The American Taxpayer Relief Act of 2012 (ATRA) extended the research tax credit — commonly known as the research and development or “R&D” credit — through Dec. 31, 2013. Previously, it had expired at the end of 2011. The credit is available for a diverse range of activities, including many construction-related innovations. Contractors often overlook the R&D credit, usually because they assume they won’t qualify. But if you have invested time and money in developing new construction techniques, improving business processes or innovating in other ways, it is worth investigating whether such expenditures are eligible for the credit.
A valuable tax break
The credit is a dollar-for-dollar, nonrefundable credit with a maximum benefit of 6.5% of qualified research expenditures (QREs), including wages, supplies, and certain consulting and contract research fees related to qualified research activities. “Nonrefundable” means the credit is limited to your tax liability for the year — in other words, you can’t use it to generate a tax loss. Unused credits may be carried back one year or carried forward up to 20 years to reduce tax liability in those years. Keep in mind that the credit is for increasing research activities. Generally, it’s equal to 20% of the amount by which current-year QREs exceed a base-period amount (subject to the 6.5% maximum). When calculating the base-period amount, the ratio of QREs to gross receipts during a statutory base period (1984 to 1988) is multiplied by your average annual gross receipts for the previous four tax years. The base period amount can’t be less than 50% of QREs in the year for which the credit is claimed. Special rules apply to companies that didn’t exist — or didn’t have sufficient QREs or gross receipts — during the statutory base period. You can also use the alternative simplified credit (ASC). The ASC is equal to 14% of the amount by which current-year QREs exceed 50% of average QREs for the preceding three tax years (or, if there are no QREs during those years, 6% of current-year QREs).
Requirements and opportunities
To qualify for the credit, a research activity must meet four requirements. First, the activity must be related to development or improvement of a “business component” — such as a product or process. Second, there must be uncertainty as to how or whether the business component can be developed or improved. Third, the activity must use a process of experimentation — using techniques such as modeling or systematic trial and error — to evaluate alternatives and eliminate the uncertainty. And, fourth, the activity must be technological in nature, involving research in the physical or biological sciences, engineering, or computer science. Given the inherent uncertainty of the construction process, and the frequent need for innovation, many construction activities will qualify for the credit. Activities that may be eligible for the credit include developing or improving: New, more efficient construction techniques or methods,
- Construction equipment or materials,
- Efficient building systems (such as HVAC or wastewater systems),
- Cutting-edge bridge or roadway designs,
- Innovative foundation and earthwork designs for unusual site conditions,
- New mechanical or electrical systems to accommodate unusual structures,
- Software to streamline estimating and bidding, and
- Innovative, energy-efficient buildings, features or systems.
Many of these activities involve design or engineering, so the best candidates for R&D credits are construction companies engaged in engineering, procurement and construction or design-build projects. But any contractor that invests in technological innovations may be eligible.
Limited time offers under ATRA
In addition to the R&D credit, many tax breaks were extended through 2013 under the American Taxpayer Relief Act of 2012 (ATRA). They include:
- Section 179 expensing for qualifying new and used assets, with a $500,000 expensing allowance and a $2 million investment limit (scheduled to drop to $25,000 and $200,000, respectively, in 2014),
- 50% bonus depreciation, extended through 2014 for eligible new tangible property,
- Certain energy-related tax incentives, including credits for energy-efficient homes and appliances,
- 15-year cost recovery for qualified leasehold-improvement, restaurant and retail-improvement property,
- The Work Opportunity and New Markets tax credits, and
- Empowerment Zone tax incentives.
To determine whether you would benefit by claiming the R&D credit, ask your tax advisor to review your activities and expenditures. He or she can not only help you determine whether to pursue the credit, but also gather needed documentation and perform the calculations to substantiate your claim.