Regarding the research & development(R&D) tax credit, some recent law changes regarding the credit are very important to note. This article will break down the key points to the law changes of the R&D credit. The R&D tax credit was originally enacted in 1981 and has been able to provide eligible companies with monetary benefits. Currently, the credit has been made permanent to promote and encourage long-term investments in areas such as research & development.
PATH Act
The R&D tax credit was originally utilized against income taxes only. However, in 2015, the Protecting Americans From Tax Hikes(PATH) Act was passed into law. The PATH act of 2015 ultimately allowed small businesses to use the R&D credits of up to $250,000 against their payroll tax liability. In August of 2022, this amount increased even more. The passing of the Inflation Reduction Act further increased the payroll liability limit to $500,000. This is a huge benefit for all types of small businesses, even those that aren’t yet profitable. The reason these changes benefit small businesses so greatly is that the tax liability is lowered, and innovation is further encouraged.
Eligibility
In order for a small business to qualify for the R&D tax credit, it must be defined as a partnership, corporation, or S corporation with less than $5 million in gross receipts in the current tax filing year. Businesses also qualify that having no gross receipts prior to a five-tax year window which includes the current tax filing year.
Section 174 Requirements
In 2017, The Tax Cuts and Jobs Act(TCJA) was passed. The passing of this particular act ultimately changed the way Section 174 expenses are treated. When it comes to tax years starting on or after January 1st, taxpayers are not allowed to deduct R&D expenditures. Instead, the taxpayer has to capitalize on these costs and amortize them. For domestic research, the costs are amortized over a 5-year period and a 15-year period for foreign research. Section 174 affects taxpayers that are currently claiming or planning to claim the R&D tax credit. Something else that the Tax Cuts and Jobs Act did was expand on the definition of the R&D expense which ultimately allowed software development to be included under the expense category. This can be seen as a positive because it allows the amount of expenditures companies can amortize and capitalize to increase.
Wrap Up
The sudden changes in the R&D Credit can definitely be viewed as intimidating, but there is no need to worry! The increase in payroll offset limitation is a very positive thing for small businesses. Additionally, more guidance regarding the Section 174 requirements is expected to be released soon. Do you think your small business qualifies for R&D tax credits? Give us a call at 516-541-6549 or visit our website for more information.