R&D tax credit (Research and Development Tax Credit) is the highest tax benefit accessible to business organizations. R&D regularly provides decent and trustable opportunities to cut down the income tax liabilities. It was introduced in 1981 and has expanded quite a lot ever since. Many business organizations have taken advantage of the R & D tax credit.
To get benefits under R&D tax credit, the business must engage in specific qualified research activities. However, many businesses cannot take full advantage of this service. Due to some misconceptions about its applicability and lack of knowledge, some business organizations fail to claim any credit.
Reasons why businesses fail to avail credit under the R&D tax credit
- Confusion related to documentations
- Not able to participate in the qualified activities
- Expenses
Eligibility criteria to claim the credit under the R&D tax credit
The R&D Tax Credit is a scheme introduced by the government to only certain companies. Companies based in the United States and indulge in the research and development program can avail of the tax credit.
This credit was introduced by the government as the Congressional acknowledgment towards the decreasing investment in the research, adversely affecting the country’s economic growth, global competitiveness, and productivity.
When in 2015, the Protecting Americans from Tax Hikes (PATH) Act was implemented, the R&D tax credit was also made a permanent part of the tax code. Usually, taxpayers think that this R&D tax credit is only available to big corporations for conducting research. But that is just a misconception. Businesses of all sizes across the country can avail of this incentive if eligible. As long as your business is engaged in any kind of qualified research activity, you are eligible to avail of the tax credit.
This qualified research activity can be anything:
- Manufacturing research
- Software development research
- Developing new technology
- Medical research
Even if you are a start-up, you can claim the tax credit as long as you are conducting qualified research for the next five years against payroll tax.
How to claim the R&D tax credit?
Some factors play an essential role in claiming the tax credit. There is a chance of companies claiming the tax credit for the current year and the previous year. These companies can avail themselves of the said tax credit by documenting their research and development activities for the years they want to claim the tax credit.
Companies or organizations need to evaluate their R&D activities and verify the expenses in such activities. The documents that are required to claim the R&D tax credit are:
- Project lists
- Project notes
- Payroll records
- General ledgers expense details
- Some other research activity related documents
Costs that are qualified for the tax credit
- Wages
- Purchase of raw material and related supplies
- Information technology costs
- Costs associated with subcontractors (if any)
How to calculate the R&D tax credit?
The R&D tax credit calculation can be tricky to understand; however, there are specific methods for the calculation.
The first one is the RRC (regular research credit calculation) method. Under the RRC method, 20% of the current year’s qualified research expenses are eligible for R&D tax credit. This method can be complicated because the company needs the average yearly gross R&D receipts for the past four years.
However, there is an alternative method, ASC (Alternative Simplified Credit). You don’t need the past four years’ R&D receipts in this method, and you only need QREs (Qualified Research Expenses) for the past three years. It is best for the companies who lack past years’ documents.
