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Alvarez & Marsal, Taxand USA, explains the refundable R&D tax credit opportunities for startups and small businesses.
The federal research and development tax credit was finally made permanent in late 2015 under the Protecting Americans from Tax Hikes (PATH) Act. With this legislation, Congress introduced changes to the research credit that are beneficial for taxpayers who previously may not have been able to take advantage of this incentive. For tax years beginning after December 31 2015, the PATH Act added new Section 41(h) to the Internal Revenue Code, which provides qualified small businesses with a payroll tax offset and allows companies to receive a benefit for their research activities regardless of whether they are profitable.
Generally, many small startups and businesses operate at a loss and are unable to attain a current cash benefit from the federal research credit because the credit could be used only to offset federal income tax liability. With the new payroll tax offset, the R&D tax credit is now available to many small and mid-sized companies that had been effectively barred from using the credit. In 2017, qualified businesses began benefitting from the new payroll tax offset by utilising 2016 R&D expenditures to offset a portion of their payroll taxes.
Discover more: No money, no problem: refundable R&D tax credit opportunities for small businesses
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With the new interim guidance, taxpayers have more certainty in electing R&D tax credits to offset their payroll tax starting in 2017. However, issues such as timely filing and the precise definition of gross receipts contribute to uncertainty with respect to successfully claiming the R&D benefits provided by the PATH Act. Taxpayers that are considering claiming these credits should carefully consider timely filing (i.e., file by the end of the quarter). Due to Social Security tax limitations, most companies pay a greater amount of tax in their earlier quarters than later ones. Therefore, the smaller the company (i.e., the smaller its annual payroll), the quicker that company must file its returns in order to obtain the full $250,000 benefit in a given year.