At its simplest form, the federal research and development tax credit is in place to create jobs. A simple concept developed into a complicated and subjective tax credit.
But does the current format result in more jobs, more innovation and more revenue for US companies that spend thousands of hours developing and innovating?
Detractors would say the research and development tax credit doesn’t result in more jobs and site government studies that show the credit costing the US government tax dollars rather than increasing tax revenue through more employment.
The rest of us recognize that without a research tax credit, more jobs would be lost to countries that offer government funding for research. More revenue would be generated in countries that provide direct funding to both foreign and US companies that will locate in within their borders.
If the goal of the R&D tax credit is to stimulate employment, keep high paying jobs and thought leadership in the US and ultimately turn the results of the research into successful businesses and employment, perhaps the research tax credit should be looked closely in terms of structure, who it supports and who it should support
Road Blocks that Crush the Credit’s Impact
The R&D tax credit can be a game-changer and could make an impact for companies that need the tax reductions in order to both grow and compete internationally. However, structurally, the credit cuts its own throat and fails to provide the benefits that it can and should for American businesses and taxpayers.
Limiting the benefit through AMT
Tax credits that are part of Section 38 of the Internal Revenue Code (including the R&D Tax Credit) cannot offset alternative minimum tax (AMT). As many people know, AMT affect millions of taxpayers today because it was never indexed for inflation. As a result, taxpayers that could benefit from an R&D tax credit (and are creating incredible new and innovative products) cannot because they pay AMT and the research tax credits they generate must be carried over and cannot be used to reduce their tax burden today.
Non-refundable credits can’t help start-ups
Another structural component of the R&D tax credit is the fact that it is not a refundable tax credit.
What does that mean?
Simply that in order to get benefit from the R&D tax credit, a company must be in a tax paying situation.
Companies that are losing money or are not paying tax (perhaps they are a start-up or pre-revenue) can still generate R&D credits but would again, carry them over to future years. Nice, but this provides no help today for companies that need that extra help in the early years to get a new product to market.
In addition, investors that might provide funding for the new venture (and are acting in a non-active role) might receive their proportional share of the R&D credits passing through to them but would get hit with an AMT preference item potentially causing them to pay more tax rather than see a tax benefit.
A Refundable R&D Tax Credit
What if the research tax credit were refundable?
What if pre-revenue companies could benefit from the R&D tax credit to help them fund their innovation?
If innovation comes from start-ups and small businesses, why not focus more resources where they could generate a significant impact?
Building a Better Mousetrap
While there are many issues for Congress and the White House to manage and juggle, innovation and thought leadership should be near the top of the list.
The R&D tax credit could be rebuilt in a manner that would provide larger benefits for so many small businesses that need the support and assistance.
Building a better R&D Credit isn’t wishful thinking, it should be a focused goal for Congress.
What say you my friends?
How would you change the R&D tax credit?
Should investors be penalized for investing in innovation?
Randy Eickhoff, CPA is President of Acena Consulting. With more than 20 years of tax and consulting experience, Randy focused on helping companies successfully document and secure tax incentives throughout the US. He has been a long-time speaker nationally as well as conducted numerous training sessions on R&D tax credits and other US tax incentives.