TAXING MATTERS
T. MARK RUSH, CPA
Partner
Ham, Langston & Brezina, LLP
[email protected]
PART 1
R&D tax credits: A valuable
cash infusion for businesses
Almost every business in America is wrestling
with a painful economic slowdown caused
by the coronavirus pandemic. Research
and development (R&D) tax credits can be
a very effective and controllable way for
businesses to replenish valuable dollars spent on new
and innovative products or processes.
Overview: R&D tax credit
The U.S. federal tax law provides a benefit — in the
form of a nonrefundable tax credit — for companies
that engage in qualified research and development
activities. The credit, which amounts to as much as 20%
of the excess of qualified research expenditures for
the tax year over a base amount, can create immediate
cash flow by reducing current year tax liability dollar for
dollar. While nonrefundable, any credit not used in the
current year can be carried back one year and carried
forward 20 years. In addition, qualifying activities that
can be documented in prior years can create additional
cash flow in any open tax years (currently three years) by
filing an amended tax return.
Qualifying activities
Activities that give rise to qualified research
expenditures for purposes of the R&D credit can
include such activities as:
Developing a new or improved product;
Developing new technology;
Creating a new production process;
Improving current processes;
Developing or improving software; or
Developing prototypes or models.
Certain activities do not qualify for the credit,
including activities conducted outside the United States,
research after commercial production of the product
has begun, and surveys.
The R&D tax credit is calculated as a percentage
of the company’s expenses related to R&D activities.
Qualified R&D expenditures can include operating
expenses such as wages, materials, and payments to
third-party contractors if the activity that gives rise to
the expenditure is a qualified research activity. So, while
these expenses are generally fully deductible when
determining taxable income, what many companies do
not realize is that they can also count toward the R&D
credit.
Why don’t more companies take advantage of
R&D Tax credits?
There is no limit on the available dollars U.S.
taxpayers can claim; however, we can attest that most
of our clients have not claimed the credits in the past.
As companies become familiar with the activities and
expenditures that qualify, they now realize that they
missed valuable opportunities in the past to claim these
credits. Although R&D credits have been around since
1981, the R&D credit was only a temporary provision
until 2015 when the Protecting Americans From Tax
Hikes Act of 2015 (PATH), made the credit permanent.
Before then, the credit was not extended until the last
minute for most years, and only retroactively for some
years. Because of this, many companies and their
advisers viewed R&D credits as somewhat risky to claim.
Many businesses also have shied away from pursuing
the credit because the calculations can be complicated.
As originally enacted, the credit calculation was
complex, and it required companies to have a great deal
of historical knowledge about their research activities.
In 2006, another less complex method of calculating
the credit was enacted called the alternative simplified
credit (ASC) method. This simplified method of
calculating the R&D credit calculations offers companies
additional flexibility, but many companies still don’t
claim the credit, because they are not aware that they
have activities that qualify.
The R&D credit amount can be very significant at the
state level as well as at the federal level. Most states
conform to the federal credit, but many have their own
specific rules and often the state credit provisions are
less generous. Texas is one of the states that has an
R&D credit equivalent to the federal incremental R&D
credit.
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