R & D Tax Credit Reduces Payroll Taxes
For many startup companies, the first several years of business can be a period of heavy research and development (R&D) activity, as the founders work to bring the business’ products or processes to market. Unfortunately, this period is also often marked by heavy expenses and minimal revenue, resulting in operating losses for the company. Even the most successful startup business may take several years before it is able to finally show a net taxable profit.
The Protecting Americans From Tax Hikes Act (PATH Act) contained several provisions favorable to taxpayers that incur qualified research and development expenditures. Prior to the PATH Act, many small startups were unable to realize any tax benefits since they operated at a loss and had no income tax liability to offset even though they incurred significant R&D expenditures including payroll taxes.
The PATH Act allows qualified small businesses (QSBs) to claim all or a portion of the R&D tax credit against the employer portion of Social Security taxes due. The maximum amount of the credit that can be elected to offset payroll taxes in a given year is $250,000, and the election can only be made for five tax years.
In order to be considered a QSB, a business must also meet certain aggregation rules imposed by the PATH Act. If a business involves controlled groups of corporations or related groups of trades or businesses, it would be best to consult a Missouri payroll accounting tax advisor to determine how these rules may apply.
A company must have less than $5 million in annual gross receipts to be eligible. For new businesses, the gross receipts must fall under the $5 million limit after being annualized for a full 12 months. The gross receipts of businesses that are related or share common ownership need to be calculated on a combined basis for purposes of determining eligibility under this provision.
The fact that the R&D tax credit can now offset payroll taxes means that capturing the credit should be treated by startups with the same importance as other capital infusion opportunities. There is no excuse anymore for early-stage companies to miss out on the value of R&D tax credit.
The payroll tax credit claimed may be used as a credit against the employer’s portion of the social security tax on wages paid to all employees of the business during the quarter in which the credit is claimed, not just the wages of employees performing research activities. However, the payroll credit claimed on an employment tax return is limited to the employer’s portion of tax. If the elected amount of payroll credit exceeds an employer’s portion of tax, then the excess payroll credit is carried forward to the next employment tax return filed by the employer.
The election to use the research credit to offset the employer’s share of payroll taxes can be a valuable tool for allowing startup companies to immediately reap the benefits of the credit. Please consult your Missouri payroll accounting tax advisor at Schultz, Wood, & Rapp to determine if your business is eligible for the payroll tax credit election and whether making the election on your income tax return would be advantageous for your company.