Many new businesses and startup organizations don't realize their operations may qualify them for the R&D payroll tax credit. The R&D tax credit gained permanent status in 2015 as part of the Protecting Americans from Tax Hikes (PATH) Act. While the research and development tax program was made permanent, it wasn't done evolving. The bill included further enhancements, and beginning in 2016, the program expanded to include a payroll tax offset for eligible companies.
The Benefits of the R&D Payroll Tax
New businesses can potentially apply the credit for up to five years with a maximum of up to $1.25 million in total credits claimed on a quarterly federal payroll tax return. As a result, startups and new companies often receive a benefit between 6-14% of qualifying research and development costs.
Additionally, most businesses that accrue a minimum of $300,000 in eligible R&D costs will qualify for a federal credit to offset the payroll tax that's equivalent to 10% of total research and development expenditures. Additionally, if the entire credit surpasses Social Security tax liability in any quarter, the excess can be carried forward to the next calendar quarter.
Understanding the Details of the R&D Payroll Tax for Your Business
Yes, businesses can use the R&D tax credit to offset payroll taxes.
However, tax law isn't always straightforward, leaving many business owners wondering what they need to know to apply for the benefit. Acena Consulting can help. We work with clients across virtually every vertical to answer questions and help inform them of the critical components of this dynamic tax program. Some common considerations include:
Effect Of The Payroll Tax Offset
The current legislation allows business owners to claim the credit on qualified expenses incurred during the previous tax year. Taxpayers must calculate and show the research and development credit on their originally filed federal income tax return. The federal tax return must also outline the portion of the credit applied to offset the payroll tax when filed.
Eligibility for the Credit
Most business owners assume they must be profitable to qualify for the R&D tax credit. This isn't the case; however, eligible companies must meet specific requirements, such as:
- Show gross receipts for five (or fewer years); interest income is applied toward gross receipts
- The gross receipt total must be less than $5 million for the year the credit is applied
- Perform qualifying research activities (QRAs) and incur qualifying expenditures
- Establish that they have a payroll tax liability
Beyond Eligibility: How to Ensure You Don’t Miss Out on Claiming The Benefit
It's important to note that businesses are not eligible for the payroll tax offset if they generated gross receipts before 2016. With that, if a business existed before 2016 but did not receive gross receipts, it could still qualify.
Also, taxpayers should know this is a “use it or lose it” benefit — the R&D tax credit can’t be claimed on an amended return. Qualifying businesses that don’t use the benefit when they originally file will miss out.
Finally, the quarter that you file the claim ultimately determines when you can claim the R&D tax credit benefit. For example, taxpayers claiming the benefit when they file in Q3 can use the credit at the end of the next quarter. Missing out on claiming eligible activities in Q3 will delay the benefit.
Breaking Down Qualifying Research Activities
Qualifying research activities are not industry-specific. Companies in any vertical could potentially be eligible for the R&D tax credit if the activities pass the credit's standardized four-part test that demonstrates:
- Technical uncertainty elimination
- The process of experimentation
- Reliance on hard sciences (engineering, physics, chemistry, biology, or computer science)
- A qualified purpose
All activities must be performed in the U.S. and must be funded by the company filing the tax credit claim.
Recognizing Eligible Expenditures
Taxpayers can claim costs associated with supplies used in research; however, capital items or general administrative supplies do not qualify for the benefits. Computer rentals and lease costs may also meet the program requirements. Regarding payroll, eligible expenses include:
Wages: Qualifying businesses can claim W-2 taxable wages paid to employees directly supporting or, in some cases, supervising research and development activities.
Contractor Expenses: Certain subcontractor expenses may qualify, including labor, services, or research. However, contractor wages can not be contingent on results.
Acena Consulting Helps Businesses Optimize the R&D Tax Credit Benefit
Contact our team of R&D tax credit professionals to learn how we can help your business apply the payroll tax credit to your operations.