Can Your Company Cash In on the Modified R&D Tax Credit?

Posted on September 27, 2016 by Jeanne Goulet

The IRS section 41 tax credit for research and development (R&D) is now permanent. With this change there are big potential benefits to start-ups and small businesses that could not previously take advantage of this credit.

If you are a start-up company with annual gross receipts of less than $5 million, you can apply up to $250,000 of your R&D credit against your payroll tax liability. The modification of the R&D tax credit was part of the 2015 PATH (Protecting Americans from Tax Hikes) act and allows companies to free up cash flow to invest in their businesses.

It is estimated that last year alone the R&D tax credit provided over $10 billion in tax savings to US companies. It is projected that these new enhancements will provide an additional $2 billion to US business.

It can pay handsomely to get in on these tax credits if you company qualifies! For tax years beginning on or after January 1, 2016, Qualified Small Businesses (“QSBs”) will be able to use the R&D tax credit to offset the FICA portion of their company’s payroll tax.

The big news here is that the R&D tax credit that was once limited to profitable companies will now be made available to tech start-ups and companies in the life sciences sector (Chemistry, physics, biology, etc.), engineering or computer science – where early stage operating losses are the norm and the R&D credit was not very beneficial.

Note that because this change was made to help newer small companies receive tax credit for research and innovation, any taxpayer making this election for 2016 must not have had any gross receipts in a tax year preceding 2012.

The second provision is great news for shareholders of qualifying pass-through entities such as S corporations that have an Alternative Minimum Tax (ATM) liability. The new law removes a barrier that had prevented many small businesses from obtaining the credit in the past, and allow eligible businesses with $50 million and less in gross receipts (based on a three-year average) to apply for the R&D tax credit against the AMT liability.

BE SURE TO ACCOUNT FOR THE CREDIT NOW.

Lots of start-ups and other small businesses wait to calculate the R&D tax credit when they plan to claim it. It pays to work with your CPA / accountant to keep track of all the expenses that are eligible for the credit on an on-going basis.

You may think that your current innovation and research initiatives may not fit the criteria for the credit, remember the IRS definition (https://www.irs.gov/pub/irs-regs/research_credit_basic_sec41.pdf) of R&D activity may be broader than you think. This tax credit can be applied across a broad spectrum of industry sectors because innovation comes in many forms. Don’t risk leaving up to $250K on the table with the IRS when it can potentially offset part of your payroll tax liability.

LONGER TERM BENEFITS.

Even if a company cannot use this tax credit in the short-term immediately, it can be carried over for 20 years and therefore can provide a long-term benefit.

SEEK PROFESSIONAL TAX ADVICE.

Note that this new IRS Code Section 41 reads like the Rosetta Stone, so it is well worth consulting with your CPA or tax advisor on how to best take advantage of these potential R&D tax credit savings.

This material has been prepared for general informational and educational purposes only and is not intended, and should not be relied upon, as accounting, tax or other professional advice. Please refer to your advisors for specific advice.

Reprinted and used with permission from Marks Paneth LLP