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A Department of the Treasury report, The President’s Framework For Business Tax Reform, calls for Congress to “expand, simplify and make permanent” the R&D Tax Credit. Believe In America: Mitt Romney’s Plan for Jobs and Economic Growth also seeks to strengthen and make the credit permanent, observing that “economies succeed” when there are “high levels of research-and-development spending.” With two opposing sides finding such common ground, what the R&D credit means for business warrants closer examination.
The federal R&D credit has been in place for several decades and it has become more generous over the years. Businesses that looked at the credit in the past and determined that they didn't qualify may now realize significant benefits due to the credit's broader applicability. For example, in 2003, the U.S. Treasury put forth regulations that modified the documentation requirements and changed the definition of qualifying activities. R&D is no longer limited to a development or invention new to the marketplace or world; it only need be new to your business.
A key benefit of the federal R&D credit is that a business can claim the benefit for all open tax years -- generally the last three years plus the current year -- and the credit may be carried forward up to 20 years. The result is often hundreds of thousands of dollars for a business.
In one example of how the R&D credit can be a lifeline for a company, a $30 million tool-and-die shop realized federal and Indiana state credits in excess of $1 million for activities covering a four-year period. Significant supply costs were identified related to the material cost of prototype and production tooling sold to customers. In another case, an automotive parts manufacturer with $200 million in revenues was previously claiming $150,000 in R&D tax credits per year through their internal analysis. After a comprehensive study of the open tax years, in which experts and engineers helped to document the production process, an additional $2.4 million in tax savings was identified.
If the credit is so valuable, why don’t more companies take advantage of it? For one, many taxpayers self-censor away from the credit because they think that it doesn't apply to them or is too complicated to pursue. In addition, most small and midsized businesses do not have ERP accounting systems to capture every qualifying activity. In this circumstance, it can be highly beneficial to have a qualified third-party conduct interviews and uncover documentation that supports claims. To maximize the available tax benefits, specialists with industry expertise often can see things that attorneys and accountants might miss if working alone.
BOTH SIDES OF THE AISLE
Both Republicans and Democrats in Congress agree that the credit is essential to promoting innovation and job creation, and many members of the two parties support making the credit permanent. Some advocate a refundable credit for certain taxpayers, something I favor. A recent study by The Milken Institute, a non-partisan think tank, states that increasing the R&D credit by 25 percent and making it permanent would have a profoundly positive affect on American productivity. According to the study, “Within 10 years, [expanding the credit by 25 percent] will grow real GDP by $206 billion, increase real business fixed investment by $124 billion, grow real exports by $63 billion, and create a total of 510,000 jobs.”
I can certainly attest to the complexity of the Tax Code, and the requirements for the R&D tax credit are no exception. That having been said, at almost $10 billion a year, the R&D credit is one of the most generous tax benefits established by Congress. I would also emphasize that many states have robust credits available, so it’s sensible to explore state standards as well.
In these challenging economic times, many businesses have utilized the R&D credit and been able to avoid layoffs, add jobs, and remain competitive. If two candidates for president as different as Barack Obama and Mitt Romney can agree that the R&D tax credit is good tax policy, more businesses should take a look at this important provision to make sure they are claiming everything to which they are already entitled.
Mark W. Everson is vice chairman of alliantgroup, a provider of specialty tax services. He served as commissioner of Internal Revenue from 2003 through 2007.