R&D Tax Credit Guide

Filing taxes can be complicated enough for individuals. Still, the process becomes even more frustrating when you’re a business owner, especially a successful one that operates multiple departments within a complex industry. Thankfully, our experts at TaxRobot can ensure you get your business taxes done right the first time through our automated processes. Not only that, but we’ll also help you avoid any pesky audits and increase your chances for more significant tax returns. Please continue to learn everything you need to know about research and development (R&D) tax credits and whether or not your business qualifies for them. And for even more information on R&D tax credits and what they can do for your business, please also consider exploring our range of expertly written, educational articles. 

Related: R&D Credits & AMT: Here’s What to Know

What is the R&D Tax Credit?

The R&D tax credit is a specific tax credit available to companies that actively develop new or improved business components to enhance functionality, performance, quality, and reliability. Said components typically include products, computer software, processes, techniques, formulas, and inventions. The R&D tax credit is dedicated to businesses at both the state and federal levels, with over 30 states currently offering the credit to help businesses and organizations offset state tax liability. 

How Can You Know if Your Company Qualifies for an R&D Tax Credit?

Eligibility for the R&D tax credit is much broader than many companies realize. It applies to product development and various operations and activities, including software development, manufacturing processes, and quality enhancement operations. Startups may also be able to apply for the R&D tax credit against their payroll tax for up to a maximum of five years. Additionally, your business or organization may be eligible to receive the R&D tax credit if it;

  • Hires designers, scientists, or engineers
  • Works to improve existing products
  • Develops patents, prototypes, processes, or software
  • Devotes time and other resources to create new and innovative products

Related: R&D Credits for Software Companies: What to Know

Determining Eligibility: The Four-Part Test

In addition to the above, any company that encounters and actively resolves technological challenges may be eligible for the R&D tax credit. However, this largely depends on whether the work that the company does meets the criteria established by the following four-part test specified in the Internal Revenue Code (IRC) and Treasury Regulations.

1. Qualified Purpose

The purpose of the research in question must be to create new or improved business components, products, processes, software, formulas, inventions, or techniques that result in new or enhanced performance, reliability, quality, or function.

2. Elimination of Uncertainty

A company must demonstrate that it has thoroughly attempted to eliminate all uncertainty about improving or developing new business components. Uncertainty exists if the information available to the company does not establish the capability or method for developing or improving the business component, or the appropriate design of the business component.

3. Process of Experimentation

Through simulations, modeling, systematic trial, and error, or other methods, a company must demonstrate that it has evaluated one or more alternative solutions for achieving its desired results. 

4. Technological in Nature

The company’s experimentation must rely on hard science, such as chemistry, physics, computer science, engineering, or biology, to meet their end result. However, companies are not expected to exceed, refine, or expand any existing scientific principles to qualify for the credit.

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How Can My Business Claim the R&D Tax Credit?

The exact amount of R&D credit that a company can claim on its taxes is dependent on a wide array of factors. Still, the potential savings they can receive will make it worth the time to undergo a thorough investigation. For example, tax credits have the potential to offset income taxes, which can significantly reduce a business’s tax burden for the years that qualified R&D activities occurred. Companies that have not previously taken advantage of the credit can look back on all of their open tax years- typically three to four years- to claim their missed opportunity. 

Businesses can claim the credit by filling out and filing IRS Form 6765, Credit for Increasing Research Activities. As part of this process, businesses need to identify qualifying expenses and provide adequate documentation that shows that the costs in question meet the requirements to qualify for the credit.

What Documentation do You Need to Claim the R&D Tax Credit?

To qualify for the R&D tax credit, companies need to carefully evaluate and document their research activities to establish the number of qualified research expenses paid for each eligible research activity they have undergone. Some of the documentation they will need to provide to qualify for the credit includes;

  • Lab results
  • Project lists and notes
  • Payroll records
  • General ledger expense details
  • Emails and other documents produced through the company’s regular course of business

The above records may also need to be combined with credible employee testimony to form the basis of a successful R&D credit claim for any given tax year.

Related: How to Qualify and Claim the R&D Tax Credit

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R&D Tax Credits Don’t Have to Be Complicated

Filing business taxes can be a highly complicated and frustrating process, but taking the time to do it correctly and applying for all tax breaks, credits, and benefits that your business may qualify for can be a huge benefit. Now that you have a more thorough comprehension of what goes into qualifying and applying for the R&D tax credit, you can work diligently to ensure that your business receives all of the tax advantages it rightfully deserves. To learn even more about the R&D tax credit and how to effectively apply for it, please consider exploring the quality services offered by our experts here at TaxRobot today!

Filing taxes is never a fun experience for anyone, especially when you’re doing your best to ensure you’ll get as big a return as possible while avoiding the hassle of any future audits. Thankfully, our trusted experts at TaxRobot offer users a fast, easy, and effective way to automate their R&D tax credit at value-based pricing.

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