EPW versus Subcontract

R&D Tax Credits - EPW vs Subcontract | RD Relief
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  • Otherwise, please feel free to continue to browse this website for useful information regarding claiming R&D Tax Credits in the UK. However, beware that none of the information has been updated since 2018.


Differentiating between third-party relationships that are categorised as 'Externally Provided Workers (EPWs)' or 'Subcontracts' is an important consideration in claiming R&D Tax Credits. This is especially important for the quantification of RDEC claims, as subcontracted spend is not allowable (only third-party resources categorised as EPWs can be included).
An incorrect decision can either mean that the company incorrectly underclaims or overclaims and is liable for a penalty from HMRC.

Official EPW Definition

The official definition of an EPW from HMRC can be found at 'CTA09/S1128', which is as follows:
A person is an externally provided worker in relation to the claimant company if the following conditions are satisfied:
  • he is an individual (not a company)
  • he is not a director or employee of the company
  • he personally provides or is under an obligation personally to provide, services to the company
  • he is subject to (or to the right of) supervision, direction or control by the company as to the manner in which those services are provided
  • his services are supplied to the company by or through the staff provider or staff controller (whether or not he is a director or employee of the staff provider or staff controller or any other person)
  • he provides or is under an obligation to provide, those services personally to the company under the terms of a contract between him and the staff provider. (applies only to 31 March 2012. See below)
  • the provision of those services does not constitute the carrying on of activities contracted out by the company, see CIRD84200

Official Subcontract Definition

HMRC's definition of a subcontracted relationship, for R&D Tax purposes, can be found at CIRD84250. This definition is:
Where there is a contract between persons for R&D activities to be carried out by one for the other, then the R&D activities have been subcontracted. A contract to provide services rather than to undertake a specific part of the activities is not subcontracted R&D. Nor is a contract of personal employment.

Comparison of EPWs and Subcontracts

In many cases, the EPW versus Subcontract assessment is not straightforward and a subjective assessment needs to be made.
Essentially, where a company has engaged a third-party for resources to augment their R&D team (e.g. a body shopping arrangement), then this is likely to be an EPW arrangement.
However, where a company is paying for another company to undertake R&D on their behalf and then present a working deliverable back, then this would be known as a subcontract relationship.

Common Traits

The following traits are indicative of typical EPW and Subcontract relationships. None of these is officially required (see official definitions above), as in many cases an EPW relationship can have some traits of a subcontract relationship (and vice versa). However, we find that they are very useful for helping differential between the relationships.
  • Contract based on a Time and Materials (T&M) based fee
  • May involve contracted individuals working at one of your company's sites
  • Engagement letter that is short in length, referencing people or capacity rather than deliverables
  • Your team may be testing the end result of the R&D (or working collaboratively with contracted individuals to test the outcome of the R&D)
  • The contract specifies payment in exchange for fixed price deliverables
  • 3rd parties working at their own site
  • Engagement letter that is fairly long, referencing specific capabilities to be delivered
  • The third-party may be testing the R&D and delivering the outcome of the R&D back to your company

Which Relationships Can be Included in an R&D Tax Credits Claim

Each of the three regimes (SME, RDEC and RDA) has slightly different rules for which costs can be included.
  • For the SME and RDA regimes, both EPWs and Subcontracted costs can be included within a claim.
  • For the RDEC regime, only EPW costs can be included. This means that the classification of 3rd party costs between EPW and Subcontract is especially important.

Connected Parties

If the third-party is part of your group of companies, then it will either be known as a Connected Party EPW or a Connected Party Subcontract. Connected parties receive beneficial claim rates.

Rates of Inclusion

Main article: R&D Tax Credits Rates
The rate for inclusion in both types of relationship is the same, however, it depends on both the level of qualifying activity the third-party was undertaking and the regime that is being claimed under.
  • For RDA claims, third parties can be included at the proportion that the company worked on qualifying R&D activities
  • For SME and RDEC claims third parties (that are unconnected) need to be included at 65% multiplied by their level of eligibility (this is required by HMRC to strip out any overheads of dealing with a third-party company)

Required Claim Support

Often the EPW vs Subcontract assessment is done by the R&D projects competent professionals - who are close to the project and understand the types of activities undertaken by the suppliers. In most cases, this is sufficient for HMRC.
However, in the cases where the decision is material (particularly on large RDEC claims) and where the relationship does not clearly fall into one of the categories, HMRC often request to see the official contract between the companies. They will then review the contract to see how it relates to the indicating factors above.
In many cases, the actual working relationship between two companies is different from the contractual relationship. Where this applies, companies should pro-activity address this with HMRC and provide support if necessary (which very much depends on the magnitude of the portion of the claim).

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