One of the most frequently asked questions we receive from our potential clients is “How much R&D tax credit can I utilize”. The answer varies significantly by individual company situation, however, one of the biggest myths related to the utilization of the R&D tax credit is whether it can offset tentative minimum tax (TMT).
Background
Historically, the R&D tax credit can only be used to reduce regular income tax above tentative minimum tax, creating a very limiting situation for any taxpayers that are subject to alternative minimum tax (AMT) due to a higher tentative minimum tax than regular tax calculated, as they cannot be benefit from the R&D tax credit or any other business credits on their Form 3800.
In 2015, the situation has changed following the passage of the Protecting Americans From Tax Hikes (PATH) Act, which has cleared path for “eligible small businesses” to use R&D tax credit against AMT, starting tax year 2016.
How can I offset AMT using the R&D tax credit?
Those subject to AMT can offset regular taxes and AMT using the R&D credit allowing a significant portion of the credit to be monetized.
The R&D tax credit becomes part of a special credit category, per I.R.C. § 38(C)(4)(A) and (B), that can use $0 as tentative min tax for determining the limitation of the credit for any eligible small businesses (EBSs), defined by I.R.C. § 38(C)(5) as corporations, partnership, or sole proprietorships with average annual gross receipts for the 3-taxable-year period preceding such taxable year below $50,000,000.
As a result of the legislation changes, the tentative minimum tax would be $0 on Form 3800 (General Business Credit Form) for the vast majority of the small- and medium-sized companies, including pass-through entities. The changes have effectively created a much lower threshold for the taxpayers to utilize the R&D tax credit timely to offset income tax liabilities as opposed to carrying the credit forward for future usage.
To see if your business qualifies and how it could benefit from the R&D tax credit, contact us to learn more or if you’re already claiming maximize it with us!
Generally, the following documents are needed in order to identify and calculate the QREs:
- W2’s of the individuals employed by the company claiming the credit. The wages are pulled f rom box 1 for those employees who are directly involved, supporting or managing the research activity.
- For partnerships, K1’s are needed. Partner self-employment income and some guaranteed payments can be included
- For sole proprietorships, if an owner is directly engaged in, directly supervising or directly supporting the R&D activity, then his/her self-employment income may be included. This is found on personal Schedule C
- 1099’s or contractor invoices for payments made to subcontractors within the United States. Please note, analysis must be done on these expenses to determine which party “owns” the R&D. This is done through the “rights and risks” test. Whoever has the financial risk and whoever has substantial rights over the activity, can claim this expense. (Geosyntec Consultants, Inc. v. United States, 776 F.3d 1330 (11th Cir. 2015)).
- P&L statements/trial balance/general ledger are necessary to identify raw materials and supplies used to conduct the R&D, or used and consumed in the process of research. Additionally, computers externally leased for conducting research, which primarily includes cloud computation, is typically found in the P&L statement.
- Tax Returns are used to establish qualification criteria for the payroll credit, as well as providing information necessary to calculate base year amounts (incorporation date, gross receipts, taxable income)
