The Research & Development Tax CreditDuring these challenging economic times, manufacturers may be overlooking a significant source of revenue for hiring additional workers, expanding operations, and improving their bottom lines: the research and development (R&D) tax credit.
Large companies have banked on these credits for years, feeding a misperception that the credit is limited to high-tech, cutting-edge research companies, multinationals, or Fortune 1000 firms. However, when the credit was enacted by Congress, one of the important goals was to fuel innovation and hiring in the area which produces the most jobs in America: small and mid-sized companies. Recent changes to the credit have helped further this goal dramatically.
Over the past few years, Congress reduced the documentation and qualification requirements to make this credit accessible to companies outside of the Fortune 1000. Court rulings have also boosted eligibility and provided much-needed clarification. In the last two years, five major R&D tax-credit court cases added additional guidance in this area. All of these cases resulted in taxpayer-friendly outcomes that provide a clear, consistent, affirmative message toward estimation and costs that can be claimed. One case involving an automotive supplier had broad implications for companies in the plastics and manufacturing industry as a whole.
Specifically, the court ruled that a company could capture supply expenses incurred for the development of tooling and dies sold to the client. Another case reaffirmed this decision and expanded its applicability toward manufacturers developing products sold to clients. Specifically, the court ruled that the taxpayer could capture all of the expenses related to some of the unique boats the company developed. When viewed through the prism of the manufacturing industry, this applies to the tooling and prototypes sold to clients. An example could be the plastic injection mold developed to make a plastic car part.
Today’s manufacturer may not realize that their activities may entitle them to generous R&D tax incentives, and even if they do, the traditional notions of R&D may cause manufacturers to limit qualified research expenditures to activities associated with new-product and invention developments. However, in many cases, manufacturers spend a considerable amount of time and effort to develop product designs that achieve optimized manufacturing process performance. Furthermore, many manufacturers, including ‘job shops,’ conduct extensive activities to design and develop the manufacturing processes themselves to achieve specific project requirements or to stay ahead of competitors in the marketplace.
All these activities may require time and money both in the engineering department and on the production floor itself, which may be captured as qualified research expenditures leading to significant tax benefits. If you think you have to be a large public corporation developing products and inventions to be conducting qualified activities as defined by the Internal Revenue Code, think again.
Manufacturers with qualifying R&D activities are entitled to a 20% research tax credit (potentially equaling hundreds of thousands of dollars), subject to certain limitations for previous years. The credit is much more powerful than a deduction because it offsets taxes owed or paid, dollar for dollar, as opposed to just reducing a company’s taxable income. Even better, a business can obtain the credit for all open tax years — generally the last three years plus the current year. Any credits not currently utilizable can be carried forward 20 years.
To fully capture the eligible costs for this credit and defend your calculations should you be audited, you need a group of experts with either scientific or engineering experience to help qualify, quantify, and substantiate the credit. A company I’ve dealt with which has such expertise is an organization called Alliantgroup, a national, specialty tax-advisory firm. They provide businesses with a no-obligation assessment of their eligibility for tax credits. With recent changes to these incentives, they have been able to bring extra value to our clients, making this a win-win proposition for everyone.
A noted supporter of the R&D credit, former IRS Commissioner and Alliantgroup Vice Chairman Mark Everson, has urged manufacturers and their CPAs to educate themselves about the credit.
“Manufacturing is a foundational component of the American economy. The R&D credit can be a lifesaver for small and mid-size businesses, and in particular manufacturers. It is critical that businesses capture these funds.”
The U.S. Congress and many state governments realize how critical innovation is to the future of America’s competitiveness in the world, and the R&D credit is an important incentive to nurture that innovation. They also know that the companies engaging in these activities are supporting millions of high-skilled, well-paying jobs.
In addition to manufacturing, Brian Aumueller, director for Alliantgroup, has seen first-hand a variety of industries that are benefiting from the credit, including architecture, engineering, and contracting. He notes, “the broadened applicability of the credit has enhanced the opportunity for companies in various industries across the country — New England is no exception. In 2011, we have seen local companies capture over $16 million in credits, and expect that pace to increase in 2012 and beyond.”
The following examples illustrate how more businesses are taking full advantage of this important tax incentive program, resulting in a new stream of income in these trying economic times and saving jobs.
A contract manufacturer with $20 million in revenues realized a credit in excess of $400,000 due to changes in law that enable the costs related to plastic injection molds and tools sold to customers to be claimed.
Similarly, a tire-mold manufacturer realized about $60,000 in credits from the design of tire molds and the related costs of tire-mold prototypes.
For these and other reasons, the R&D credit will be around for a long time, and any company with relevant products or services would be smart to realize its benefits. By taking a strategic approach to R&D tax credits, businesses can realize significant cost savings benefiting the company, its employees, and the economy as a whole.
Kristina Drzal Houghton, CPA, is partner in charge of Taxation for Meyers Brothers Kalicka, P.C.; 536-8510; www.mbkcpa.com