Research and Development Tax Credit

Increase profitability and finance growth with R&D Tax Credits

Since its introduction in 1981, companies have used the Federal Research & Development Tax Credit to save billions of dollars. Many states also have R&D Tax Credits that follow the same guidelines as the federal credit, so the combined value of these credits provides an excellent means to increase profitability and fund strategic growth initiatives.

The credit is intended to help companies of all sizes underwrite the cost of innovation. Although manufacturing, bioscience, software and technology companies have historically reaped the greatest benefits from these credits, virtually any company that designs, develops or improves a product or process may be eligible.This includes engineering, architecture, and construction companies.

The R&D Tax Credit was enacted in 1981 as an incentive for American innovation and was made permanent in December 2015. Any company that designs, develops or improves products, processes, techniques, formulas or software may be eligible. R&D relates to development before commercial production for related U.S. activities. The R&D Tax Credit results in an immediate benefit to a company since it can reduce past, current and future years’ federal tax liability, thereby creating an immediate source of cash. The credit provides a dollar-for-dollar offset against taxes owed or paid which differs from a deduction. Starting in the 2016 tax year, the credit can be used to offset Alternative Minimum Tax and payroll withholding in certain circumstances. The federal credit averages about 6.5 percent of combined qualified R&D labor, contractor labor and supplies.

The R&D Tax Credit incentivizes certain research activities by reducing a company’s liabilities for spending money on that research. The credit is equal to a certain percentage of a business’ qualified research expense (QRE) in excess of a base amount. Expenses that qualify are more comprehensive than you may think — QREs can include the salaries of employees and supervisors who are conducting research, supplies and even some of the research that is contracted out. A simple four-part test helps to determine qualified R&D activity. R&D Tax Credit eligibility largely depends on whether the work you are conducting meets the criteria established by the IRS in its four-part test:

  1. Elimination of Uncertainty: You must demonstrate that you’ve attempted to eliminate uncertainty about the development or improvement of a product or process. In other words, something that has been changed solely for aesthetic purposes would not qualify.
  2. Process of Experimentation: You must demonstrate — through modeling, simulation, systematic trial and error or other methods — that you’ve evaluated alternatives for achieving the desired result.
  3. Technological in Nature (The Discovering Technological Information Test): The process of experimentation must rely on the hard sciences, such as engineering, physics, chemistry, biology or computer science.
  4. Qualified Purpose (The Business Component Test): The purpose of the research must be to create a new or improved product or process, resulting in increased performance, function, reliability or quality.