“I have too much money to work with!” That’s something you’ll never hear any small business owner saying. There’s always something that a little extra cash could be used for to help a business grow, whether it’s hiring extra help, paying rent, or stocking up on supplies or merchandise.
 

Getting that extra money for your business isn’t always easy, but loans aren’t the only option. Tax credits can also be a great way to keep more of your money invested in your business. There are many different types of tax credits a business might qualify for, but if your company develops new products or processes, or improves on existing ones, one credit you might want to look into is the research & development tax credit.

Qualifying for the R&D Tax Credit

Very often, businesses that qualify for the R&D tax credit don’t realize they’re eligible for it. With a name like that, people often think this credit is only available to places like scientific research labs or organizations that make the big breakthroughs that revolutionize the world. But you don’t necessarily need to try reaching that lofty standard.

You also don’t need to be solely focused on research and development with a team of highly-credentialed scientists and engineers working on your behalf. Finding new solutions or improving existing ones that make a difference on a smaller scale absolutely can qualify. It’s also important to note that your efforts to develop or improve a product or service don’t even necessarily need to be successful or complete for you to qualify.

While it’s most commonly claimed by manufacturing businesses, businesses in a very wide range of industries can potentially benefit from the R&D tax credit and you might be surprised by some of the ways a business might qualify.

For example, a craft brewery could be eligible if they developed a new way of bottling their product. If a construction company develops a better way of doing a type of job, that would count. Or many types of businesses could qualify for developing new software that would help them improve operations or better meet the needs of their customers. Moss Adams has a great list of activities that could allow businesses in all sorts of industries to qualify.

For a new or improved process or product to qualify for the R&D tax credit, activity related to the development needs to meet the following criteria:

  • Qualified Purpose: The activities need to be done with the intent of either developing a new product or process or improving existing products or processes.
  • Technological in Nature: The product or process needs to be based on hard sciences, such as engineering, computer science, physics, biology, or chemistry.
  • Technical Uncertainty: You are working to eliminate uncertainty around the product or process.
  • Experimentation Process: The development must involve a systemic process for simulation, evaluation, and modeling of alternatives to eliminate uncertainty.

Generally speaking, these criteria mean that things like administrative tasks, market research, reverse engineering a product, adapting an existing product, research conducted outside of the U.S., and anything related to the arts or social sciences are not allowed.

Expenses Covered by the R&D Tax Credit

R&D tax credits are offered at a federal level and many states also offer it at a statewide level as well. The federal R&D credit can cover up to 10% of money spent on qualified purposes:

  • Taxable wages
  • Computer services, such as cloud storage or servers
  • Supplies
  • Contract research services
Can Small Businesses and Startups Benefit from the R&D Tax Credit?

Another common reason why companies don’t think they are eligible for the R&D tax credit is that they think they’re too small to qualify. But the R&D tax credit is available to businesses of all sizes, including startups, even if they don’t expect to pay federal income tax.

According to Howard & Howard, thanks to a 2015 law change, small businesses and startups that generate federal R&D credits but don’t have income tax liability can use the R&D credits to offset up to $250,000 in payroll taxes annually as long as they have $5 million or less in gross receipts in the current tax year and have no more than five years of gross receipts.

Claiming the R&D Tax Credit

If you think you might be eligible for the R&D tax credit, it’s best to talk to a tax professional. They’ll be able to help you verify whether or not you qualify for the credit, give you more details about the exact value of the credit, and they’ll be able to provide guidance about what types of documentation will be needed. Some types of documentation commonly needed to claim the credit include project notes, payroll records, expense records, lab results, and other day-to-day records your business generates, such as emails. They’ll also be best able to answer other questions about how the credit applies to the unique nature of your business.