New Tax Rules and the Effect on Research and Development Tax Credits

New Tax Rules and the Effect on Research and Development Tax Credits
June 7, 2019 Laura Fickle

By:  Neil Beeman, CPA

There have been many tax changes in the past few years that are affecting businesses both positively and negatively.  One of the main winners to come out of all the changes though, are businesses who conduct research and development activities in the United States. 

The Research and Development tax credit (R&D credit) has been around for decades in some shape or form.  The basic idea is that the government, both state and federal, wants to incentivize businesses to continue to develop new technologies, products, systems and designs.  If there are qualifying activities, then the business can qualify for tax credits based off the qualifying expenses incurred.  These tax credits can then be used to offset either the business’s taxes, or for S corporations and partnerships, offset the individual owners associated taxes.

One of the main limiting factors for using the R&D credits was that an owner was not able to use the credit to offset the Alternative Minimum Tax (AMT).   Starting in 2016 this restriction was removed for small businesses with gross receipts under $50 million.  A large number of businesses fall under this threshold.  In the past, if the business generated an R&D tax credit, but the owners of the business where in AMT, then the associated tax credits would not help in that year, but would instead carry forward to future years.  Starting in 2016, these same business owners would be able to use the tax credits to offset the AMT along with their ordinary income tax.  The AMT change has been one of the largest benefits for most small business owners who operate profitable businesses. 

Another change that has provided a benefit for businesses with R&D activities has been the ability to use the credits to offset payroll taxes.  Specifically, new businesses that have had gross receipts for 5 years or less can now use the R&D tax credits to offset the employer portion of FICA taxes (Social Security Taxes).  Businesses seeing the most benefit are those that may have high payroll, and no taxable profit.  Often times these businesses are paying out all available cash to the employee/owner of the businesses in wages, and as such there are no taxable profits left in the business.  In these cases, it may make sense to elect to have the tax credits applied against the payroll taxes to take advantage of cash savings now, instead of waiting until the businesses is profitable down the road.

Finally, with the new tax rates, it is a good time to see what method of credit calculation is best for your business.  When it comes to the R&D credit, you have a couple options on how to calculate the total amount.  Now with the lower tax rates for individuals and businesses, it is worth having your tax professional review your specific situation to make sure you are using the most advantageous method available. 

The R&D tax credit can be one of the biggest tax incentives available to businesses who are doing qualifying work, and with the new tax rules the benefits have become even more attractive for small and medium sized businesses.  It is important to talk with your tax professional to make sure you are taking advantage of all potential tax savings, including the research and development tax credit. 

If you have any questions, please feel free to contact me directly.  Also, if you are interested in learning more, we can set up a time to come to your location for a lunch and learn.  Please contact us at: 916-774-4208 ask for Debra Griffin or email dlg@muncpas.com to schedule a time.Neil Beeman has practiced public accounting since 2003 and is a tax partner and R&D tax credits practice leader at MUN CPAs.  He provides R&D tax services to small and middle-market companies, including S corporations and partnerships, and consults on federal and state R&D credits, R&D expense deductions, and IRS and state examinations of R&D credits. Feel Free to email Neil at: njb@muncpas.com for more information about our firm please go to our website at:  www.muncpas.com.