This article was originally posted here.
If you spend time on research & development, recent changes to the tax law could give you a big break on your payroll taxes—up to $250,000 a year. That cash could make or break a startup, where cash is king.
R&D tax credits
Tax credits give you discounts on federal and state taxes, if you satisfy all of the qualifications. (Not all states have a credit, so check your state’s laws.)
The R&D tax credit has been around since 1981, applying only to income tax, until recently. With changes to the law, the credit can now apply to payroll tax too. Now, early-stage companies who haven’t been profitable don’t have to miss out; they can claim the credit too.
On average, the credit equals 6 to 10 percent of a company’s R&D cost, including, but not limited to wages, supplies, and even contract researchers. The maximum cap annually is $250,000, which means your company could save $1.25 million over five years.
Does my company qualify?
To receive the R&D tax credit, your company must:
- Have $5 million or less in annualized gross receipts (that includes companies with no declarable income yet)
- Have 5 years or less of gross receipts
- Have its R&D evaluated and determined valid
Be prepared to devote some time and resources to the testing process. Getting your R&D evaluated and approved is a four-part process, with each part having extensive regulations and intensive documentation:
- Technical uncertainty – What’s being made new or improved?
- A process of experimentation – Were alternatives explored? Modeling done?
- Be technological in nature – Are you using hard sciences?
- Qualified purpose – Are you making or improving a product as it relates to performance, ability, function, or quality? (One caveat: Software and other similar developments that are for internal use only don’t qualify; the work must benefit the public.)
The fields for R&D are varied and popular, and we think lots of our clients will qualify, especially those in these industries:
- App development
- Platform design
- VR hardware and software
(A clarifying note: A company that was founded before 2012 can still qualify if it did not generate any gross receipts. For example, a research-intensive firm might have existed for years before generating receipts.)
Using this credit will probably increase the chance of an audit, so make sure you enlist a qualified tax advisor to claim this credit correctly. After your company qualifies for the R&D validation, claim the credit on the annual income tax return, then monetize the credit on subsequent quarterly payroll tax returns.
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