In the past, start-ups that weren’t paying federal income taxes were eligible for Research & Experimentation (R&D) tax credits, but were then expected to follow through with them for their corporate and/or shareholder tax returns until they could offset their income tax liabilities.
Nowadays, small businesses and start-ups across the United States are able to utilize partial or entire portions of R&D tax credits towards their payroll tax liability, too.
However, the new terms of the R&D credit for start-ups payroll tax credit can be complicated. If you have a start-up company, you can find out if you’re eligible by consulting your McAllen CPA at Murray & Kirchner, LLC, and we will verify that the small business payroll tax credit applies to your company’s liabilities.
What to Know About R&D Tax Credit
The R&D tax credit was initially implemented as part of the Economic Recovery Tax Act of 1981 and its purpose was to sway investment towards innovation in the U.S. The credits are also meant for activities regarding process design and development.
Design and development ranges from the creation of fresh techniques, formulas, processes, software and the usage of new materials to make more reliable, energy-efficient products or processes.
Certified costs that are applicable for the tax credit are employee wages having to do with developing new or improved products or strategies, compensated fees to outside suppliers in the U.S. who offer legitimate R&D services in support of the taxpayer, and the supply rate utilized throughout the research plan.
It is imperative that taxpayers applying for R&D tax credits come up with a logical method for establishing, quantifying, and keeping tabs of R&D project expenses that can be authorized.
How You Can Benefit From R&D Tax Credit
R&D tax credits can benefit your company in a number of ways:
- Source of income for reinvestment or other necessities.
- Considerable reduction to current and future tax liabilities.
- Credits can extend for up to 20 years.
R&D Tax Credits Can Offset Payroll Liability Taxes
Tax laws have made changes that give start-ups a better chance of taking advantage of the R&D tax credit. The Protecting Americans from Tax Hikes (PATH) Act of 2015 was officially turned into law in December of 2015.
Most start-ups chose not to go after claiming the credit, instead aiming to use their limited resources on initiatives bringing in cash flow right away.
The Path Act of 2015 shifted this system when it brought upon the payroll credit. Since 2018, start-ups have been able to take advantage of the R&D tax credit and use a portion of that credit, or all of it, towards the employer’s percentage of the old age, survivors, and disability insurance (OASDI) liability, otherwise known as the payroll tax.
Therefore, any start-up with internal employees with a W-2 a payroll tax liability has the potential to be offset completely or partially by the payroll credit.
How Start-ups Gain Eligibility
Start-ups have to meet specific requirements if they want to claim the payroll tax credit. This includes qualifying as a Qualified Small Business (QSB). A corporation (including s-corporation) or a partnership, is a QSB if it satisfies the following expectations:
- The company’s gross receipts are no more than $5 million in the credit year.
- The company has no gross receipts (as well as interest income) in any year before the 5-year period finishing with the credit year.
To put it simply, to certify as a QBS and apply for the payroll credit, a start-up must have less than $5 million in gross receipts and no income in previous years. The maximum amount of the R&D tax credit that may be used for payroll in a given tax year is $250,000, and a start-up can have this for a max of five years.
Tax Planning to Use R&D Tax Credit
Now is the time for start-ups and entrepreneurs like you to use the R&D tax credit to your advantage when engaging in tax planning conversations with our local CPA or virtual chief financial officers.
Managing the right credit requires adequate planning in efforts to increase the benefits, prevent pitfalls or inaccurate claims, and rationalizing coordination between the income tax and payroll tax objectives. Due to the fact that R&D tax credit now is able to offset payroll taxes means that that credit should be given to start-ups with equal importance as other capital infusion opportunities.
There is no longer an excuse for early-stage companies to miss out on the benefits of R&D tax credit.