Everything You Need to Know About the Research and Development Tax
Who is the R&D Tax Credit for?
The US government initiated a tax incentive called the Research and Development (R&D) Tax Credit. This tax incentive is available to any business that conducts their research and development activities inside the United States.
It is not limited to any particular type of industry, any business that is actively carrying out testing and experimental procedures can apply for the R&D Tax Credit. However, to avail the incentive, your business must meet the eligibility requirements which are listed below.
- If your business partakes in any activities based on applied sciences.
- If your business carries out activities based on cutting edge technological innovations.
- If your business deals in only experimental projects.
Does Your Business Qualify for the Tax Incentive?
WIth the R&D Tax Credit initiation, research and development activities can now be incentivized. The Internal Revenue Service (IRS) has created a 4 part eligibility test which is listed below.
Part I: The Elimination of Uncertainty
You will have to demonstrate how your business has attempted to eliminate all levels of uncertainty. To achieve this, few tests will have to be carried out to make sure that there is no uncertainty when developing the new product.
Part II: The Process of Experimentation
You will have to conduct an in-depth demonstration using methods such as systematic trial and error, modeling, simulation, etc. This will hold as proof that you have tried other alternatives before you achieved the current results.
Part III: It is Technological in Nature
You will have to prove your research through the process of experimentation with hard sciences. This will include sciences such as engineering, biology, computer science, chemistry and physics.
Part IV: Is It a Qualified Purpose
The final test is also called the Business Component Test. The purpose of research stated will be closely scrutinized and the problem it aims to resolve will be highlighted. This could be for an entirely new product itself or to improve an existing process of the product such as making updates to the hardware or an increase in performance and function, etc.
Does Claiming the R&D Tax Credit have any Benefits?
Alternative Minimum Tax
The sole reason on how the Alternative Minimum Tax (AMT) started was to ensure that taxpayers paid the minimum tax amount at least. If your business meets the eligibility criteria, you can apply for a tax cut on AMT. This will include the R&D Tax Credit calculation and the income tax amount. Then, it will accordingly add specific tax preference items to adjust the gross income.
If your business is looking to avail the R&D Tax Credit, keep in mind that it will cancel the social security tax. This way, the small to medium scale businesses can benefit from any research and development activities.
How Can You Claim the R&D Tax Credit?
It is the taxpayer’s duty to document all the research activities conducted. This is to show the amount of expenses that was paid for each research and development activity. However, when it comes to research based work, certain expenses can only be estimated. These estimated expenses are allowed if there is a factual basis on these assumptions. When claiming the R&D Tax Credit, the following documents are mandatory.
- The project research notes and development records.
- The project research and development lists.
- The payroll records.
- The general ledger expense details.
Along with the submission of these documents, there will also be a few credible employee testimonies. This will allow your tax credit claim to be substantiated sooner than normal. Once you are approved, your business will receive the full entitlement of the R&D Tax Credit according to the Treasury regulations and IRS guidelines.
How to Calculate the SRED Tax Incentives?
The tax incentive program initiated by the Canadian government for the purpose of Scientific Research and Experimental Development (SRED) enables businesses operating in Canada to conduct activities based around research and development. The main way to go about the SRED Tax calculation is as follows.
- Remember, you can choose to pool your total SRED expenditure and then deduct the amount against the income of the current year.
- Once you have been selected for the SRED Tax Credit, you can use the credit to reduce the total income tax amount payable.
For your business to qualify, the SRED approval will take place as a systematic investigation with an experimentation process and in-depth analysis. Each approach taken to wade out any uncertainty, should be a well laid out experiment based on a concept.
If your research and development activities involve any of the information listed below, you will not be able to claim the SRED tax credit.
- If research conducted is on humanities or social sciences.
- When routine data is collected.
- For market research.
- As a sales promotion.
- As a style or aesthetic change.
- In the quality control of devices, products, materials or processes.
- When commercial production of a new material or device is carried out.
Remember that if you are applying for a SRED tax credit, your work will only qualify if it is an analysis or experiment that can advance or improve the current state of science and technology. Before you start the application process, it is advisable to read all the SRED guidelines carefully, these can be accessed online in more detail.