Can you Benefit From the R&D Tax Credit?
It is likely that each year millions of dollars in R&D tax credits go unclaimed due to businesses being unaware of the applicability to their sector or business process. The tax credit is not only for Fortune 500 companies with dedicated R&D departments. The everyday work flow of many businesses may qualify for the R&D tax credit. The goal of this paper is to provide businesses a general understanding of the R&D tax credit and areas where they may be able to take advantage of the credit.
Does Your Activity Qualify?
A businesses size or area of practice are irrelevant to their ability to claim an R&D tax credit, as long as they meet the following tests:
- Technical uncertainty. The activity is performed to eliminate technical uncertainty about the development or improvement of a product or process.
- Process of experimentation. The activities include some process of experimentation undertaken to eliminate or resolve a technical uncertainty.
- Technological in nature. The process of experimentation relies on the hard sciences, such as engineering, physics, chemistry, biology, or computer science.
- Qualified purpose. The purpose of the activity is to create a new or improved product or process that results in increased performance, function, reliability, or quality.
Does Your Expense Qualify?
What qualifies as an eligible expense for the R&D tax credit can be very broad, expenses for salaries, supplies, research, and leasing all may be eligible. While the salaries of employees directly responsible for qualified actives makes sense, managers and other personnel who directly support those positions can qualify as well. Supplies eligible for a credit may broadly include payments to US-based contractors, as well as any other supplies used in the qualified activity.
Examples of Qualified Expenses:
- Experimenting with process improvements as a result of lean initiatives
- Experimenting with new materials
- Making a product safer
- Developing new or improved testing procedures
- Developing tooling for new products or process improvements
- Developing new and alternative designs
- Developing prototypes and models including computer generated models
- Decreasing environmental emissions and effluents or performing related testing
- Improving package design
- Develop new, improved, or more reliable products, processes, or formulas
- Develop prototypes or pilot models
- Develop patentable technology
- Develop or improve manufacturing processes
- Develop new architecture, algorithms, and programming code for software
- Develop firmware
- Design tools, jigs, molds, and dies
- Test and tune new product designs
- Conduct testing of new concepts and technology
How do You Benefit?
A tax credit is a dollar for dollar reduction of your businesses federal income tax liability. A business can claim up to 20 percent of qualified expenses. These claims can also be made retroactively, allowing for the amendment of returns covering the past three tax years. Further, the R&D tax credit will carry forward if you have no tax liability for a given year, meaning it is important for startups to track their eligible expenses from the beginning. Until recently, the R&D tax credit was not allowed to offset alternative minimum tax (AMT) liability. Now, eligible small businesses with gross receipts less than $50 million averaged over the past 3 years may apply the R&D tax credit against their AMT liability. Additionally, a qualified small business (gross receipts less than $5 million in the taxable year) may elect to claim up to $250,000 of R&D tax credit against certain payroll taxes.
State Credits are Also Available.
In addition to the Federal R&D tax credit, many states offer similar tax credits, many of which mirror those of their Federal counterpart.