The following article is a reprint from a recent posting. As a follow up to our Marcum LLP Year End Tax Guide, the Tax Advisors at Marcum want to remind readers that this valuable tax incentive is set to expire as of December 31, 2013.
We urge our clients and other readers to review the rules below and consider the possibility that your company may be eligible for this benefit.
Also, keep in mind as you search for a Research and Development (R&D) provider that Marcum LLP has a Credit and Incentive Team with a specialty in R&D, who can help you identify and capture the R&D Credit.
Many taxpayers are aware of the existence of the Research and Development (R&D) Tax Credit, but are not fully versed in its scope. In fact, there are many businesses eligible for the R&D tax credit that do not take advantage of this valuable incentive. Taxpayers in the disciplines of manufacturing, application software development, telecommunications, biotechnology, and engineering, among others, commonly qualify for the Federal R&D credit.
First enacted in 1981, the intent of Congress was to incentivize businesses to conduct innovative activities (known as "qualified research") within the United States. Originally intended to expire in 1985, the credit has been extended fourteen times and is currently available for research activities conducted prior to December 31, 2013.
To be considered qualified research, an activity needs to meet all aspects of what is known as the "four-part" test:
- Permitted Purpose – the activity must intend to develop a new or improved product , process or procedure.
- Technological in Nature – the activity needs to rely on the sciences (engineering, biology, computer, or physics).
- Technical Uncertainty – the purpose of the activity must be to eliminate uncertainty during development regarding the capability, methodology, or appropriateness of design.
- Process of Experimentation – the taxpayer must utilize a systematic process of working through the technical uncertainty.
Qualified costs of a taxpayer that conducts qualified research activities include the wages of employees who are undertaking the activities, costs paid to subcontractors to conduct the research on the taxpayer’s behalf, and supplies used and consumed in the performance of qualified research activities.
It is important to note that the development of a new process or procedure, not just a product, may be a qualified research expense as long as the elements of the four-part test are met. The implementation of a new or improved process or procedure is an area frequently not considered when determining if expenditures could qualify for the R&D tax credit. An example would be a contract manufacturer who does not outright own the products or the patent on the products being manufactured, however does own the know-how required to conduct the manufacturing process for those products in a more efficient manner.
Additionally, the success of any research or development is not necessary for an activity to be qualified research; the simple act of undertaking the qualified activity meets the standards of qualification, even if the development of a new product or process ultimately fails.
The R&D tax credit may be calculated in one of two ways, and the method used can be changed each year depending on which produces the greater benefit. Because the R&D tax credit is an incremental credit, costs incurred in prior years can increase a current year credit calculation.
Taxpayers meeting the criteria for claiming an R&D tax credit should contract with a qualified professional for the completion of an R&D tax study. The study will serve to document employees’ activity to determine eligibility, calculate the R&D credit, and document the taxpayer's processes and procedures in order to provide a detailed record in the event the credits or deductions are ever questioned by a taxing authority. In addition to the Federal credit, many States and foreign governments also offer R&D credits.