Each year, the Research and Development (R&D) Credit saves businesses billions of dollars in taxes—yet many other businesses forego the opportunity to seize this valuable incentive. Erroneous beliefs about the types of activities that constitute qualified research and other misconceptions about the R&D Credit are some of the most common hurdles standing between eligible taxpayers and the substantial savings available to them.
The Protecting Americans from Tax Hikes (PATH) Act of 2015 made the R&D Credit a permanent part of the tax code and implemented other changes that have rendered it available to more businesses. In light of this expansion, taxpayers should ensure that they are not harboring the following misconceptions that could prevent them from reaping the generous savings offered by the R&D Credit:
Only businesses that are engaged in scientific or technological research are eligible for the R&D Credit.
While the phrase “research and development” is often associated with laboratories and test tubes, businesses in a wide variety of industries—including architecture, engineering, and manufacturing—routinely perform activities that constitute qualified research. To meet the requirements for R&D Credit eligibility, an activity must satisfy a four-part test:
• The purpose must be to create new or improve the existing functionality of a business component.
• The taxpayer must intend to eliminate uncertainty about the activity.
• The activity must involve a process of experimentation designed to evaluate one or more alternatives.
• The process of experimentation must be scientific in nature and based upon the physical or biological sciences, engineering, or computer science.
Only large, established companies with significant income tax liabilities would benefit from the R&D Credit.
In reality, the credit is available to businesses of all sizes, and changes under the PATH Act have expanded its utility for new companies and small businesses. Beginning in 2016, businesses may apply up to $250,000 of R&D Credits against their payroll tax liabilities if they have been in operation for less than six years, had no gross receipts in the past five years, and have gross receipts of $5 million or less for the current tax year. Furthermore, businesses that have averaged $50 million or less in gross receipts over the past three years may now use the R&D Credit to offset their alternative minimum tax (AMT) burdens.
The R&D Credit can only be applied against current tax liabilities.
If a business is unable to use all of the R&D Credits available to it in the current tax year, it may carry them forward up to twenty years.
A business must develop a brand-new product or process in order to qualify for the R&D Credit.
An activity that improves a business component may be considered qualified research, as long it satisfies the four-part test. For example, a manufacturing company may be able to claim the credit for improving a process, such as by making it more efficient or environmentally friendly.
The R&D Credit is not worth the effort required to gather the supporting documentation.
Businesses seeking to claim the credit must be able to produce extensive documentation regarding the qualified research, such as payroll records for the employees who worked on it, a project list with cost summaries, and federal and state tax returns. While gathering these records may be time-consuming, the substantial tax savings that result make the effort worthwhile for most businesses. For example, Capital Review Group helped one client, a business that employed architects and engineers, save approximately $163,000 over three years. Invoking the assistance of tax professionals who offer expertise on the R&D Credit will ease the burden of preparing the necessary documentation and ensure that maximum savings are attained.
Unsure whether your activities qualify for the R&D Credit? The experts at CRG will help you clear the confusion and boost your bottom line with this lucrative incentive. Contact CRG today!