102, and Section 1A’s own minimum list does not reinstate them. That includes the government grant disclosures, which the credit only ever borrowed by analogy in any case. The accounts must still give a true and fair view, and the standard says a small entity may need one of those disclosures anyway where the item is material. So where the credit moves operating profit, an accounting policy note earns its place.

IAS 12 or IAS 20 — which applies to an IFRS reporter?

Neither, directly. IAS 20 excludes government assistance available in determining taxable profit or determined or limited by reference to income tax liability, and gives investment tax credits as an example. IAS 12 says outright that it does not deal with the methods of accounting for investment tax credits. The credit falls into the gap between them, and IAS 8 then requires management to develop a policy by judgement, referring first to standards dealing with similar and related issues.

That gap was mapped before the credit existed. HM Treasury’s 2012 response to the “above the line” consultation names both standards, records a majority of respondents treating the credit as an investment tax credit outside both, and concludes that a fully payable credit could still be presented above the line under UK GAAP and IFRS alike. No accounting standard has named the credit since, in UK GAAP or IFRS.

Can an IFRS reporter net the credit against R&D costs?

Yes, and it is the one place where IFRS and UK GAAP genuinely part on the face of the profit and loss account. IAS 20 lets a grant related to income be shown as income, separately or under a general heading such as Other income, or deducted in reporting the related expense; both methods are acceptable. Apply IAS 20 by analogy and the netting option comes with it. FRS 102 offers no equivalent choice, in our view, and our FRS 102 guide sets out the residual argument the other way.

Two companies with identical claims can therefore report different operating profits and different R&D costs. Netting suppresses the gross R&D expense, which matters wherever that figure is itself reported — a segment note, an R&D-spend ratio quoted to investors, a covenant. Choose deliberately, disclose the choice, and hold it.

Why does an FRS 101 subsidiary lose that option?

Because FRS 101 accounts are Companies Act accounts, not IAS accounts. FRS 101 applies IFRS recognition, measurement and disclosure with a set of exemptions, but statements prepared under it must comply with the Companies Act and the Large and Medium-sized Companies and Groups Regulations, and must follow the company law formats. Those regulations prohibit setting income off against expenditure, and supply “other operating income” as the caption. A subsidiary may adapt the formats and present under IAS 1 instead, but the prohibition on offsetting survives the adaptation, so the netting option does not come back with it.

So a group can net the credit in its consolidated IFRS accounts while its UK trading subsidiary shows the same credit gross in its FRS 101 accounts. Same recognition, same measurement, different face of the profit and loss account. That is our reading rather than a published rule, so settle it when the group reporting pack is designed, not at the subsidiary audit, and record the policy in both sets of accounts.

What happens to the notional tax under IAS 12 versus FRS 102?

Under FRS 105, nothing: there is no deferred tax, so the notional deduction is part of the tax charge.

Under FRS 102 and IAS 12 the recognition threshold is the same in substance: a deferred tax asset is recognised only to the extent that recovery is probable, and both standards warn that unrelieved losses, or a history of recent ones, are evidence that the profits may not arrive. Disclosure is where they part company. IAS 12 requires disclosure of the amount of the asset and the evidence supporting it, but only where two things are both true: the company has made a loss in the current or preceding period, and using the asset depends on future taxable profits beyond those that reversing taxable temporary differences will already produce. One without the other does not trigger it. FRS 102 has no equivalent requirement, so the IFRS or FRS 101 reporter that recognises an asset on that basis has to show its working.

One older argument is worth naming. HM Treasury’s 2012 response records the point that where part of a credit can only be turned into money by a company with a corporation tax liability, that part might belong in the tax line under IAS 12 rather than above it. On our reading the notional tax withheld from a loss-maker’s payable credit is that kind of amount: it can be surrendered to a group company or set against the company’s own corporation tax later, but it is never paid out. An amount held back by the PAYE cap is different — it is added to the next accounting period’s credit and can still be paid in cash. The mainstream treatment puts the notional tax in the tax charge anyway, which is part of why it has held.

Does ERIS sit anywhere different?

Not in UK GAAP. ERIS sits below the line under FRS 105, FRS 102 and Section 1A alike: the extra deduction never reaches the accounts, and the payable credit, which is not taxed, goes in the tax line — labelled simply Tax in the micro-entity format. An IFRS or FRS 101 reporter has more to think about. ERIS is computed on a surrendered loss rather than on taxable profit, which leaves it in the same gap between IAS 12 and IAS 20 as the merged credit. The tax line there is settled practice rather than a rule, so record the reasoning if the amount is material. Whichever framework applies, the swing in operating profit when a loss-making SME moves between the merged scheme and ERIS is the same, and hardest to explain in micro-entity accounts, where the format offers no note in which to do it.

Talk it through with a chartered adviser

Framework questions surface late, usually when an auditor asks where a number came from, by which time the presentation is set. LimestoneGrey is a firm of Chartered Tax Advisers and Chartered Accountants, regulated by ICAEW, specialising in R&D tax relief. Every claim is signed off by a chartered adviser, and enquiry support is included as standard.

If you want the merged scheme credit computed and documented so it can be booked under whichever framework you report in, get in touch.

Sources

• FRS 105 (September 2024 edition), FRC — paragraph 5.3, the micro-entity profit and loss account format, with “Other income” and “Tax”; 4.3, the balance sheet formats showing current assets as a single item; 13.4 and 13.5(a), internally generated intangibles not recognised and research and development expenditure recognised as an expense; 19.2, the only scope exclusions, which do not extend to assistance given through the tax system; 19.3 to 19.10, the accrual model as the only grant model, with no performance-model choice; 24.7, “A micro-entity shall not recognise deferred tax”; 2.43, the prohibition on offsetting income against expenses; 6.2, the limited notes. The standard contains no reference to the R&D expenditure credit.
• SI 2008/409, Schedule 1, Part 1, Section C — the required formats for the accounts of micro-entities, inserted by SI 2013/3008: profit and loss account items A to H, and balance sheet Format 1 item C, “Current assets”.
• Companies Act 2006 s384A — the micro-entity qualifying conditions: turnover not more than £1 million, balance sheet total not more than £500,000, not more than 10 employees, two of which must be met; and subsection (3), under which meeting or ceasing to meet the conditions after the first financial year changes a company’s status only if it happens in two consecutive years.
• Companies Act 2006 s384B — subsection (2)(b), a company whose accounts are included in consolidated group accounts excluded from the micro-entity provisions, and subsection (1), the other exclusions.
• SI 2024/1303 — regulations 2(2) and 9(3), raising the micro-entity turnover and balance sheet figures from £632,000 and £316,000 for financial years beginning on or after 6 April 2025.
• Companies Act 2006 s396 — subsection (2A), the micro-entity minimum accounting items presumed to give a true and fair view; and s395, the distinction between Companies Act individual accounts and IAS individual accounts.
• FRS 102 (September 2024 edition), FRC — paragraph 1A.1, all requirements including recognition and measurement applying to a small entity; 1A.12 and 1A.14, the Small Companies Regulations formats; 1A.17, the disclosure requirements of Sections 8 to 35 not specifically required, subject to any that are relevant to material transactions and needed for a true and fair view; 24.3, assistance given as reliefs and deductions available in determining taxable profit, or determined or limited by income tax liability, placed outside Section 24; 24.4, the performance and accrual model choice FRS 105 does not offer; 29.6 and 29.7, timing differences and the probable-recovery test for deferred tax assets.
• FRS 101 (September 2024 edition), FRC — paragraph 4A, financial statements prepared under FRS 101 are Companies Act accounts and not IAS accounts under section 395(1), which must comply with the Act and SI 2008/410; 5(b), the recognition, measurement and disclosure requirements of adopted IFRS amended where necessary to comply with the Act; A2.9 and Application Guidance AG1, compliance with the company law format requirements; A2.9A, the option to adapt those formats under paragraphs 1A(1) and 1A(2) of Schedule 1 to the Regulations and apply the presentation requirements of IAS 1 instead.
• SI 2008/410, Schedule 1, Part 1 — paragraph 8, income may not be set off against expenditure; paragraph 1A(1) and (2), the directors’ power to adapt the formats, and paragraph 1A(3), under which the general rules in Section A of that Part continue to apply so far as is practicable notwithstanding any such adaptation; “Other operating income” as item 6 of profit and loss account Format 1 and item 4 of Format 2.
• IAS 20 Accounting for Government Grants and Disclosure of Government Assistance (IFRS Foundation, 2021 issued standards) — paragraph 2(b), the scope exclusion for benefits available in determining taxable profit or determined or limited by income tax liability, naming investment tax credits; paragraph 29, presentation as income under a heading such as “Other income” or deducted in reporting the related expense; paragraph 31, both methods acceptable.
• IAS 12 Income Taxes (IFRS Foundation, 2021 issued standards) — paragraph 4, the standard does not deal with the methods of accounting for investment tax credits; paragraph 34, deferred tax assets for unused tax losses and unused tax credits recognised only to the extent probable; paragraph 35, a history of recent losses as evidence against recognition; paragraph 82, disclosure of the amount and the supporting evidence where both conditions are met — utilisation depends on future taxable profits in excess of those arising from the reversal of existing taxable temporary differences, and the entity has suffered a loss in the current or preceding period.
• IAS 8 Accounting Policies, Changes in Accounting Estimates and Errors (IFRS Foundation, 2021 issued standards) — paragraphs 10 to 12, developing a policy by judgement where no IFRS applies, referring first to standards dealing with similar and related issues.
• ‘Above the Line’ credit for R&D: summary of responses (HM Treasury, December 2012) — Annex A, paragraphs A.2 to A.7: IAS 12 and IAS 20 identified as the standards to consider; the majority view that the credit was an investment tax credit out of scope of both; the consensus that a fully payable credit could be presented above the line with a corresponding entry in the tax line; A.5, that an element monetisable only against a corporation tax liability could fall back within IAS 12 — a point made about the reduced payable credit model consulted on, not the fully payable design adopted; A.7, the conclusion that the credit could be accounted for above the line under both UK GAAP and IFRS.
• CTA 2009 s1042L — subsection (2), surrender of the notional tax deduction to another group member; subsection (3), the balance applied in discharging corporation tax for a subsequent period, with no route to cash; and s1042J — subsection (2), the amount restricted by the PAYE cap added to the R&D expenditure credit for the next accounting period.
• Merged scheme & ERIS guidance — the merged credit “liable to Corporation Tax as it is classed as trading income”; the ERIS payable credit “not liable to tax”.