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Research & Experimentation Tax Credit Services

The R&E Tax Credit (or “R&D” or “Research” Tax Credit) rewards taxpayers for the development and/or improvement of a product, process, formula, invention, technique or software.

The credit has been in existence since the early 1980s and was created to incentivize companies to invest in technologies that facilitate product and process development, leading to growth in productivity, profitability, investment in equipment, and job creation.

Although originally intended for companies within industries that fit the more traditional definition of research such as pharmaceutical and defense, recent changes in the regulations have opened up the credit to a wider variety of manufacturing, engineering and professional services companies.

 

Key Points:

  • The credit may be claimed for the current tax year, as well as retroactively for all open tax years
  • Unused tax credits may be carried forward for up to 20 years
  • The credit also offsets the alternative minimum tax for qualified small businesses
  • Eligible startups can use the credit to offset up to $250,000/year in payroll taxes
  • In addition to the federal credit, currently, around 35 states have a state credit

RubinBrown’s Research & Experimentation Tax Credit Service Group specializes in helping companies take advantage of R&E Tax Credits and developing the processes to continue doing so in the future.

 

R&E Tax Credit Industry Utilization

The R&E Tax Credit is utilized in various industries including:

  • Automotive
  • Biotechnology and agricultural
  • Chemical
  • Computer hardware and software
  • Electronics
  • Energy
  • Food & beverage
  • Life sciences
  • Medical devices
  • Metals
  • Pharmaceutical
  • Plastics
  • Tool & die and machine building
  • Transportation
 

Additionally, the R&E tax credit is also utilized in the contracting and professional services fields including:

  • Construction firms
  • Mechanical, electrical, and plumbing (MEP) contractors
  • Architectural and Engineering companies


 

For an activity to be qualified for the Research & Experimentation (R&E) Tax Credit under Internal Revenue Code(IRC) Section (§) 41, the activity must pass all the elements of what is commonly referred to as the ‘four part test.’ This test consists of the following:

  •  Business component test: new or improved product, process, formula, technique, invention, or software
    • The objective must be to improve the function, performance, quality, or reliability of the business component
  • Technological uncertainty in:
    • Capability (can we do it?)
    • Method (how do we do it?)
    • Design (what will it look like?)
  • The project must be technological in nature; fundamentally based in the physical, biological, engineering or computer sciences
  • There must be a process of experimentation; examples include:
    • Modeling (such as CAD design activities)
    • Simulation (such as Building Information Modeling (BIM) in the construction and contracting industries)
    • Systematic trial and error (this is where obstacles and even failures are good!)

 

There are three types of eligible expenditures for the Research & Experimentation (R&E) tax credit. They are qualified wages, supply costs and contract research. The following describes each of these categories.

Qualified Wages

  • Defined under IRC§3401(a)
    • Wages subject to withholding – ‘Box 1’ of W-2
    • Does not include certain fringe benefits or 401(k)
  • Self-Employed earnings under IRC§401(c)(1)
  • Paid to an employee for qualified services
    • Engaged in qualified research
    • Directly supervising qualified research (direct reports only)
    • Directly supporting qualified research

Supply costs

  • Tangible property used in the conduct of research
  • Does not include land or land improvements
  • Does not include property subject to depreciation

Contract Research

  • 65% of any amounts paid to any person other than an employee for qualified research
  • Taxpayer must be at economic risk and own substantial rights to the outcome of the research

R&E Tax Credit Case Study #1

Client: St. Louis-based designer and manufacturer of custom equipment
  • Company information:
    • $6,600,000 in annual sales
    • $2,500,000 in annual wages
  • Qualified activities: Development and manufacture of new and improved products and related processes
  • Details:
    • Qualified wages: approximately $900,000
    • Qualified supply costs: approximately $1,500,000
    • Qualified contract research: approximately $27,000
  • Outcome: Taxpayer generated $143,000 in 2017 federal research credits

 

R&E Tax Credit Case Study #2

Client: Houston-based electrical contractor  
  •  Company information:
    • $64,000,000 in annual sales
    • $25,000,000 in annual wages
  • Qualified activities: Design, fabrication, and installation of electrical systems    
  • Outcome:  
    •  Qualified wages: approximately $1,600,000
    • Taxpayer generated $90,000 Federal + $40,000 Texas = $130,000 in 2018 tax credits

 

R&E Tax Credit Case Study #3

Client: St. Louis-based general contracting and construction management company  

  • Company information:
    • $210,000,000 in annual sales
    • $21,000,000 in annual wages
  • Qualified activities: New construction and renovations of complex building designs
  • Outcome:
    • Qualified wages: approximately $1,900,000
    • Taxpayer generated $91,000 in 2018 federal research credits