The Research & Development (R&D) tax credit provides competitive incentives and extensive cash flow opportunities for U.S. business owners. However, as with many government programs, receiving the benefit heavily relies on one major component: the paperwork.
R&D Tax Credit Documentation Plays a Vital Role in Compliance and Program Benefits
Proper R&D tax credit documentation requires proof of all Qualified Research Expenditures (QREs) and other expenses to maintain program compliance and maximize the possible tax reduction. Consistent and thorough documentation helps minimize corporate risk when organizations find themselves subject to IRS audits.
For many business owners, hearing these words alone – documentation, tracking, compliance, audit — sufficiently deters them from pursuing R&D tax credits. As a result, each year, organizations of diverse size and scope miss out on this highly rewarding program simply because they don’t want to deal with the paperwork.
Check Out Acena’s R&D Tax Credit Documentation Checklist
At Acena Consulting, we understand that no one (besides our team, of course) enjoys chasing tax paperwork. We offer an easy-to-follow R&D Tax Credit Checklist to focus our clients on the essential documentation that facilitates filing for the R&D tax credit. Key considerations include:
Understanding the Required Documentation Framework
The first step is building the basic documentation framework associated with your business’ operations and internal processes.
The system should capture both quantitative and qualitative components because claiming the R&D tax credit requires both types of evidence to be documented and evaluated.
Mechanical Computation Review
The quantitative component of the R&D tax credit encompasses expenses directly incurred during qualified R&D activities. Documentation related to these items (called QREs ) is critical to making the credit calculation and supporting it, in the event of an audit.
Qualified Research Expenditures (QREs)
Many executives don’t realize that QREs can be either contracted or internally incurred expenditures.
Some of the most common and significant QREs include:
- Salaries or wages of staff and supervisors working on eligible initiatives
- Non-depreciable equipment, materials, and supplies used during R&D initiatives
- Payments to contractors performing qualifying tasks
Qualitative Analysis
It is next necessary to evaluate development efforts conducted during the tax year. This evaluation includes documenting all potential efforts that may qualify under IRS guidelines.
Identify Eligible Activities for R&D Documentation
For development efforts to qualify, they must pass a four-part test, demonstrating:
- Qualified Purpose
- Elimination of Technical Uncertainty
- Process of Experimentation
- Technological Nature
Each development activity must pass all four tests to be included among development-associated expenses.Documentation showing how the project satisfies each test should be created and maintained in your documentation system.
Consistency Requirement
The consistency requirement states that the QREs and gross receipts used to compute the fixed base percentage are determined on a basis that is consistent with the determination of QREs during the current credit year.
Therefore, any unqualified expenses during the current credit year must be subtracted from base-year expenses, regardless of the law in effect during those years. Gross receipts are likewise determined and used to calculate the average gross receipts and fixed base percentage during the current credit year.
Additionally, all qualifying businesses also must show consistency between the base year and the credit year:gross receipts during base years must agree with the gross-receipts average during the previous four years.
Key components of your documentation system to support consistency include:
- Maintaining accurate and detailed records of all project QREs on an annual basis.
- Keeping copies of tax returns during base years.
- Hiring an outside consulting firm (like Acena Consulting!) to perform a full R&D study.
Failure to adhere to the Consistency Requirement can result in significant penalties from the IRS, so take this requirement seriously.
Maintain Audit Compliant Documentation
When evaluating documentation for audit protection, you must confirm that all QRE-related expenses are captured in your documentation system. This measure ensures the IRS can easily verify these expenses and decreases the risk of an audit.
Tracking time spent on development efforts also provides protection against adjustments if audited.
All taxpayers filing for the R&D tax credit should maintain easily accessible documentation to support QRE designations. Account ledgers, accounting approaches used, expensed supplies, fixed based percentage calculations, org charts, and wages paid are examples of documentation that may be required to file for the R&D tax credit.
Acena Consulting Streamlines R&D Tax Credit Documentation
Acena Consulting’s experienced R&D tax credit professionals specialize in documentation compliance to deliver an expedited and convenient filing process. Contact us today to schedule an appointment.
