When you are starting a small business you want to look for all the help you can get to get ahead. This help could present itself in many forms, such as getting guidance from an advisor, requesting a business loan, or looking into government incentives designed to provide a boost to startups.
Tax credits are one such incentive. These credits help taxpayers manage and cover their expenses under certain conditions. For small businesses and startups, the R&D Tax Credit offers incredible benefits.
What Is the R&D Tax Credit?
The Research and Development (R&D) Tax credit is just one of many tax incentives for business owners. Specifically, this credit is a way for the government to incentivize and reward companies that work to develop or improve new or existing products, software, formulas, processes, or techniques.
If your company is spending money on research or development, you can use the credit to improve your business’s cash flow by reducing your tax liability for these expenses.
Now let’s jump into the benefits that a lot of people don’t know about the R&D Tax credits.
The 5 Benefits of R&D Tax Credits Most People Don’t Know About
There are 5 aspects of the R&D tax credit that people can take advantage of that not many know about. These are:
1. It’s Not Limited to Science and Technology Industries
One of the most frequently asked questions about R&D tax credits is who exactly qualifies for them.
When people hear “research and development,” they think that this credit is limited to science or technology companies. But that’s not the case at all. R&D Tax Credits can be claimed by businesses across a vast number of different industries.
So long as your company is trying to do something new, or improve something out there, there’s a good chance you can qualify.
A brewery that’s working on new brewing methods or formulas? That can be R&D.
A vineyard or winery trying new mixing techniques? Also R&D.
Coming up with new packaging for food that is eco-friendly, recyclable, or portable? R&D as well.
And those are just 3 examples in the food and drinks industry, which is not always associated with research or development.
Software development, life sciences, architecture, and even the foundry industry can fall under the R&D umbrella. These are just a few of the many industries that can qualify.
2. A Lot of Expenses Can Qualify
The R&D Tax credit is meant to be used for research and development expenses, but not many people understand what exactly is considered an R&D expense. There’s a common misconception that the list of expenses that can be claimed under the credit is rather limited.
Sure, not everything can be considered an R&D expense, but if you are performing R&D then the list of expenses you can deduct is quite extensive.
You can use the R&D credit for employee wages and contract expenses, provided that these employees were working on R&D and that the contract was for R&D performed within the United States.
You can also use the credit for supply expenses, which is the materials and resources you use when producing something new, or improving a current product.
3. You Can Apply Even if You Are in Net Operating Loss (Nol)
Even if your business isn’t generating any profit right now, it doesn’t mean it can’t take advantage of some tax incentives.
Businesses that are in Net Operating Loss (NOL) can still claim the R&D Tax credit. For example, by carrying back an NOL to a previous year where you already claimed an R&D Tax credit, you might be able to carry the R&D credit forward instead. Nothing is lost.
4. They Can Be Applied Retroactively to Previous Years
Most people know that you can claim the credit for the same year of the expenses, and several years into the future. What not everybody knows is that you can claim the credit for past years as well. You can apply for a claim for all open tax years, which is usually the previous 3 to 4 years.
5. There Are State-Specific R&D Tax Credits Too
The R&D Tax credit operates at a federal level. This means that no matter what state you are in, you can qualify for the credit if you meet the federal guidelines.
But some states have their version of R&D credits with unique benefits and characteristics that you can take advantage of.
Some examples are:
- Connecticut offers both incremental and non-incremental credit options, with the latter being able to be carried forward indefinitely.
- Florida offers 10% of the excess expenses over the base amount.
- California has a lower credit rate of 15% versus the federal 20% but allows for the credit to be carried forward indefinitely.
6 More Traditional Benefits of R&D Tax Credits
The R&D Tax credit incentive is excellent if you are looking for help managing your small business finances, but the benefits we saw before aren’t the only perks of this incentive.
They were just the ones that people are usually not familiar with. The program has other benefits that are more commonly known, such as being able to use the credit to improve your business’s cash flow, reduce tax rates, and more. Let’s take a look into 6 of these more traditional R&D benefits:
1. It Can Help Improve the Cash Flow of Your Business
Having a positive cash flow is important for small businesses. It means that there’s more money coming into the business than money going out of it. This is something that the R&D tax credit can help with by reducing your tax liability.
2. It Can Be Carried Forward up to 20 Years
If you reached the limit of tax credits that you can claim for a single year, you can carry them forward. The maximum amount of time you can carry a credit forward is 20 years at the federal level, but some states allow for the credit to be carried forward indefinitely.
3. If You Are a Startup Company, You Can Use the Credit Against Payroll Taxes
After the program was made permanent under the 2015 PATH Act, small businesses were allowed to claim more benefits from it. One of these benefits was being able to claim a credit for payroll taxes.
A small business can apply the credit for up to $250,000 of social security taxes for each fiscal year.
4. It’s a Dollar-For-Dollar Credit for Taxes Paid or Owed
A dollar-for-dollar credit means that if you owe $10,000 in taxes, but you are eligible for $10,000 in tax credits thanks to the R&D incentive, then you don’t owe anything.
5. It Helps Reduce Your Current and Future Tax Rates
Since the credit works as a dollar-for-dollar reduction, it can be used as a way to plan out and reduce the tax liabilities you have for current and future years.
6. You Can Use It for R&D Expenses Incurred in the Current Year
The R&D Tax credit can be used for expenses incurred in the same year that you are making the claim for, which is a great perk.
If your business works to develop new products or software or is finding ways to improve the existing ones, the R&D tax credit will be an excellent way to continue your work while receiving some much-deserved assistance from the government.