Inflation Reduction Act Doubles R&D Tax Credit for Startups: Cherry Bekaert

Your purpose for research must be to create or improve a product or process that results in increased durability, functionality, performance, r&d tax credit or quality. This goes back to the idea that there is a legitimate business purpose behind the research, and it is not aesthetic in nature.

You can make a payroll tax credit election by completing the appropriate portion of Form 6765, “Credit for Increasing Research Activities,” and submit it with your income tax return. To then claim the credit, complete Form 8974, “Qualified Small Business Payroll Tax Credit for Increasing Research Activities” and attach it to your employment tax return. With research and development (R&D) tax credits, the innovation that drives your business could also help you access extra cash and offset your payroll tax liability—instead of income tax. The Payroll R&D Credit was created to enable newer and small businesses to find an immediate return on their R&D activities.

What is the R&D Tax Credit

The credit equals the smallest amount of 1) the current year Sec. 41 credit, 2) an elected amount not exceeding $250,000, or 3) the general business credit carryforward for the tax year . Note that the general business credit carryforward limit doesn’t apply to S corporations or partnerships. When claiming the credit on its employment tax return, a QSB must attach a completed Form 8974,Qualified Small Business Payroll Tax Credit for Increasing Research Activities, to the employment tax return.

The latter requirement essentially limits the payroll tax credit to start-up companies. If the taxpayer had a tax year of fewer than 12 months, the gross receipts must be annualized for a full year. You can apply the credit to offset payroll tax no earlier than the first quarterafteryou file the return reporting the election. If the taxpayer had a tax year of less than 12 months, the gross receipts must be annualized for a full year.

Risk & IT Compliance

A qualified small business can apply the additional $250,000 of R&D tax credits against the employer’s 1.45% Medicare payroll tax liability. The IRA more than doubles the amount a qualified business can potentially claim as a research and development (R&D) tax credit to offset its payroll tax for tax years starting after 2022, to a maximum of $2.5 million over five years.

The R&D credit serves as a new source of cash flow for many small and mid-size companies. This occurs through a sizable reduction of future years’ federal and state tax liabilities. The best part is, the R&D credit is not a deduction; rather, it is a dollar-for-dollar credit against taxes.

Get Clients Ready for Tax Season

What if you were eligible for the R&D credit previously but didn’t claim it because you were unaware of it or for another reason? The IRS recently tightened the requirements to claim a refund of the R&D credit. A Moss Adams professional will contact you with a preliminary estimate of the potential tax benefit to your organization. Credits that aren’t properly documented also risk rejection by taxing authorities. Our detail-oriented team will help you identify and compile the documentation needed to advance through the credit process from start to finish.

The Inflation Reduction Act maintains the rule that the election to utilize R&D credits against payroll tax may be made for a maximum of five tax years. The Inflation Reduction Act was signed into law on Aug. 16, 2022, and aims to fight inflation. The IRS is expected to issue guidance on the expanded small business R&D tax credit, as well as revised tax forms for 2023. Contact our CSH tax experts for more information about this topic and other accounting, tax and audit issues related to your business.

Using R&D credits to reduce payroll taxes: An overlooked opportunity for startups

In order to make the election, the company must have less than five million dollars of gross receipts in the 2017 tax year. Additionally, in order to satisfy the PATH Act’s five-year requirement, the company would be unable to make the election if it had gross receipts prior to 2013. Activities that qualify for this offset are expansive—more so than many small business owners realize. Tech companies looking for ways to boost their cash flow can use the savings from the payroll tax offset to fund operations, including payroll and equipment costs, as well as future developments. Companies investing in innovation and R&D may be eligible to reduce tax obligations and offset the costs of bringing new products to market. With tax savings around 4–7% of qualified research expenses, the R&D tax credit is a worthy consideration. Qualifying expenses, including wages, contractor expenses, and supplies, can add up to significant savings.

You have to show that the development or improvement of your product removed some uncertainty. Basically, that the process achieved a desired result that is more than just cosmetic or aesthetic. The Employee Retention Credit expired Sept 2021, but qualifying businesses can retroactively claim it. Book a demo today to learn how your business may be able to double your R&D tax credit with the Inflation Reduction Act. Increases the maximum allowable payroll credit election from $250,000 to $500,000 each year.