The Inflation Reduction Act of 2022 (IRA) doubled the amount of the Payroll Tax Credit election for the Research & Development Tax Credit. For tax years beginning after December 31, 2022, Qualified Small Businesses (“QSBs”) can potentially offset its payroll taxes up to $500,000 a year for up to five years.
Prior to the passage of the IRA, QSBs could make a Payroll Tax Credit election of their Research & Development Tax Credit to offset only the 6.2% employer portion of Social Security payroll tax liability up to $250,000 per year for up to five years. The IRA now allows Qualified Small Businesses to take an additional $250,000 to offset the 1.45% employer portion of Medicare payroll tax liability. As you can see, the $500,000 cap per year is bifurcated allowing for QSBs to offset both of its employer payroll tax obligations (its Social Security tax as well as its Medicare tax). However, this means that Qualified Small Businesses cannot offset more than $250,000 per year (up to five years) to each portion of its employer payroll tax liability.
The IRA did not change any of the other eligibility requirements for the Payroll Tax Credit election of the Research & Development Tax Credit.
Below are the requirements for eligibility to be a Qualified Small Business (QSB), including the new credit amount:
- The company qualifies for the Research & Development Tax Credit under Internal Revenue Code Section 41 and its applicable regulations
- Gross receipts for the company for its current taxable year are less than $5,000,000
- The company did not have gross receipts for any taxable year preceding the five taxable year period ending with such taxable year
- The Payroll Tax Credit election can only be claimed up to a maximum five years
- $250,000 of the Payroll Tax Credit of the Research & Development Tax Credit in a tax year can be utilized against the employer portion of the Social Security payroll tax liability
- $250,000 of the Payroll Tax Credit of the Research & Development Tax Credit in a tax year can be utilized against the employer portion of the Medicare payroll tax liability
- The Payroll Tax Credit cannot exceed the employer portion of tax (up to $250,000 for its Social Security obligation and up to $250,000 for its Medicare obligation) imposed for any calendar quarter. Unused amounts of the credit are carried forward
- Aggregation rules apply where the credit limit of $500,000 is allocated amongst the group under the regular Research & Development Tax Credit aggregation rules
- The Payroll Tax Credit offsets employer payroll taxes no earlier than the first quarter after the company files its income tax return reporting the Research & Development Tax Credit to make the Payroll Tax Credit election
The additional $250,000 amount of Payroll Tax Credit will not provide any tax benefits until 2024, the first year in which a Qualified Small Businesses has filed its income tax return for its 2023 tax return.
Due to the passage of the IRA eligible start-up companies and loss companies may be able to claim up to $500,000 to offset their Payroll Tax obligations against their 2024 employment taxes.
