The research and development tax credit isn’t just for large companies with R&D departments. Small and medium-sized companies are also eligible for significant savings through the R&D tax credit. If your company has made improvements to products, processes or software, or if you’ve tried to make improvements and have been unsuccessful, you could be eligible for tax benefits.
Through the research and development tax credit, qualified companies can gain immediate cash benefits that can be used to offset both income taxes as well as payroll taxes in certain instances. This credit can reduce your tax liability dollar-for-dollar and is now 21% more valuable under Tax Reform. Small businesses can qualify for a payroll tax offset if they have gross receipts for five years or less and the average gross receipt is no more than $5 million within the last five years. This payroll benefit can be up to $250,000 which is significant for smaller companies.
So, how do you claim the R&D tax credit?
Documentation is the most important step for claiming the R&D tax credit and should begin as soon as possible. It’s important to evaluate your company for any potential activities your business is currently performing or planning to perform that might be eligible for the R&D credit. Once you have identified the potentially eligible activities, begin recording qualifying expenses and start documenting the necessary information. By documenting early on, you can eliminate the need to go back and find the necessary information and ensure that you will be able to take full advantage of the credit.
Examples of Documents include:
- Financial information such as tax and payroll records
- Testing documentation including project records, lab notes, design drawings, prototypes, patent applications
- Time tracking reports, expense reports and other project accounting information
- Companies can claim three types of expenses: salaries, supplies and contracted research.
Because each developmental project and company is unique, each opportunity to receive the research tax credit will be unique. To date, the IRS has not established a clear definition of what documentation is required. However, the main goal with documentation is to prove that your company’s activities qualify for the credit. Any supporting documentation will be helpful in stating a claim for the credit. Establishing your company’s documentation process before you begin and avoiding the common documentation errors can be helpful when claiming the R&D tax credit.
How to Apply, Deadlines to Meet and What to Expect
Once a documentation process has been established, companies can begin to work with their tax advisors to complete the IRS Form 6765, Credit for Increasing Research Activities, and ensure that your company is adhering to the specific instructions for Form 6765. Your CPA will submit this form with your business’s annual Income Tax Return.
If you have unused credits, the IRS allows you to carry those forward for up to 20 years. Companies can also take advantage of refunds for the past three years by filing an amended return. However, documenting the necessary information is critical to receiving the highest benefit early on in the project planning stages.
IRS Examinations are always a possibility for tax positions, and the R&D credit position is no exception. If the IRS examines an open position and finds that the credit has not met the requirements, the credit will be disallowed either partially or completely. If the IRS finds that the credit was either claimed through negligence or did not meet the rule or requirements, there may be penalties involved. Additionally, taxes in the year that a credit was claimed as well as additional tax years can be impacted if the IRS disallows the claimed credit.
The risks associated with the R&D tax credit should not discourage you from exploring your eligibility. If you have the right tax advisors, they will ensure that you are taking the proper steps and documenting information that will help your company state its claim. Your tax advisor should also stay committed throughout the entire process and in the event of an IRS examination or subsequent appeals.
How to find the right tax advisor to help you claim the credit
The research tax credit can be complex, and each company’s process can be different from another’s. Claiming the R&D credit requires a deep understanding of the tax code and the research and development tax credit process. Tax laws and the regulations surrounding credits, deductions and incentives are always changing. The right tax advisor can make all the difference when it comes to claiming the research and development tax credit.
Warren Averett offers a complimentary feasibility study to determine if you are eligible. We can also assist with every step of the R&D process, including project initiation and data collection, identifying qualified projects and expenses, documentation, R&D tax credit calculation and completing the necessary forms.
If you think you could be missing out on R&D tax credits, start our Quali-Finder process today to see what credit are eligible to your business.