header
header
header

Summing It Up

Keeping you ahead of the curve with timely news & updates.


Brewing Up Tax Savings with the Federal R&D Tax Credit

Microbrew

Microbreweries often experiment with flavors and processes in ways that may qualify for a significant federal tax credit.

When craft brewing is done right, it often seems more like art than science. So it should come as no surprise that many craft-brewers overlook a tax-saving opportunity that is more closely associated with science-based industries like pharmaceuticals and tech companies.

The Federal Research & Development (R&D) tax credit provides a federal tax credit based on certain expenditures business spend on “qualifying research activities” (QRAs).  Additional incentives are available for certain startups and smaller breweries, such as credit against certain payroll taxes and not being limited by the alternative minimum tax.

Qualifying Research Activities for Breweries and Microbreweries

That phrase “Qualified Research Activities” is the heart of the argument for applying the credit to certain microbrewery expenditures. Costs related to an activity that meets the four-part test to qualify for the R&D credit, regardless of the industry in which the business operates.

Examples of qualified activities for Breweries and Microbreweries include, but are not limited to:

  1. Developing new or improved hopping techniques, including testing new varieties or combinations of varieties. In fact, according to gardeningknow.how.com, there are about 80 different hops types commercially available. It’s not unreasonable to think that many others are in development.
  2. Develop new or improved malting, lautering, fermenting, or conditioning processes.
  3. Developing new or improved bottling processes to improve shelf longevity, lower cost, or other functional improvements,
  4. Improvements to your brewing process to reduce waste, improve water recycling throughout the process, improve filtration, reduce cycle time, or other functional aspects,
  5. Development related to new product formulations, including use of different ingredients or preservatives.

Deductibility is in the Details

Tax Situation ReviewThe potential benefits of the R&D credit are significant, so the government requires thorough documentation. If you’re planning to claim the credit, you’ll want to set up your accounting system to track QRAs in separate accounts. Time allocations for employees engaged in R&D are an important part of your records.  Actual timesheets and payroll records are the strongest support.  These can be supplemented with post-completion analyses of resources used, design drawings for proposed developments/improvements, meeting notes, and testing documentation.

Extra Benefits for Start-Ups and Small Businesses

The IRS rules don’t go into specifics about what constitutes sufficient documentation for any particular claim, but they do express a strong preference for contemporaneous documentation. If you’re planning to claim the R&D tax credit for your brewery or microbrewery, it’s important to consult with a knowledgeable professional at the outset (or as soon as possible after starting!) to build the system that will document your costs accurately as you go.

The PATH Act of 2015 made the R&D credit permanent and even more valuable to microbrewery start-ups and small businesses. If you are a brewer with less than $5 million in current-year gross receipts and no gross receipts for any tax year that precedes the fourth preceding tax year, you can elect to claim up to $250,000 of the credit against your employer portion of Social Security tax. Partnerships, sole proprietorships and privately held corporations whose average annual gross receipts for the last 3 years that do not exceed $50 million can also claim the credit against an alternative minimum tax liability. (An Freed Maxick provides more information on these opportunities.)

State Incentives for Brewers in New York

The Empire State also offers several incentives for brewers operating within its borders. Credits for investment in buildings and equipment apply to brewers, as do income and property tax credits for manufacturers. New York also provides an alcoholic beverage production credit and, for locally sourced beers, some reduced permit requirements. In addition, breweries can qualify for the state’s START-UP NY business incentive program, depending on their location.

Brewing Up Your Credit

Securing both Federal and New York State credits and incentives requires detail analysis and documentation.  In some cases this will require presentation to tax authorities in an audit to defend your position.

That’s why you’ll want to work with a team of experts with impeccable credentials in helping businesses of all types and sizes use the R&D Credit -and other tax minimization strategies – to lower their tax burden.

For more information about how your microbrewery could benefit from the R&D tax credit, please contact Freed Maxick at 716.847.2651.

For more insight, observations and guidance on the new Tax Cuts and Jobs Act, visit our Tax Reform webpage.

View full article

Tax Reform and the Federal R&D Tax Credit for Corporations

Tax Credits R&D

Tax Cuts and Jobs Act of 2017 didn’t change the R&D Tax Credit, but the repeal of the corporate Alternative Minimum Tax (AMT) expanded the potential benefit to all corporations that were in AMT.

The Tax Cuts and Jobs Act (TCJA) enacted at the end of 2017 did not make specific changes to the research and development (R&D) tax credit, but one significant change to the corporate tax system could benefit businesses that claim the R&D credit on their returns.

TCJA repealed the corporate alternative minimum tax (AMT) for taxable years beginning after December 31, 2017.  As a result, the new law could make all corporate tax credits and carry forwards, including the R&D credit, more valuable in the next few years. 

Corporate AMT and R&D Tax Credits

Before TCJA, a corporation that was subject to the AMT in one year could take an offsetting AMT credit in subsequent years only to the extent that its regular tax liability exceeded its tentative minimum tax. Some corporations were perennially subject to AMT tax and the AMT credits increased over time and were unusable.

New call-to-action

Refund of AMT Credit Carryforwards. Under the new law, any AMT credit carryforwards that weren’t used before the AMT was repealed can now be used to offset the corporation’s regular tax liability. The credit carried forward can be refunded in an amount equal to 50 percent of the excess of the credit for the tax year over the amount of the credit allowable for the year against regular tax liability. (That increases to 100 percent for tax years beginning in 2021.)

Corporations that have AMT credit carryforwards may now get an additional benefit from the R&D tax credit. To the extent the R&D credit reduces the regular tax liability, it could also accelerate the amount of AMT credit carryforwards that could be refunded during the “50 percent” years.

R&D Tax Credit Application for All Corporations and Not Only Eligible Small Businesses

In a previous blog, we discussed provisions of a 2015 law change that allowed only certain “eligible small businesses” (ESBs) to apply the R&D tax credit against their AMT due. Under current law, it appears that this benefit would apply to all corporations, regardless of whether they previously qualified as ESBs for purposes of deducting the R&D tax credit from their AMT liabilities. In effect, the elimination of the AMT under the TCJA has expanded the benefit to all corporations. The availability of the R&D credit to ESB would still apply to individual partners or S corporation shareholders who are subject to the AMT on their personal returns.

Connect with a Freed Maxick R&D Tax Credit Expert

Calculating and claiming the R&D credit for a corporation is a complicated process, and it’s made even more challenging if your business is carrying forward AMT credits from prior years.

If you have any questions or concerns about how the AMT and the R&D credit affect your personal or business taxes, connect with us by clicking on the button or please call the Freed Maxick Tax Team at 716.847.2651 to discuss your situation.

View full article

Why You Might Want to Wait on an R&D Tax Credit Study… Even if You Pass the 4-part Test

BlogBefore spending, consider these 2 additional R&D tax credit tests from the experts at Freed Maxick

We’ve written a lot about how the Research and Development (R&D) Tax Credit delivers tax savings for businesses with qualifying activities. 

It’s important to know that claiming the Credit involves preparing a detailed study, documentation, and interactions with the IRS. Most firms engage a professional to help them claim the credit and consider the fees they pay as an investment. 

In our work helping businesses identify costs and calculate the credit, we’ve noticed that even though some businesses may have expenses that meet the 4-part test, they may still not benefit from the credit because of circumstances that limit its applicability. 

That’s why our R&D Tax Credit Team does a Situation Assessment prior to an engagement. That includes performing two initial additional “tests” complementing the 4-part test that can identify factors limiting your company’s ability to claim the credit. 

If the company does not pass these tests, we may recommend deferring activities pursuant to claiming the credit until a later date. These include: 

Additional Test 1: Do You Own the Risks and Rewards of the R&D Activity? 

If a business is hired to conduct qualified research activities by another business, the claim for the credit will generally flow to the business that bears the risk of failure and owns the rights to success. Businesses may be hired to develop a product or process by another company. These contracts often call for the researching business to receive a fixed fee for the work regardless of result and it transfers the rights to the results to the hiring business. 

Even though research costs might qualify for the credit, the company that hired the research business would be the one to claim it. 

The determining factor in a situation like this will be the contract between the two companies. If your company performs research on a contract basis for other businesses, it’s important to consider the value of the R&D tax credit when negotiating a contract. 

Your business might still end up in a better position if you are paid regardless of result, but understanding the value of the tax credit foregone can lead to more equitable pricing for both parties. 

Additional Test 2: Do You Owe Taxes? 

In addition to the ownership of risks and rewards, businesses sometimes find that they qualify for a credit but can’t claim it in the current year because they aren’t making money, and therefore have no tax liability.  For individuals, alternative minimum tax (AMT) limitations could prevent one from claiming credit, but recent tax changes significantly increased the AMT exemptions and therefore reduced the likelihood that AMT would limit credit on an individual taxpayer level. 

The R&D Tax Credit is not a refundable credit—it can reduce the balance of taxes that you owe, but if you don’t owe taxes it will not generate a refund. The PATH Act, passed in 2015, allows certain start-up businesses to apply the credit against payroll taxes owed, but if you don’t qualify for that break your business will have to carry the credit forward until a year in which it owes taxes. 

So, it may not make sense to invest in having an expert conduct an R&D study and prepare the documentation for claiming the credit.  However, at the time when you have taxable income, claiming the credit may be a prudent strategy … assuming the tax benefit you’ll receive is greater than the cost of the study that needs to be performed!  Regardless of when you do the study, you will want to maintain good internal documentation.  If you do multiple years of R&D credit claims together it is important to have good R&D tax credit documentation so you aren’t “recreating” records and reduce audit risk. 

Connect with a Freed Maxick R&D Tax Credit Expert

The important thing to remember is that a claim for the R&D Tax Credit requires careful planning. If you’re looking to hire research on a contract basis or to perform research for hire, your agreements should reflect an understanding of the value of the credit and who will have the right to claim it. 

If your business performs R&D activities but isn’t yet profitable enough to claim the credit now, you need to understand how soon you will get the value of those expenditures back on your tax return. 

These can be complicated issues, and it’s our recommendation that before pulling the trigger on a R&D Tax Credit Study, you look at applicability issues in detail. 

We can help. 

In a 30-minute phone call we can identify whether you’re eligible for the credit and if it makes sense to proceed with a claim. 

To discuss your situation contact us by clicking the button or call us at 716.847.2651.

Tax Situation Review

 

View full article

Tax Reform and the R&D Tax Credit for Corporations

tax-reform-potential-state-taxation-impactTax Cuts and Jobs Act of 2017 didn’t change the R&D Tax Credit, but the repeal of the corporate Alternative Minimum Tax (AMT) expanded the potential benefit to all corporations that were in AMT.

The Tax Cuts and Jobs Act (TCJA) enacted at the end of 2017 did not make specific changes to the Research and Development (R&D) tax credit, but one significant change to the corporate tax system could benefit businesses that claim the R&D credit on their returns. 

TCJA repealed the corporate alternative minimum tax (AMT) for taxable years beginning after December 31, 2017.  As a result, the new law could make all corporate tax credits and carry forward, including the R&D credit, more valuable in the next few years.  

Corporate AMT and R&D Tax Credits 

Before TCJA, a corporation that was subject to the AMT in one year could take an offsetting AMT credit in subsequent years only to the extent that its regular tax liability exceeded its tentative minimum tax. Some corporations were perennially subject to AMT tax and the AMT credits increased over time and were unusable. 

Refund of AMT Credit Carryforwards. Under the new law, any AMT credit carry forwards that weren’t used before the AMT was repealed can now be used to offset the corporation’s regular tax liability. The credit carried forward can be refunded in an amount equal to 50 percent of the excess of the credit for the tax year over the amount of the credit allowable for the year against regular tax liability. (That increases to 100 percent for tax years beginning in 2021.) 

Corporations that have AMT credit carryforwards may now get an additional benefit from the R&D tax credit. To the extent the R&D credit reduces the regular tax liability, it could also accelerate the amount of AMT credit carryforwards that could be refunded during the “50 percent” years.

Application for All Corporations 

In a previous blog, we discussed provisions of a 2015 law change that allowed only certain “eligible small businesses” (ESBs) to apply the R&D tax credit against their AMT due.

Under current law, it appears that this benefit would apply to all corporations, regardless of whether they previously qualified as ESBs for purposes of deducting the R&D tax credit from their AMT liabilities. 

In effect, the elimination of the AMT under the TCJA has expanded the benefit to all corporations. The availability of the R&D credit to ESB would still apply to individual partners or S corporation shareholders who are subject to the AMT on their personal returns. 

Connect with a Freed Maxick R&D Tax Credit Expert

Calculating and claiming the R&D Tax Credit for a corporation is a complicated process, and it’s made even more challenging if your business is carrying forward AMT credits from prior years. 

If you have any questions or concerns about how the AMT and the R&D credit affect your personal or business taxes, connect with us by clicking on the button or please call the Freed Maxick Tax Team at 716.847.2651. to discuss your situation.

For more insight, observations and guidance on the new Tax Cuts and Jobs Act, visit our Tax Reform webpage.

View full article

Good News: No Changes to the Research and Development Tax Credit

research and development deductionsHowever, Startups Need to be Mindful About Future Changes to Research and Development Deductions.

Most tax experts would agree that the recently enacted Tax Cuts and Jobs Act of 2017 was generous to businesses of all types. One of the most anticipated events was what Congress was going to do with the very popular Research and Development Tax Credit.

Even though this new tax legislation made sweeping changes to the tax code, the good news is that the R&D tax credit was largely unaffected by this legislation, with the exception that start ups may have to pay income tax in earlier years than they have in the past.

Here’s a summary of Freed Maxick’s R&D Tax Credit Team’s perspective on the new legislation and its consequences for the credit:

Section 174 Costs

The most pervasive and taxpayer unfavorable provision related to research and development activities does not directly relate to IRC Section 41 (Credit for Increasing Research Activities), but rather, IRC Section 174 (Research and Experimental Expenditures).  

New call-to-action

Currently, taxpayers have the option to immediately expense R&D costs or elect to capitalize and amortize them, but starting in 2022, companies will no longer be able to immediately expense costs allowed under IRC Section 174 related to research activities.  At that time, taxpayers will have to capitalize US-based research expenses to a capital account and deduct them over a five-year period.  

If such expenses relate to research performed outside of the United States, they will be capitalized and deducted over a more protracted 15-year period.

IRC 280C Reduction

The definition of qualified research activities & qualified research expenses did not change, nor did the methods to calculate the credit (regular credit or alternative simplified credit).

Many taxpayers will generate larger credits as the maximum corporate tax rate decreased from 35% to 21%, thus reducing the reduction under IRC Section 280C (“280C”) or the impact of the expense addback if the 280C reduction is not elected.  As you may know, you can’t claim both the credit and the deduction for research expenses.  The 280C election, if made, reduces your credit by the maximum corporate rate so you don’t have to add back the deductions.  

However, with the corporate rate decreasing, the benefit will decrease and the net effect on the effective rate for corporations may remain similar. Here’s an example:

Under the old rules owner’s of pass-through entities taxed at the highest individual rates and large corporations simply elected the IRC Section 280C reduction because the difference in rates was not that great for the owners (39.6% individuals; 35% corporations) and the percentage reduction (35%).

Research and Development Tax Credit Calculation

An example in the case of a large Corporation:

   

2017 Rates

 

2018 Rates

 

Difference

 
 

Taxable Income

20,000,000

 

20,000,000

 

-

 
 

Corporate tax rate

35%

 

21%

 

-14%

 
 

Corporate tax

7,000,000

 

4,200,000

 

(2,800,000)

 
               
 

R&D tax credit gross

615,385

 

615,385

 

-

 
 

R&D tax credit after 280C reduction

400,000

 

486,154

 

86,154

 
               
 

Net tax

6,600,000

 

3,713,846

 

(2,886,154)

 
 

Effective rate

33%

 

19%

 

-14%

 
               
 

% benefit of R&D credit (Effective rate - Corporate tax rate)

-2%

 

-2%

 

0%

 
               

A more careful analysis may be needed on individualized bases as the credit is reduced by 21% under IRC Section 280C, but the top rate could be 29.6% (assuming a full 20% QBI deduction & ignoring any affordable care act taxes).  

Corporate AMT

As part of the 2015 PATH Act, President Obama exempted most taxpayers from the AMT limitation that hindered many businesses from claiming R&D credits.  With the removal of the Corporate AMT starting in 2018, all corporate taxpayers will now only be limited by the regular tax limitations (taxpayers with over $25,000 in regular tax liability are limited to offsetting no more than 75% of their regular tax liability using the credit).

It is important to note that the individual alternative minimum tax was not repealed.  On the bright side, with the higher exemption amount and phase-out income levels, potentially fewer individuals and pass-through entity owner/taxpayers will be subjected to the individual AMT.

Section 59A Base Erosion and Anti-Abuse Tax

The research credit is one of the very few general business credits that can be claimed to offset the new Section 59A Base erosion and anti-abuse tax (“BEAT”) tax through 2025.  This tax will only impact multinationals with gross receipts over $500,000.  However, those companies are highly likely to generate research credits and the R&D credits they generate can help offset this additional tax imposed upon them.

A Word of Caution for Startups on the R&D Tax Credit

After 2021, start-ups claiming the R&D Tax Credit could be in for a rude awakening.  A combination of changes to the limitation on usage of net operating losses and capitalization of previously deductible IRC Section 174 costs for R&D expenditures could result in startups having to pay income tax in earlier years than they have in the past.  See the discussion above related to the new Section 174 rules.

We strongly suggest that you connect with us to see how tax reform affects you or your company. The year 2022 is only a few years away, so starting to plan now may help reduce your taxable income in the future.

Connect with Our R&D Tax Credit Experts for More Information

Tax Situation ReviewThe Research and Development Tax Credit experts at Freed Maxick are standing by to help review your situation and provide guidance on both your eligibility for the credit, and the scope and processes necessary for its capture and claim.

To schedule a complimentary review, call me at 716-847-2651, reach me via email at joe.burwick@freedmaxick.com, or simply click on the button to complete and submit a meeting request.

For more insight, observations and guidance on the new Tax Cuts and Jobs Act, visit our Tax Reform webpage.

View full article

Does Filing for R&D Tax Credits Raise an Audit Red Flag?

Does Filing for R&D Tax Credits Raise a Red Flag?If your company relies on the hard sciences or uses technology to create or improve products or processes, then you may be eligible for the federal Research and Development Tax Credit. Fear of being audited makes certain taxpayers (generally smaller companies, with limited resources) choose not to claim the R&D tax credit even if they may qualify.

IRS or state audits can certainly take an extraordinary amount of time and resources to handle. However, misconceptions abound about attempting to claim the R&D tax credit and the likelihood of a future audit, possibly stemming from the credit being a Tier 1 issue (i.e. top priority for review) in the IRS old “tiered” system for tax examinations and enforcement. The IRS discontinued the tiered system in 2012 and now leaves the choice to audit R&D tax credits to the discretion of field auditors. Further, recent taxpayer-friendly law changes and announcements clearly identify the importance of the credit as a matter of tax policy and global competitiveness. This in turn suggests that the IRS will not view R&D credit claims with the same level of skepticism as they did historically.

Bogus R&D Tax Credit Claims

There’s no doubt that some taxpayers that don’t qualify still claim fictitious or egregious credits. If a company that researched Van Gogh’s life tried to claim R&D credit, they would be denied because research in the social sciences (economics, business management, and behavioral sciences), arts or humanities is excluded from the definition of qualified research. However, a company that developed new formulation of artists’ paint would not be excluded, however.

Factors Considered by the IRS to Audit a Taxpayer

Certain factors can increase the likelihood of your R&D credit claim being audited:

  • The overall size of your credit claim. The larger your credit claim, the higher the likelihood of audit.
  • The credit you claim versus your industry average.
  • Filing an amended return that claims the R&D credit can also increase your chances of an audit, as all amended returns routinely receive additional attention from the IRS.
  • The industry you are in.  If IRS perceives potential abuse within an industry, you may have a higher likelihood of audit.
  • If your NAICS business code is one that indicates you may not be eligible, then you probably have a higher likelihood to get audited. Examples of such businesses include hair salons and restaurants.

How to be Successful on an R&D Tax Credit Audit

One secret: documentation, documentation, documentation. Regarding the quantitative aspects of claiming the credit, it is important to substantiate the amounts of your qualified expenses with proper records that clearly demonstrate the nexus between the activities performed and amount of credit you’re claiming. Regarding the qualitative aspects of the credit, it is important to provide documentation and/or create a narrative that addresses the IRS criteria to validate the eligible nature of qualifying R&D activities. Establishing the proper framework for supporting the R&D tax credit significantly increases the likelihood the claimed will be accepted on audit for both original and amended returns.    

Other tips for a successful audit:

  • Don’t go at it alone or rely on your deliverable alone. Bring in an experienced R&D tax credit specialist.
  • Respond timely to information document requests (“IDR’s”).
  • Know the IRS audit techniques guides, which the IRS publishes to inform field agents of areas to focus on.
  • Treat your IRS agent with respect.  

The R&D credit can provide a tremendous benefit to the right companies. Simply filing an R&D credit claim won’t cause an audit. However, working with tax experts familiar with the R&D tax credit and audit process will help to: (1) ensure the R&D tax credit claim will survive an audit (2) to identify efficient processes for supporting the R&D tax credit claimed every year.   

Please call us today at 716.847.2651 if you would like to speak with us in more detail about the audit process or to evaluate whether your company may be eligible for the R&D tax credit.  

View full article

New IRS Directive Provides R&D Tax Credit Audit Protection

research-credit.jpg

Authors: Don Warrant and Sam DiSalvo

The federal Research & Development (R&D) Tax Credit can mean tremendous tax savings for companies that fund research and development activities to create new or improved products or processes. Now, a new IRS Directive issued to its examiners aims to streamline the approach to determine the amount of qualified research expenses (QREs) for Large Business and International (LB&I) Taxpayers (i.e. assets equal to or greater than $10 Million).

The Directive applies to LB&I Taxpayers that have Certified Audited Financial Statements (CAFS) prepared in accordance with U.S. GAAP. The CAFS must show QREs calculated in accordance with ASC 730 as a separate line item on the income statement or as a separately stated note.

The Directive may involve some additional work in the first year to establish a framework and schedules to break out certain costs, but should facilitate claiming this valuable tax credit in future years. Under the Directive, IRS examiners are instructed to accept the amount of R&D tax credits claimed by LB&I Taxpayers (based on ASC 730 QREs as adjusted per the Directive) who choose to follow the procedures outlined in the Directive.

The Directive applies to original returns timely filed (including extensions) on or after September 11, 2017. It can also apply to years under an IRS audit if, at the start of the audit, the company indicates that it intends to follow the Directive.  

Get a copy of the new R&D Tax Credit Directive here.


Optional Methods for Claiming Research & Development Tax Credits

LB&I Taxpayers now have the option to have a traditional R&D tax credit study performed to support the tax credits claimed, or to follow the procedures outlined in the Directive which should provide IRS audit protection, but may reduce the amount of the tax credit claimed.

should you use financial statement auditThe Directive effectively provides a “safe harbor” methodology when claiming R&D tax credits. In addition, the LB&I Taxpayer may increase the amount of the R&D tax credit claimed by including additional QREs allowed under the IRC that are not included in the Directive.  These QREs are subject to IRS examination and therefore, this portion of the R&D tax credit claimed may constitute an uncertain tax position impacting the CAFS. A limited scope R&D tax credit study can be performed for any QREs that don’t fall under the safe harbor.

Given the optional methods to substantiate R&D tax credits, LB&I taxpayers should consider having a feasibility analysis performed by an R&D tax credit expert to compare the potential tax benefit and related costs under both methodologies.  In addition, LB&I Taxpayers may realize cost savings in time and effort to compile and substantiate QREs, particularly where the QRE identification process is time consuming or complex.

Eligible QREs under the Directive

The eligible QREs under the Directive focus on wages and supplies.  For instance, generally 95% of the taxable wages of “qualified individual contributors” and “first-level supervisors” (i.e., those with only one level of employees directly below them) whose wages are charged to R&D cost centers and expensed as ASC 730 R&D costs are included in the safe harbor under the Directive.

W-2 wage and supply expenses excluded from the Directive include costs incurred to perform R&D under third-party contracts and other agreements, patent costs, severance pay, and expenditures not otherwise allowed as QREs for income tax purposes such as efficiency surveys, wages used in computing the work opportunity credit, and foreign research.

LB&I Taxpayers who choose to follow the Directive will need to establish the organizational reporting levels and structure of employees whose costs are expensed as ASC 730 R&D costs, as well as identify appropriate financial information. This involves extracting, organizing and validating data needed to breakout the eligible ASC 730 R&D costs for use in calculating the R&D tax credit.  

LB&I Taxpayers who don’t currently disclose ASC 730 R&D costs may find it beneficial to identify, compute and report these costs in their CAFS.


Talk to the R&D Tax Credit Experts

Calculating your company’s adjusted ASC 730 R&D costs can be complex. If you’re an LB&I taxpayer with CAFSs and have QREs (even if you don’t currently claim R&D tax credits), you owe it to yourself to investigate whether this Directive identifies new QREs or can simplify the time and effort to compile and substantiate QREs.  This could provide the audit protection you desire and limit reporting the uncertain tax position in your CAFS.  

We can help.

Click here to schedule a 30-minute consultation regarding whether your company is eligible to claim R&D tax credits and the new Directive.

View full article

3 Reasons That Small Businesses Overlook the R&D Tax Credit

Reasons-Small-Businesses-Overlook-the-R&D-Tax-Credit-LARGE-771845-edited.jpgThe R&D tax credit can deliver significant tax savings, but many small businesses don’t realize it’s available to them.

Yes, there is a tax credit available to all businesses, including small businesses, for R&D costs. The tax credit has been a part of the tax code in some form since the 1980’s, although for the vast majority of that time it was considered “temporary.” It had to be extended 16 times before being made permanent in the Protecting Americans from Tax Hikes (PATH) Act of 2015. Perhaps the on-again/off-again uncertainty of the tax credit’s availability has led to its underutilization by many of the businesses it was designed to help.  

Whatever the cause, so many eligible taxpayers are failing to claim the available small business R&D tax credit that some members of Congress have introduced legislation aimed at improving government efforts to educate small businesses on the topic. There are two bills currently in the Senate and House, S. 650 and H.R. 1543 that would require the IRS and the Small Business Administration to work in partnership to develop basic training sessions and related information relating to federal income tax credits, especially R&D tax credits that benefit small businesses and start-up companies.

Those efforts should focus on 3 main problems:  

  • Small businesses don’t know the R&D tax credit exists. In the early stages of a business, tax planning sometimes takes a back seat to tax preparation. Owners who prepare their own tax returns or rely on tax preparers with limited experience may fall into the trap of “doing it like last year” instead of analyzing each year’s income and expenses with a clean slate. A failure to recognize the availability of the R&D tax credit in one year can be compounded by repeating the mistake in future years.
  • Small businesses don’t think they have R&D expenses. Many taxpayers skim past the R&D tax credit because they assume it’s only available to companies “in the business” of research and development, like a pharmaceutical or technology corporation. In fact, the tax credit is based on the activity performed, not the industry of the taxpayer. Costs may qualify for the tax credit if the activity:
    • --Is designed to eliminate a technical uncertainty,
    • --Includes some process of experimentation,
    • --Is technological in nature, and
    • --Is intended to create a new or improved product or process.

Activities focused on improving or redesigning existing products, as well as designing new products, can qualify. Costs associated with creating or improving a manufacturing process or new software may be eligible. Recent IRS guidance even eased limitations on eligibility of R&D expenses related to the development of internal use software.

  • Small businesses don’t have an income tax liability against which to claim the tax credit. Until recently, this hurdle used to make many startups and small businesses ineligible for the tax credit at a time when they most needed support. As part of the PATH Act, Congress enacted provisions allowing certain qualifying startups and new small businesses to claim the tax credit against the employer’s share of Social Security taxes and to calculate the tax credit without regard to alternative minimum tax limitations. 

Now that the R&D tax credit is a permanent part of the tax code and its applicability to small businesses has been expanded, many businesses are taking the time to learn more about the tax credit and find out if they qualify. The calculation of tax credits and the election to claim them can be a complicated process. If you’re wondering whether your business (small or large) may be missing out on these R&D tax credit savings, please contact us at Freed Maxick.

…………………………………………………………………………………………………………………………

Freed Maxick CPAs, P.C. is Western and Upstate New York’s largest public accounting firm and a Top 100 firm in the United States. Freed Maxick’s reputation and experience with business and tax issues has made us a go-to firm for businesses and individuals from all over the U.S. and Canada and around the world.

View full article

Give Yourself Some Extra Credit with the R&D Tax Credit for Start-Ups and Small Businesses

iStock-641194726-189064-edited.jpgR&D Tax Credit allowed to offset payroll taxes for qualifying small businesses and start-ups

It is estimated that more than 70% of eligible small businesses and start-up companies failed to claim start-up R&D tax credits and small business R&D tax credits to which they were entitled for the 2016 tax year resulting in overpayment of taxes. By failing to claim R&D tax credits to which they were entitled, they also failed to make a new election that was first available for the 2016 tax year, to apply the federal R&D tax credit against their federal payroll tax liability. 

The Protecting Americans from Tax Hikes Act (PATH Act) of 2015 created this new election allowing “qualified small businesses” to apply R&D tax credits generated beginning with the 2016 tax year, to their federal payroll tax liability instead of their federal income tax liability. Congress recognized that many small businesses and startups weren’t claiming R&D tax credits due to insufficient, or no federal income tax liability.  However, most startups and small businesses have payroll tax liabilities. Therefore, the PATH Act created a new election that was first available for the 2016 tax year, to allow a qualified small business claiming the federal R&D tax credit, to elect to apply the credit against their federal payroll tax liability instead of their federal income tax liability.

Many eligible small businesses and startups failed to claim the federal R&D tax credit for the 2016 tax year. Therefore, they were unable to make this election.  Fortunately, the IRS issued interim guidance in Notice 2017-23 allowing qualified small businesses to amend their 2016 tax returns by December 31, 2017, to claim the R&D tax credit which would then allow them to make this election.

To qualify to make this election, the following requirements must be met:

  • Be a qualified small business which is a business entity (excluding tax-exempt organizations) whose gross receipts for the current taxable year are less than $5 million and who did not have gross receipts for more than five taxable years, ending with the current taxable year. Gross receipts must be aggregated with related persons and among members of a controlled group of corporations.
  • Elect to apply R&D tax credits generated for the 2016 tax year against the employer’s portion of the social security tax.  The election does not affect the payroll tax deduction amount.  In the case of a pass-through entity, the election is made at the entity level.

The payroll tax credit is allowed for the first calendar quarter that begins after the filing date of the original or amended tax return that includes the election. The amount elected may not exceed the lesser of 1) the current year R&D tax credit generated, 2) $250,000, or 3) the amount of the R&D tax credit carryover or carryback to the taxable year. If the payroll tax credit exceeds the employer’s portion of social security tax for the calendar quarter, the excess is applied to succeeding calendar quarters.

…………………………………………………………………………………………………………………………

Freed Maxick CPAs, P.C. is one of Western and Upstate New York’s largest public accounting firms and a Top 100 firm in the United States. The start-up R&D tax credit and small busines R&D tax credit experts at Freed Maxick can assist you to determine if your business is eligible for R&D tax credits, whether your business or its owners could benefit from claiming R&D tax credits, and eligibility for the payroll tax election. Please contact us for assistance.  

View full article

Four R&D Tax Credit Documentation Methods

ways to document r&d tax creditIf your company relies on the hard sciences or uses technology to create or improve products or processes, you may know that you can reduce federal taxes using the Research & Development (R&D) Tax Credit. You may not know the best methods to document your activities—a major factor in claiming the credit at all.

We previously discussed the importance of thorough documentation to support your claim for the R&D credit. Let’s take a look at documentation methods—the good and the bad.

Methods to Keep Records (From Best to Worst)

METHOD 1: Use time-and-expense (“T&E”) tracking software and track activities project by project.

Wages are usually the largest component of most R&D tax credit claims and the amount of time for each employee allocated to R&D activities is important to substantiate.

T&E software and project-by-project tracking will provide the most reliable information and will be contemporaneous (looked at favorably by the IRS).

Accurate tracking may be time-consuming for employees involved in R&D, but will help save time at year’s end. Set up codes for qualifying and non-qualifying activities and expenses within a project (that is, activities’ costs you can apply for and those activities’ costs you can’t apply for). For instance, if reverse engineering is part of a project, that time is not qualified and would be indicated as non-qualified.

You may be surprised how much of your wages for employees or expenses for outside consultants or supplies can qualify for the credit.

METHOD 2: Have individual employees keep a monthly or weekly summary of what they worked on.

These documents can be in diary form, in Word/Excel, or even in the notes on your iPhone. Accumulate the information periodically (quarterly, semi-annually or at least annually). This will also be contemporaneous documentation—but you might have to devote effort later to clarifying work time that does and doesn’t qualify for the R&D credit.

One of our clients, for example, keeps a monthly report for R&D tax credit records: one or two sentences or bullet points on their activities, such as “continuing developing the project parameters,” or, “purchased steel from vendor X.” The monthly synopsis clearly shows what that client does through the year that qualifies and doesn’t qualify for the R&D credit. Another client keeps a running Word document with details like “testing this month,” and, “evaluated alternatives after last month’s test results.” This client describes the activities in the document but doesn’t put down the time until later.

METHOD 3: Designate a manager, department leader, or other point of contact to accumulate others’ R&D qualified and non-qualified time.

Who you designate depends on the size of your company. In the office of one of our clients, a small start-up, the controller has each person fill out a brief Excel sheet weekly and then she accumulates the information and breaks it out into qualifying and non-qualifying activity. (The controller reaches out to me if she has questions if a project will qualify or not.) Another company designates one engineering manager who knows what his team is doing and he reaches out to other managers to accumulate what other teams are doing.

The risk here is the potential misinterpretation of information. Non-qualified activities could be designated as qualified and vice versa, as the point person may not know everything every staffer did.

METHOD 4: Backfill your year’s R&D activities once, annually.

This means going back into records of meetings, appointments, and potentially many other source documents.

This is the least-reliable method of documenting R&D activity, as well as the most time-intensive, as individuals need to look back on the past year’s activities. (Bear in mind that some key personnel on an R&D project might also leave the company during the course of a year.) You can also use interviews with personnel who are involved in your R&D activities during the year.

If employees are reluctant or slow to help, stress the importance of the R&D tax credit to the company’s bottom line.

Seek R&D Tax Credit Record-Keeping Help

Solid documentation must support your claim for the R&D tax credit. No single record-keeping method will work for everyone, and combining some of the methodologies above might work best for you.

Contact us if you have questions about determining a schedule for periodic checks of progress and documentation. We’ll work with you to help improve your record-keeping and maximize your ability to claim the R&D tax credit.

View full article