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R&D Tax Credits or the Research and Development Tax Credits is one of the reliable opportunities of companies of all sizes who conduct R&D in the US to reduce their tax liabilities thereby helping these companies hundreds of thousands of dollars.
Even though not a lot of companies are benefiting from R&D Tax Credits because of common misconceptions regarding its applicability to a company’s operations. Because of this, there are a number of companies who are unable to claim the R&D Credit because of their confusion when it comes to documentation, whether the activity qualifies, whether the amount of expense is qualified, and how this credit is to be used.
Evaluating Your Company’s Eligibility for R&D Credits
You must know that eligibility to R&D Credits is much broader than most companies realize by applying not only to the development of a company’s product but also when it comes to activities and operations relating to new manufacturing processes, new software development, and quality enhancements in the business. R&D Credits is not only available for long-existing companies but to new businesses as well.
Below are the activities that will allow your company to claim R&D Tax Credits:
- Your business invests time and money in developing fresh or creative products
- Your company is working on improvements to existing products
- Your company is developing new processes, prototypes, or software
- Your company is hiring designers, engineers, or scientists
Furthermore, these R&D credits can also be applied retroactively which means that you can still claim R&D credits up to three years before the open tax year. For companies that are suffering losses, they can even go back much further depending on the state because there are states that allow more than three years for retrospective claims.
Common Misconceptions on R&D Credits
The company is not paying for federal income tax
If you are operating a start-up company or operating a small business, you can apply up to $1.25 million or $250,000 every year for five years of R&D Tax Credits in order to offset it to the Federal Insurance Contributions Act or FICA portion of their payroll taxes every year.
For your company to be eligible, you must be able to meet the following requirements:
- Your company must have less than $5 million gross receipts for the credit year
- Your company must have no gross receipts or interest income that dates back or more than five years.
The amount of R&D credit for your company will be calculated on the federal income tax return and it can be applied against payroll taxes starting from the quarter after the credit has been elected, so if you are a taxpayer observing calendar year, the R&D credit can be applied as early as April of the following year.
The company is not really focused on research and development
The eligibility of a company to claim for R&D Tax Credits is not on the basis of whether the company is high-tech or engaged in life sciences that have dedicated research departments. Sure most of the companies do not have a research and development laboratory but you must keep in mind that wherever experimentation is taking place, you still can find R&D.
Employees of your company are not degree-holding engineers or scientists
Of course, companies wherein the majority of their employees are engineers and scientists will surely stand out as candidates for R&D tax credits mainly because the tax credit has been created in order to encourage research and experimentation that is based on hard sciences.
However, this premise holds true even though employees performing such tasks have varying job titles and backgrounds. Also included are experimentations that are being performed by employees and third-party contractors who are engaging in the enhancement of projects and processes.
The company is not really developing on anything new
The research and development tax credit is available to taxpayers who create or upgrade devices, systems, procedures, formulations, or applications. It is assessed in terms of improvements in research efforts which expenditures—and is thereby meant to compensate businesses who engage in innovation.
Research and development may not have to be novel to the market. It clearly has to be new to the business, which must also follow the four-part test as follows:
- The research must be undertaken with the purpose of designing a new or improved market feature, which leads to a new or enhanced function, efficiency, reliability, or consistency.
- Uncertainty over the creation or enhancement of a company aspect is entirely avoided.
- The process of experimentation demonstrates that it was able to evaluate one or more alternatives when it comes to achieving the intended result.
- The experimentation is reliant on hard sciences.
Alternative Minimum Tax or AMT Is Applicable to the Business
Traditionally, several businesses involved in Research and development activities could not receive the highest value of the credit unless the company—or, in the case of pass-through firms, its shareholders—were subjected to the alternative minimum tax (AMT).
Persons or eligible small businesses (ESBs) subject to AMT may use the R&D tax credit to cover both normal and AMT taxes for tax years starting on or after January 1, 2016. ESBs are not-for-profit organizations with an annual turnover of less than $50 million over the past three years.
This ensures that R&D credits that were formerly ineligible for ESBs will now be used to offset AMT.
R&D Tax Credits Can Be Beneficial To Your Company
That would be a clear reduction of a company’s tax burden on a dollar-for-dollar basis. There are also no yearly caps to the amount of claimed expenses and credits. If the federal R&D credit cannot be utilized instantly or entirely, the deferred credit can be rolled in one year or rolled forward for a period of up to 20 years.
The R&D tax credit is a reliable stream of additional cash for a vast variety of businesses even up to 10% of yearly R&D expenses for federal reasons and even higher when state deductions are used.
Also read: 4 Tips On How To Claim The R&D Tax Credit
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