We all have our phobias. However, business owners across the globe are often united in their fear of a single, two-syllable word: audit. The mere mention of a tax audit instantly evokes feelings of dread, uncertainty, and vulnerability as entrepreneurs in every industry worry that the IRS will find a gap between their deductions and their actual liability.
Executives filing R&D tax credit claims often experience their own brand of audit angst. Recent updates to the United States' research and development tax legislation have broadened the scope of the program, allowing companies operating in over 40 industries to maximize the substantial cash flow opportunities offered through the innovation tax credit. However, as with any credit or deduction, filing for R&D tax credits requires the company to demonstrate compliance and eligibility with every claim in the event of an IRS audit. Concerned that their business won't know all the Section 41 rules and regulations or worried that merely filing an R&D tax credit claim will exponentially increase the likelihood of an audit, many owners opt to forego filing for the benefit altogether. As a result, they miss out on potentially significant savings that can directly impact their company's bottom line.
The R&D Tax Credit Audit: What You Need to Know
Don't let audit anxiety cause you to miss out on qualifying research and development tax benefits. Go into the filing process armed with five tips that can help mitigate risk for your organization in the event of a Section 41 audit.
Understand Research and Development Eligibility
The first essential step in lowering risk during an R&D audit is recognizing how the IRS defines qualified research and development activities. Eligible claims must pass a four-part test that proves the activity eliminates uncertainty, involves the process of experimentation, is technological in nature, and serves a qualified purpose.
Compile Required Documentation
Proper documentation is the cornerstone of any R&D tax credit claim or audit, making it crucial to organize relevant data and maintain your business records throughout every qualifying initiative. The IRS may require documented evidence that includes:
- Records of relevant financial data
- Employee time allocation
- Documented details of eligible innovative activities
- Design drawings such as blueprints and CAD reports
Designate specific personnel in your organization to maintain, collect, and manage relevant documentation to ensure that no qualifying operation gets overlooked (and you're not racing to back-fill critical information after the activity has been conducted) in the event of an audit.
Pay Careful Attention to High Deductions
Generally, merely filing an R&D tax credit won't trigger an audit. However, filing for deductions that are significantly higher than other taxpayers in your industry and/or tax bracket may command a little extra consideration from the Internal Revenue Service. Don't let fear of getting flagged prevent you from making legally qualified deductions for your company. Instead, pay extra attention to the activities that warrant the biggest claims throughout the year. Proactively gather relevant proof and documentation as initiatives are performed. Additionally, write checks as often as possible to establish a financial paper trail that's easily referenced if audited.
Look for Easy Mistakes (aka Check Your Math)
Math errors can also trigger an IRS audit. Don't let a simple addition or subtraction mistake cause your claim to get flagged. Before filing, always double-check all the numbers so you're confident you've submitted sound statistics, figures, and data.
Partner With an R&D Tax Credit Specialist
The best way to minimize risk and ensure compliance in the event of a research and development tax audit is to partner with an R&D tax credit specialist. Yes, you may be able to manage some of the core requirements internally. However, consulting with a partner that holds extensive innovation tax credit experience offers you instant access to the team's insight, expertise, and resources. Your professional partner will manage every step of the process for you, helping you identify relevant activities and manage all necessary documentation for complete compliance that mitigates risk in the event your company undergoes an IRS audit.
Concerned about your R&D tax credit qualifications? Contact Acena Consulting today to discuss your business with our research and development tax professionals.