Many business owners automatically assume they do not qualify for the Research and Development (R&D) Credit. They simply hear “R&D” and immediately assume only high-tech, scientific, or medical research companies qualify. However, for thousands of taxpayers, qualifying for the R&D Credit is easier than ever.
History of the R&D Credit
The Incremental Research Credit, more commonly referred to as the R&D Credit, has been around in one form or another for decades. The initial intent of this credit was to help increase the diminishing research expenditures in the U.S. by encouraging business owners to invest in the innovation necessary to stay competitive with foreign companies. Congress would typically extend the credit for a year or two at a time until the Protecting Americans from Tax Hikes (PATH) Act of 2015 permanently extended the R&D Credit.
Current Research & Development Credit Regulations
The research and development credit results in a dollar for dollar tax reduction in your federal, and at times, state tax liability. Current law now also allows taxpayers who are considered eligible small businesses to use the R&D Tax Credit to offset alternative minimum tax. Eligible small businesses are non-publicly traded companies that have average gross receipts for the last three years that do not exceed $50 million. Any unused R&D Credits can be carried forward up to 20 years, and in many cases, taxpayers can claim credits for prior open tax years.
Recent changes to the law allow for start-up companies referred to as qualified small businesses to use the credit against the employer’s share of FICA payroll tax liabilities up to $250,000 for each qualifying year. Qualified small businesses are those with less than $5 million in gross receipts for the current tax year and no gross receipts before the five-year period ending with the current year.
Qualified Research Expense Four-Part Test
The business expenses that qualify for the credit are those for qualified research. Qualified research expenses are those that pass a four-part test:
  1. Elimination of Uncertainty  The objective of the taxpayer is to eliminate the uncertainty of development or to improve the product or process.
  2. Process of Experimentation – The process of evaluating alternatives to arrive at a result where there is initially uncertainty concerning the capability or method of obtaining the desired result.
  3. Technological in Nature – The principles of physical or biological sciences, computer science, or engineering must be used during the experimentation process.
  4. Permitted Purpose – The objective of the activity should be improving the quality, functionality, performance, or reliability of the product or process.
How Your Business Can Qualify
If your business performs any of the following activities, you could qualify for the R&D Credit:
  • Pre-production feasibility analysis
  • Pre-production test runs
  • Testing new product concepts
  • Testing new manufacturing concepts
  • Developing new technology
  • Trying new or different raw materials
  • Manufacturing products
  • Developing or improving production and manufacturing processes
  • Raw material yield maximization analysis
  • Preparation of technical details of Requests for Proposal quotes
  • Developing new, improved, or more reliable products/processes/formulas
  • Prototype Development
  • Designing tools, jigs, molds, and dies
  • Certification testing
  • Interaction between sales personnel and engineering
  • Maintenance on manufacturing and production equipment
  • Adding new equipment
  • Modifying used or existing equipment
  • Environmental testing
  • Developing, implementing or upgrading systems and software
  • Developing production control software
  • Automating internal processes
  • Beta testing
  • Improving processes or the manufacturability of a product
  • Technical design reviews
  • Participating in technical meetings
  • Maintaining research equipment
  • Compiling research data
  • Creating more efficient and environmentally friendly designs
  • CAD or 3D Modeling
Some examples of industries that may qualify for the credit include, but are not limited to, the following:
  • Architecture
  • Aerospace
  • Automobile
  • Die Casting
  • Energy
  • Engineering
  • Food Sciences
  • Machining
  • Manufacturing
  • Pharmaceuticals
  • Software Development
  • Telecommunications
The R&D Tax Credit and other related tax breaks save U.S. businesses billions of dollars annually. If you have any questions or would like additional information, do not hesitate to contact your trusted tax advisor.