R&D TAX CREDIT STUDY
Research & Development (R&D) tax credits are available for taxpayers of all sizes who develop, design, and improve their products, processes, and techniques. R&D is not just for large companies with extensive research labs. Often taxpayers are amazed that what they are doing in their day-to-day operations qualifies for the R&D tax credit. R&D covers a broad spectrum of business types including, but not limited to, manufacturers, contractors, software developers, agriculture, and many more. We evaluate what clients are already doing and help them determine if their activities qualify for the federal and state research and development tax credits.
To have a qualifying activity the taxpayer must have some uncertainty at the onset of the project. This means that you have not done this before and are not sure of the exact way to accomplish the project. Also, there must be some type of experimentation during the project. Finally, there must be some form of hard science behind the project, which could include engineering, fabricating, physics, and chemistry, to name a few.
If you are investing time, money, and company resources to develop and improve products and processes, you may already qualify for the federal R&D Tax credit. Our team will help you determine if these activities fall within the scope of the tax credit guidelines and work with you to take advantage of the credit. Call us for a no-cost evaluation to learn if you may qualify.
R&D Tax Credit -Payroll Tax Offset Election Effective As of 01/01/2016
- Election to Apply Up To $250,000 against employer's 6.2% OASDI (Old Age, Survivor and Disability Insurance -- social security payroll tax except the medicare tax, 2016 maximum taxable earnings of $118,500, that means a maximum $7,347 credit possible per person, potentially up to 34 people)
- Must be less than $5 Million Gross Receipts for any year more than 5 years prior
Good News for startups
Before the new Payroll Tax Offset Election, startups that qualify for the federal R&D tax credit but aren’t yet paying taxes have the option to carry forward the credit to use in later years when they do have a tax liability.
The new payroll tax offset election would allow qualified small businesses to elect to use a portion of their R&D tax credit now to offset payroll taxes instead of waiting to use the credit. The election to use the R&D tax credit against payroll taxes would be available to qualified small businesses for a period of 5 years, and the annual limit of credit that could be used would be $250,000. Here, a qualified small business is a corporation or partnership that had less than $5 million in gross receipts for the taxable year and that did not have gross receipts for any period preceding the five taxable-year period ending with such taxable year. The legislation also permits the R&D credit to be used against a portion of the payroll taxes paid by “qualified small businesses.”
This provision should allow some small businesses that do not have sufficient income to offset with the R&D credit to still make use of the credit. Under the bill, qualified small businesses generally would be able to elect to use any portion of the R&D credit allowed, up to $250,000, to offset payroll taxes due in calendar quarters following the filing of the income tax return on which the election is made.
For these purposes, a qualified small business generally means persons for which (i) the average annual gross receipts (reduced by returns and allowances) of such person for the three-taxable-year period preceding the taxable year in which the credit is allowed does not exceed $5 million and (ii) such person did not have any gross receipts for any taxable year preceding the five-taxable-year period ending with the year in which the credit is allowed. Special rules similar to those described above (with some modifications) apply in measuring annual gross receipts. For persons other than corporations and partnerships, gross receipts would be measured on an aggregate basis across all trades or businesses of such person. An ordering rule applies to qualified small businesses other than partnerships and S corporations to prevent such businesses from using the election to circumvent the limitations on the use of general business credits. The use of the R&D credit to offset payroll taxes will not reduce the allowable deductions for the underlying research expenses. In general, businesses must reduce any deduction for research expenses by the amount of any R&D credits they claim against income tax liability.
R&D Tax Credit - Specified Credit Allowed against Alternative Minimum Tax (AMT) Effective
- For Certain Closely Held Taxpayers
- Prior 3-year average gross receipts up to $50 million
This new bill would allow eligible small and medium-sized pass-through entities (e.g., S corporations and partnerships) who have an AMT liability to use the R&D tax credit to offset the AMT. Businesses in this category have previously been unable to claim the credit. The legislation permits the R&D credit to be used against AMT for “eligible small businesses” under section 38. For these purposes an eligible small business generally means a corporation the stock of which is not publicly traded, a partnership, or a sole proprietorship for which the average annual gross receipts (reduced by returns and allowances) of such corporation, partnership, or sole proprietorship for the three-taxable-year period preceding the taxable year in which the credit is claimed does not exceed $50 million.
Certain special rules apply in measuring the gross receipts of businesses that (i) are treated as a single employer with another person; (ii) were not in existence for the entire three-year period; (iii) have a short taxable year during the three-year period; or (iv) are the successor to another entity. Partners of a partnership and shareholders of an S corporation will have to separately meet this annual gross receipts test in order to use the R&D credit against their AMT.
R&D TAX CREDIT QUALIFICATIONS
What are R&D Tax Credits?
Activities the IRS classifies as R&D follow:
What are R&D Tax Credits?
The Research and Development Tax Credit (R&D Tax Credit) was created by Congress as part of the Economic Recovery Tax Act of 1981. The requirements were redefined in 2001 when the IRS realized they were too complex for most companies to take advantage of the credits. Required documentation was relaxed to allow for projects completed in the past three years to be addressed by a technical interview process attesting to the projects worked on rather than documenting the project while doing the research. This has made R&D tax credits available to a larger segment of businesses.
Who qualifies?
Activities the IRS classifies as R&D follow:
What are R&D Tax Credits?
Many companies including Software Development Companies as well as Manufacturers can classify many of their day-to-day activities as R&D. By IRS definition, any taxpayer engaged in the “design or development of new or improved products or processes, techniques, formulas, inventions or software is engaged in R&D. This can include products that are unique to the company or their clients, not necessarily to the entire industry. Activities that qualify for R&D Tax Credits include all “Qualified Research Expenses” (QREs) which include: figuring out methods or processes to accomplish new goals; developing or improving products, processes or formulas; designing or improving manufacturing processes; quality assurance activities; creating prototypes and models; first article runs and more. Most companies are engaged in efforts to improve products and processes as part of their day-to -day operations and the IRS defines these activities as R&D.
Activities the IRS classifies as R&D follow:
Activities the IRS classifies as R&D follow:
Activities performed by software companies that qualify as R&D include:
Manufacturing products
Developing new, improved, or more reliable products / processes / formulas
Developing prototypes or models (including computer generated models)
Designing tools, jigs, molds, and dies
Developing or applying for patents
Certification testing
Applying for patents
Testing new concepts
Development of new technology
Trying new materials
Adding new equipment
Environmental testing
Developing or improving production / manufacturing processes
Developing, implementing or upgrading systems and / or software
Developing production control software
Improving or building new manufacturing facilities
Automating internal processes
Paying outside consultants / contractors to do any of the above activities
Activities performed by software companies that qualify as R&D include:
Activities performed by software companies that qualify as R&D include:
Designing software itself (Defining scope: what features to incorporate and leave out)
Flow charting
Considering what to hard code and what to make configurable
Considering life cycle
Designing database backend
Determining what should be coded and stored in the database versus what should be implemented as a program
Designing programs to work with different databases
Beta testing
Prototyping
Rapid prototyping (only have key features with limited abilities)
Testing (logic, data integrity, performance, compatibility)
Debugging
Tracking difficult bugs during development (such as bugs that make systems crash)
Black box testing (looking at input and output)
Adding new features
Upgrading to new operating systems
Upgrading to new platforms (such as .NET)
Integrating/Working with other software (Word and Excel as examples)
Performance issues (like running too slow or bottleneck)
Optimizing code
How does the process work?
Our Engineers, Tax and IP Attorneys have extensive experience in performing R&D studies of various industries. We utilize the Project by Project approach recommended by the IRS. We identify every qualifying activity and tie it to each employee’s time and wages and the corresponding sections of the code that substantiate the credit. Deductions can be taken not only for wages paid to employees directly involved in the activity but also managers, support personnel, supplies consumed in the research and a portion of expenses for outside contractors.The result is that we can maximize the credits and most importantly provide the documentation to support the credits. Since the IRS Agents reviewing the R&D Credit are engineers, it is critical that the documentation is prepared by experienced engineers. We work with your accountant to prepare amended tax returns for prior years and prepare documentation for all future years as needed.
How much can I save?
The credit is not a deduction but an actual dollar-for-dollar credit against taxes owed or previously paid Tax Credits can provide an immediate source of cash by taking the credit for all prior open tax years - generally the last three, or four years plus the current year. The tax credit can also carry forward up to 20 years. Depending on taxes paid and the number of years studied, the cash benefit averages 5% of total payroll.
How much does it cost?
We charge a fixed fee depending upon size and scope of project. First we perform a free consultation and prepare a feasibility report to determine the cash benefit before you make the decision about moving forward. We work to limit the investment of time for you and your employees.
Why haven’t my tax advisers recommended this strategy?
Due to the technical knowledge needed to understand your business and to determine what qualifies and what does not, your CPA probably doesn’t have the engineers or IP attorneys on staff to properly document R&D activities. We partner with hundreds of accountants around the country to provide the documentation they need to claim R&D Tax credits. Your CPA will be part of the discussion regarding your ability to utilize the benefits we document and will be responsible for filing any amended tax returns.
How do I get started?
Get in touch and we will review your activities to determine eligibility and perform a free feasibility analysis to quantify the benefits. We then consult with your CPA to evaluate your current tax status and future business plans to verify the benefit for your situation.