How to take advantage of the Research and Development Tax Credit
Research has become a vital staple of small, nimble product development company ecosystems. Because of this, we have found the importance of using the Research & Development Tax Credit to our, and our client’s, advantage.
As a relatively small but successful product design and development company that is constantly evolving and adapting to new trends, our team at Beyond Design knows the importance of using every available resource to help make the hard decisions along with resources that aren’t always talked about. With our research and development efforts growing and being utilized on more and more projects and facets of our business development strategy, we were happy to discover that the work and services Beyond Design provides can be recognized not only by the client as Research & Development (R&D), but the government as well.
Since the 1980’s the government has been offering generous Research and Development tax credits to companies under the IRS Form 6765, 26 U.S. Code 41 – Credit for Increasing Research Activities. While being utilized by many larger corporations who have received over $12 billion in tax breaks a year as of 2014, this government incentive program is highly underutilized by smaller companies. This amount is likely to rise with more technological advances and research capabilities. The R&D Tax Credit came to our attention by one of our Clients, a premier plumbing products and fixture company. We worked closely with their team and provided new approaches with test models to further prove-out new ideas with functioning results. The comprehensive research and development efforts completed by Beyond Design enabled this project to qualify for these tax credits. This program greatly helps support innovation along with continued funds going towards taking chances and pushing the bar forward.
KEEPING CLEAR
The Credit for Increasing Research Activities encourages companies like Beyond Design and our Clients to not only continue their research practices but to do more of what they do best. To ensure the tax credit is being used fully and ethically, a company must be fully transparent, especially if the work is spread out across several employees or departments with varying roles. It is critical to make sure everything is documented and the research is credible.
RECORD! RECORD! RECORD!
Accurately documenting research activities is extremely important and will contribute to being transparent and making it easier to obtain these credits. We instill the importance of documentation in all our employees to accurately record, establish filing systems and archives that enable proper monitoring and tracking of all activities. This can be achieved through a range of different time-tracking software. At Beyond Design, we employ a program called Harvest which enables our team to accurately track their work for each project, phase, time, expenses, and other important information connected to the R&D efforts for each project. Not only is this helpful for taking advantage of key tax credits, but it also helps us become a more streamlined, efficient, and effective product design firm.
CLEAR CUT ROLES
With research encompassing such a broad range of activities, it is important to have a clear cut description of these functions for each employee. Meaning, the responsibilities should precisely match the role of each employee.
For smaller, newer companies this may be rewriting and determining exactly what an employee does. At Beyond Design, we continually update titles to match employee responsibilities to reflect current duties, especially as roles keep evolving to better align with R&D needs (specifically concerning research and strategy focused projects). This clarification isn’t just important for the tax credit, but also gives clarity to other employees who work on their team, and more importantly, our clients with whom they collaborate.
THE DON’TS OF THE TAX CREDIT
The tax credit can be generous and worthwhile if applied to the correct research activities. And although the term “research” encompasses a broad range of activities there are some that will not garner a credit. Be cautious of the following which doesn’t qualify for a tax credit:
- Research conducted after the beginning of commercial production
- Research adapting an existing product or process to a particular customer’s need
- Duplication of an existing product or process
- Surveys or studies
- Research relating to certain internal-use computer software
- Research conducted outside the United States
- Research in the social sciences, arts, or humanities
- Research funded by another person or governmental entity
WHAT DOES QUALIFY AS R&D?
Section 41 of the Tax Credit official legislation is fourteen pages long – which contributes to why it is underutilized. A lengthy legal document can be confusing and daunting. Hopefully, this overview will help use the credit to its full potential for you and your company.
We have found many of our clients regard their own efforts to make new, lighter, stronger, cheaper, more reliable products, or to make more precise, more economical, and more versatile processes as “just doing my job,” when in fact they have been performing R&D qualifying activities all along.
To review, the credit can be applied if it adheres to the following:
- The research contributes to the improvement of a product’s function, performance, reliability, or quality
- It is a process of experimentation
- It is technological
- It is completed before commercial production
- It is not a duplication or adaptation of existing research
- It is not considered a survey or a study
THE OPPORTUNITY
Using this tax credit casts a wide net of opportunity. Some of the benefits include:
- Creating and protecting jobs, thus enhancing competitiveness
- Immediate infusion of cash
- Significant reduction of current and future years federal and state tax liabilities
- Credit against taxes owed or taxes paid (potentially be able to expense R&D costs)
- More than $7.5 billion in federal R&D Tax Credit benefits annually are up for grabs – 80% of which go to large companies
- A business can take the credit for all open tax years, generally the last three or four years plus the current year
- Additional years may be eligible, and tax credits may carry forward 20 years
WHY R&D NOW?
The U.S. offers some of the world’s richest R&D tax incentives, but chances are you’re not taking advantage of them and getting the cash you deserve. As the pace of your business accelerates and competition increases, you may be more likely to overlook this source of cash because you lack the time, resources, or expertise needed to identify and manage R&D Tax Credit claims.
THE PROOF IS IN THE NUMBERS
KBKG, a premier tax service consultant, has identified approximate tax credits for companies in several
industries. Below are examples of annual sales and the actual credits realized for a few of those case studies:
Chemical Manufacturing
Revenue: $6M • R&D Tax Credits Realized: $30,000
Revenue: $13M • R&D Tax Credits Realized: $70,000
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Engineering
Revenue: $15M • R&D Tax Credits Realized: $2M
___
Food Sciences
Revenue: $60M • R&D Tax Credits Realized: $50,000
Revenue: $25M • R&D Tax Credits Realized: $25,000
___
Machine Shop / Tool & Die
Revenue: $3M • R&D Tax Credits Realized: $30,000
___
Manufacturing
Revenue: $18M • R&D Tax Credits Realized: $40,000
Revenue: $2.5M • R&D Tax Credits Realized: $13,000
Revenue: $35M • R&D Tax Credits Realized: $300,000
___
Product Manufacturing
Revenue: $18M • R&D Tax Credits Realized: $40,000
Revenue: $2.5M • R&D Tax Credits Realized: $13,000
Revenue: $35M • R&D Tax Credits Realized: $300,000
___
Software Development
Revenue: $750,000 • R&D Tax Credits Realized: $20,000
Revenue: $8M • R&D Tax Credits Realized: $90,000
Revenue: $30M • R&D Tax Credits Realized: $275,000
PAYING IT FORWARD
As a small company that takes on large projects and has found success with a tight group of designers and thinkers, we know how important it is to feel recognized and compensated for hard work at Beyond Design. Please feel free to share this article with your clients and colleagues so they too can reap the benefits of the R&D Credit. We have included both the 26 U.S. Code 41 document in full and Form 6765 to help assess your amount of credit. We also suggest inquiring with your company CPA to reassure you are using the tax credit correctly and to your company’s full advantage.
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