No! One of the most common misconceptions about the R&D Credit is that it is only available to scientists in white lab coats or high-tech companies creating the next major breakthrough. In reality, the R&D Credit is available to businesses of all sizes in a wide range of industries, including architecture, engineering, software, manufacturing, food and beverage, construction and many more.
If your company does any of the following, your business likely qualifies for the R&D Tax Credit:
Develops or designs new products or processes
Enhances existing products or processes
Develops or improves upon existing prototypes and software
Qualified research expenses (QREs) are expenses that a business incurs in conducting qualified research under the R&D Credit. QREs include:
Amounts paid for supplies
Wages paid to employees who engage in qualified research or those who directly supervise or support these employees
Amounts paid to third parties who are under contract to perform R&D activities
Yes, there are several activities that are specifically excluded from the credit. For instance, businesses generally may not claim the R&D Credit for activities conducted outside the U.S., the routine testing of products or materials for quality control purposes, research in non-scientific disciplines such as the arts, humanities, or social sciences, and activities conducted solely with the goal of improving a product’s aesthetic appeal.
You can recover up to 10% of eligible expenditures. For example, a company with $1,000,000 of eligible expenses, could receive an R&D credit of $100,000.
A number of factors go into claiming the credit, but the potential savings on the table make exploring the credit a worthy investment. Since the credit may be claimed for both current and prior tax years, companies should be regularly documenting their R&D activities to ensure they are positioned to claim the credit in both situations.
To claim the credit, the taxpayer must evaluate and document their research activities to establish the amount of qualified research expenses paid for each qualified research activity. While taxpayers may estimate some research expenses, they must have a factual basis for the assumptions used to create the estimates. Some examples of documentation includes:
General ledger expense detail
If the Company meets the qualifications of a startup (less than $5 million in gross receipts and less than 5 years old), and has W2 Wages with a related payroll expense, it is very beneficial to calculate the credit to take advantage of the payroll tax offset.
The R&D Tax Credit is not refundable. If you don’t owe income tax or the credit is worth more than what you owe, you won’t receive a check from the IRS. However, most businesses will use the 20-year carryforward to apply their unused credit to future years’ taxes.
If you were eligible for the credit but didn’t know about it or didn’t take it because you thought it was too complicated, you can still go back and take it by amending your income tax return. You generally have three years to amend your return.
You will receive a refund for any extra amount you paid as a result of not claiming the credit. If the credit exceeds what you paid in income taxes, you can receive a carryforward for the remaining portion just as if you had filed on time.
You need to keep records substantiating the expenses you claimed. This generally includes financial records showing that you actually paid the money, business records showing that the expense was for a qualified purpose and other records showing the breakdown of qualified vs. non-qualified activities when a total expense was incurred for multiple business purposes.
Just because you took the Research and Development Tax Credit doesn’t mean you will automatically get audited, but there are still random audits of all tax returns. Keep in mind that the R&D Tax Credit is not a loophole, and the rules for what you can and can’t claim are clear in most cases. As long as you work with an experienced tax professional to determine your eligible expenses and properly document them, you shouldn’t fear claiming a credit you’re entitled to.
The credit is claimed on a timely-filed (including extension) federal income tax return for the year in which the qualified expenses were incurred. The credit may also be claimed by amending a previously-filed return on or before the statute of limitations date to report credits related to expenses incurred during that period. The statute of limitations generally grants three years after the original deadline or filing date (whichever is earlier) to amend returns.