Deciding Whether You Can Claim R&D Benefits
The research and development tax credit is a tax incentive program. Also known as the research and experimentation tax credit, the research tax credit, or the R&D credit, the credit allows a company to recover a portion of their R&D costs through tax credits. Many incorrectly think the R&D credit only applies to companies that actually employ scientists. If, however, you are developing new systems and designs or a new product, you may be entitled to this lucrative tax break.
It can be costly to overlook this tax credit; your business may be eligible to file an amended return and claim the credit for the previous three years, which could equate to more money in your pocket to grow your business and create new jobs.
The credit has been part of the Internal Revenue Code since 1981, but the IRS requires you to properly document your activities and to correctly apply the law. Learning what activities qualify for the tax credit is worth meeting with your accountant who can determine what is an applicable R&D expense. In general, wages and salaries of employees and supervisors conducting research, supplies, and a portion of research contracted to outside entities are often qualified for the credit. It’s not meant to cover buildings, equipment, overhead expenses, or non-wage benefits for personnel.
You can apply a multi-part test to establish whether particular expenses are qualified for the credit. Expenses must be incurred in the course of conducting research that:
- Roughly follows the scientific method of inquiry and evidence
- Is technological in nature
- Relies on principles of physical or biological sciences, engineering, or computer science
- Will be used to develop a new or improved product, process, or software that will be sold, leased, licensed, or used by the taxpayer
- Seeks to improve the quality, functioning, or performance of a product
Expenses that don’t qualify include:
- Research to improve style, taste, cosmetic, or seasonal design factors
- Efficiency, management, or consumer surveys
- Research in the social sciences, arts, or humanities
- Research conducted outside the United States
- Research funded by another entity
There is no bright-line distinction between activities that qualify and those that do not, and thus, this has been a source of friction between the IRS and taxpayers. There have been numerous court cases that better define the credit and what are acceptable expenditures.
It is essential to ensure that you are getting the credits and deductions to which you are entitled. The laws and rules are complex, but R&A can help you make sure you are getting everything your company deserves.
About this Author
Laura specializes in income tax return preparation, compliance, and research for individuals and businesses. She also is experienced in preparing compiled and reviewed financial statements, individual and S-Corporation taxation, multi-state taxation, and income tax credits including the R&D credit.