Since its enactment in 1981, the research credit (R&D Credit) contained in section 41 of the Internal Revenue Code has provided an incentive for U.S. companies to conduct domestic research to develop and introduce new and improved products. Congress has made the R&D tax credit a permanent tax benefit as a business incentive to retain and create U.S. jobs generating intellectual property and new products here in the U.S. and increasing the efficiency and competitiveness of U.S. companies in the world marketplace.
The R&D credit is generally taken as in income tax credit or in the case of start up companies, as an offset to the FICA payroll tax. Beginning in 2017 eligible start-up or small businesses may elect to apply the R&D Credits against their payroll tax liability. Find out more about the R&D tax credit payroll tax offset here:
Activities that qualify for the R&D credit are defined in the ‘4 Part Test’ which must be met for the activity to qualify as R&D:
1. Technical Uncertainty Test
The activity must be intended to eliminate technical uncertainty about the development or improvement of the product or process. This uncertainty exists if the information available to the company does not establish the capability or method for developing or improving the product or process, or the appropriate design of the product or process that would achieve the desired result.
2. Process of Experimentation Test
A process of experimentation (POE) is a process designed to evaluate one or more alternatives to achieve a result where the capability or the method of achieving that result, or the appropriate design of that result, is uncertain as of the beginning of the taxpayer’s research activities.
3. Technological in Nature
The activity must be undertaken must be technological in nature. Whether this test is met depends on whether the process of experimentation utilized in the research fundamentally relies on principles of the hard sciences. The hard sciences are defined as the physical or biological sciences, engineering or computer science.
4. New or Improved Business Component
The activity must be intended to be useful in the development of a new or improved business component of the taxpayer (which means a new or improved product, process, formula, technique, invention or software component).
Based on the 4 Part Test, if your company is involved in any of the following activities, you may be eligible to claim the R&D tax credit:
- Developing new or improved products or
- Developing new patents, patent applications or IP related work
- Modifying and improving production processes
and evaluating new materials, compounds or components
- Designing new manufacturing or production facilities and plants
- Automating processes via technology improvements
- Developing new/improved computer software or systems
Download our R&D Tax Credit Brochure and Fact Sheet for more details here.
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