The UK’s game development sector generates annual tax revenues of £1.5 billion for the Treasury and contributes £3.68 billion to UK GDP annually. It therefore plays a vital part in the entertainment industry and incentives given by the Government have a direct impact on investment in the UK.
The Government is keen to keep this momentum up and has announced various changes to the operation of Video Games Tax Relief, which has powered growth in the sector since it was introduced on 1st April 2014.
Did you know?
Video games are increasingly embedded in UK culture and society. Games are one of the UK’s most valuable entertainment media.
According to ERA Figures, games make up a large share of entertainment’s three core sectors, accounting for 39.9% of total entertainment revenues in 2023. Sales grew by 2.9% to £4.7 billion compared with 2022 and have now doubled in value over the past decade. Games are played in 7 out of 10 households.
At a glance
Aspect | Video Games Tax Relief (VGTR) | Video Games Expenditure Credit (VGEC) |
Eligibility | Game must be certified as British by the British Film Institute | Game must still pass the British cultural test |
At least 25% of core expenditure must be incurred within the UK or European Economic Area | The European Economic Area expenditure rule is removed, meaning only UK expenditure is eligible | |
Relief Rate | Provides a payable credit at an effective rate of 20% on qualifying costs | Offers a slightly higher net credit rate of 20.4% but is taxable |
Applicable Expenditures | Core expenditure includes costs related to designing, producing, and testing the game | Covers design, production, and testing costs |
Excludes marketing and promotional expenses | Excludes marketing and promotional expenses | |
Subcontracting is capped at £1 million per game | Removes the subcontracting cap, allowing all UK development costs to qualify | |
Implementation Date | VGTR is being phased out and will close to new claims after 31st March 2027 | Applies to games in development from 1st April 2025 onwards |
Video Games Expenditure Credit (VGEC)
Video Games Tax Relief (VGTR) currently allows British games developers to claim a 20% tax credit against the expenditure they incur on developing new video games. Under the current scheme, relief is given by way of an additional deduction from profits or surrendering a loss for a tax credit.
The Government have announced that this is to be replaced by a new refundable expenditure credit known as Video Games Expenditure Credit (VGEC).
The calculation of the new credit is modelled on the Research and Development Expenditure Credit (RDEC) and will be a taxable “above the line” credit. However, VGEC will not include Step 3, the PAYE or National Insurance contributions cap.
There are two main reasons behind the change to VGEC. The first is to comply with international tax reforms, namely the implementation of global tax policy, Pillar Two.
Secondly, VGEC will only apply to expenditure on goods “used and consumed” in the UK, unlike VGTR which included the European Economic Area (EEA). This is in line with the Government’s ambitions for R&D and the creative sector tax reliefs in order to boost skills domestically and drive UK innovation.
What is the new Video Games Expenditure Credit?
VGEC will have a headline rate of 34%. However, as it is an “above the line” credit, it is subject to the current rate of corporation tax (25%). Therefore, the post-tax rate is likely to be closer to 25.5%, but this is capped at 80% of total expenditure, giving an effective rate of 20.4% on qualifying expenditure – just a modest increase from VGTR with its effective rate of 20%.
VGEC will be implemented starting 1st April 2025. From that point, all new games must apply for VGEC instead of VGTR. Games already under development before 1st April 2025 can continue to claim VGTR (with EEA qualifying expenditure) until April 2027. Companies have the option to apply for VGEC from 1st January 2024 for certain projects, while still applying for VGTR for other ongoing projects until April 2027.
The qualifying criteria and other rules for the current VGTR will mostly be carried across into VGEC unchanged, including the 80% cap on qualifying expenditure. Qualifying expenditure will still be calculated on a cumulative basis.
VGEC will, however, scrap the £1 million subcontracting limit, which will be welcome news in the industry. Although, it will impose further eligibility requirements, with a minimum of 10% expenditure to be “used or consumed” in the UK.
This is likely to impact smaller studios that have adopted a remote working model, where they have overseas employees carrying out the majority of the design, development and production of video games. They may lose out substantially because of the switch to expenditure credit as the claim will be limited to UK expenditure.
On the flip side, VGEC will apply to connected party profits, provided that the connected party transaction is at arm’s length. This will likely benefit larger studios who are more likely to have connected parties involved in the development of video games.
What do video games companies need to consider?
These changes are coming into force soon, and so it is essential to start planning for the introduction of VGEC as soon as possible. The changes may impact on commercial decisions, such as where development companies site their staff and whether they want to be early adopters of the VGEC in order to benefit from higher tax credit rates.
Whether the introduction of VGEC is a good thing for the industry remains to be seen. In any case, development companies will need to seek professional advice and we can certainly help with that.
Please contact Tax Partner Nikhil Oza to learn more.
