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5 Misconceptions About the R&D Tax Credit

A person holding their tax credit, several hundred dollar bills.

The permanent R&D tax credit is for taxpayers that design, develop, or improve products, processes, techniques, formulas, or software. It’s intention is to incentivize innovation from companies.

Even with the permanence of the tax credit, there are common factors that companies assume prevent them from claiming the credit. While there are several more misconceptions than five, we boiled it down to the most important ones. Most of these can be quickly dispelled by a simple review of the tax law, but you’re busy and want to get down to the facts. We get it. We’re here for you.

Without further ado, here are the most important 5 misconceptions about the R&D tax credit:

  1. The company does not pay fed income tax
    Start-up companies and small businesses may be eligible to apply for up to $1.25 million,—or $250,000 each year for up to five years, —of the federal R&D credit to offset the Federal Insurance Contributions Act (FICA) portion of their payroll taxes each year.

    To be eligible, a company must meet two requirements:
    • Have less than $5 million in gross receipts for the credit year
    • Have no gross receipts or interest income dating back more than five years

  2. The company isn’t focused on R&D
    It’s not only high-tech or life sciences companies with dedicated research departments that qualify for the R&D tax credit. Actually, most companies don’t have R&D laboratories and instead perform R&D in their test kitchens or fields, wineries or distilleries, or on production floors. Wherever experimentation occurs, R&D may be found.

  3. Employees aren’t degree-holding engineers or scientists
    Just because you don’t have engineers or scientists with high level degrees does not mean you don’t qualify. Experimentation happens from anywhere and anyone.

    Both employees and third party contractor’s experimentation work would qualify under the current tax code.

  4. The company isn’t developing anything new
    Let’s be very clear here, innovation can apply to the individual company. It’s calculated on the basis of increases in research activities and expenditures—and as a result, it’s intended to reward companies that pursue innovation with increasing investment.

    R&D doesn’t have to be new to the industry. It simply needs to be new to the company, which must have activities that meet the four-part test.

  5. The R&D credit won’t help cash flow or profits
    Unlike a tax deduction, an R&D tax credit is a dollar-for-dollar credit; this reduces a filer’s tax bill by a full dollar for each credit dollar. A six-figure tax credit, which most of our clients receive, increases earnings after tax by the full amount of the credit.

    A tax credit that can be used to reduce the taxes to be paid means more cash in the company’s bank account.

Want to dig deeper to see if you qualify? Review this four-part test.

Graham Eichman