If you are an entrepreneur with a new business that is developing products to bring to market, the federal R&D tax credit can now benefit you. Traditionally, the R&D tax credit is meant to offset federal income tax liability. However, beginning in 2016, companies that meet the below definition of a start-up company can use federal R&D tax credits to offset a significant portion of their federal payroll taxes. As a result, even though most new innovative companies are pre-revenue and not paying income taxes, they can still utilize this significant tax incentive as long as they have employees earning wages.
How Does a New Business Qualify?
In order to qualify as a start-up company for the federal payroll tax offset, beginning in 2016, a company needs to have less than $5 million in gross receipts for the year. In addition, it can have no gross receipts prior to the five year period ending with the year in question (for 2016, it could have no gross receipts prior to 2012).
When a company meets that definition and qualifies for the federal R&D tax credit, it can elect to use a portion or all of its federal R&D tax credits to reduce the employer’s Social Security (6.2%) portion of FICA taxes. This reduction to its federal payroll taxes will begin in the calendar quarter that starts after the date that the corporate return is filed, including this election. Any unused credits in a respective quarter will carry forward to the following quarter to be used until exhausted (20 year carry forward).
A company can make this election for up to 5 years, as long as it continues to meet the definition of a start-up company for these purposes. Beginning in 2017, this election needs to be made on an originally filed, non-amended, return. (There was an exception for the 2016 year, where companies could amend their 2016 return until December 31, 2017 and make the election.) A company making this proper election can use up to $250,000 of R&D tax credits per year to offset payroll taxes.
For a consultation or to learn more about how the R&D tax credit may be applicable to your start-up, please reach out to David Mayer, CPA and National Director of Engineered Tax Services, directly at DMayer@engineeredtaxservices.com.