The now-permanent research and development tax credit gives manufacturers and others the ability to create systems, budget their dollars, and potentially offset AMT and payroll tax.
Pushing a product to its next generation. Staying ahead of the competition. Meeting customer demand.
Whatever the reason for engaging in research and development activity, businesses can finally plan on a tax credit to help offset their development costs. After more than 30 years of temporary status, Congress made the research and development tax credit permanent for tax years beginning after 2015.
This is a huge win for start-ups, software developers, machine shops, and other outfits because they no longer have to wait for annual extensions. Congress also made two improvements to the law:
- Some businesses may claim the credit to offset the Alternative Minimum Tax (AMT)
- Certain others may apply the credit to offset their payroll taxes
Temporary to permanent
The R&D credit has been around since the 1980s, but its temporary status presented Congress with the opportunity to adjust qualification criteria as part of the annual extension process. By making the credit permanent, Congress has essentially locked in a stable set of rules that will no longer be subject to recurring tinkering and adjustments.
This gives businesses two major boosts:
- They can now establish systems and processes with confidence, knowing they won’t be subject to evolving regulations or become out-of-date the following year.
- They will finally be able to plan and budget for the credit.
Previously, expected benefits would sometimes evaporate when Congress failed to enact timely extensions, allowing the R&D credit to lapse. The permanent status eliminates the negative impact those lapses had on financial statements and their related tax provisions.
Alternative Minimum Tax relief now available for businesses under $50 million
Many taxpayers are aware of the AMT — a taxing structure enacted decades ago to ensure that high net worth individuals pay a minimum amount of tax. Over the years, inflation has whittled away the AMT thresholds and many taxpayers are indeed subject to AMT. Previously, this made it nearly impossible for some taxpayers to take advantage of the R&D tax credit, which was not allowed to offset AMT.
Now, qualified small businesses with less than $50 million in average gross receipts for the prior three years are allowed to offset AMT with R&D credits. This provision begins with tax years starting after December 31, 2015. As a result, those taxpayers who have hovered just above AMT or were subject to AMT may benefit from the credit.
Payroll tax offset
Lastly, Congress added an initiative to help start-up companies by allowing the tax credit to annually offset the first $250,000 of a taxpayer’s portion of payroll tax (FICA). Start-up companies are considered qualified small businesses, and they must have no more than $5 million in gross receipts for the current tax year. In addition, start-ups cannot have had any gross receipts preceding the five most recent taxable years.
The way you apply the offset depends on your business type. 1065 partnerships and 1120S S corporations should make the election to offset payroll tax at the entity level, so there is no need to flow this through to partners and shareholders. The payroll tax provision is also effective for amounts paid or incurred after December 31, 2015.
How we can help
Clearly, the new rules are a huge win for businesses engaged in innovative research. Taxpayers should discuss the rules with their tax professional to determine whether these tax saving opportunities apply. CLA can help you identify the types of activities you engage in that may qualify for the research credit and provide documentation to help substantiate the credit.
You may qualify for a tax credit if you are designing new products and processes or improving existing ones. Our R&D video shows you how.