By Rick Meyer, CPA, MBA, MST
Congress has a short period before their August recess and is taking a hard look at the next round of legislation to help with the impact of COVID-19. The research & development (R&D) credit, which has been used to encourage economic growth, is on the list -- along with others. Business owners should seriously consider if they qualify for these incentives to help with their cash flow needs.
The new R&D credit proposals include: doubling the R&D tax credit; allowing businesses to currently use their R&D tax credit and other credits, rather than having to carry forward unused credits if they are in a loss situation; expanding the R&D tax credit percentage for domestic manufacturing; and increasing the refundable R&D credit for startups. The R&D tax credit is viewed by legislators as a tool to strengthen the manufacturing base and newly increased credits could be used as an effective tool to encourage U.S. companies to do more manufacturing in the U.S. as opposed to manufacturing overseas.
Legislators are also discussing expanding the employee retention credit (with a much higher dollar threshold than currently in place) and a payroll tax holiday for both employees and employers.
In addition, Congress will consider whether they want to have the Treasury Department issue another round of checks to families and individuals. This one is a struggle, with the $600 add-on weekly payment for unemployment expiring at the end of July. It is certainly placing a focus on Congress to pass something as a COVID-19 relief package before the August recess.
Some other key non-tax provisions are:
- Looking at funding for state and local governments (to replace lost tax revenues)
- Appropriations for health/testing related to COVID-19
- Supplemental payments to front-line health workers
These have passed the House and will be put forward for consideration in the House/Senate talks.
If there is a deal, it will likely be more modest in terms of dollars than the $3 trillion House package passed in May. The compromise may include some relief for state and local governments, an assist to health workers, liability protections, tax incentives for hiring and retention of workers as well as some additional relief for families (probably another round of checks) and support for business including the R&D tax credit.
As mentioned earlier, with Congress talking seriously about expanding the R&D tax credit, it’s time to look hard about whether a company may qualify. The law as it relates to the R&D tax credit has changed over the last several years, mostly for the better for taxpayers. So, if you’ve looked before and thought you or your clients didn’t qualify, it’s worth looking at again.
Good candidates for the R&D tax credit include software, manufacturing, architecture, engineering, food, food processing, construction, systems integrators, life sciences and medical. Basically, if a company makes something or is improving something it already makes or how it makes it, it may qualify for the R&D tax credit. Remember, the credit is not just about basic research, but also includes activities for applied research.
Too often, companies think they aren’t eligible for the R&D tax credit because they are being paid / contracted to do certain work. However, a recent tax court case, Populous Holdings, Inc. v. Commissioner, has good news for contractors, especially government contractors and their potential eligibility for the R&D tax credit. In short, the court found that the contractor was eligible for the R&D tax credit even though the contractor was paid. It found that the contractor had economic risk and retained substantial rights. So now, it is definitely worth taking a close look at the contracts of a business to see if they may qualify for the R&D tax credit.
The biggest change for small and medium businesses in recent years is that it is now permanent law that these business owners can take the R&D tax credit against their individual AMT. This R&D credit utilization will largely increase necessary cash flow to business owners in these tough times.
More recently, Congress made the R&D tax credit partially refundable (against employer payroll tax) and allowed startups to benefit. As mentioned, Congress is looking strongly at expanding the refundable piece of the R&D tax credit.
Also, IRS regulations were updated to allow for a bigger window for companies to potentially qualify for the R&D tax credit for developing internal-use software. Thus, many businesses that might not historically have been good candidates for the R&D tax credit (e.g. finance, banks, stores) should look again.
I expect things to move pretty fast and furious in the Senate before the August break. Senate Majority Leader Mitch McConnell (R-KY) has recently signaled his openness to moving another relief package forward. The relief package should include provisions to encourage businesses to bring back and/or retain employees and keep their doors open – as well as incentives to foster long-term growth in the U.S. – with the key being a more robust R&D tax credit.
Rick Meyer, CPA, MBA, MST is a long time member of the Illinois CPA Society and has served on various tax committees over the past 40+ years. He is a director for alliantgroup, a national firm that works with businesses and their CPAs to identify powerful government-sponsored tax credits and incentives. Contact him here.