How to Claim the R&D Tax Credit Against Payroll Taxes

By April 6, 2018 R&D Tax Credits
The Protecting Americans from Tax Hikes Act of 2015 (PATH Act) made significant changes to the R&D tax credit, one of which that can meaningfully benefit startup and pre-revenue companies.

Qualifying small businesses can now use a portion of the R&D tax credits they generate against the 6.2% payroll tax (Employer FICA Social Security portion) imposed on all U.S. businesses wage payments to employees. This is a huge change because before the PATH Act, companies that had not yet generated income could only carry forward their R&D credits and would have to wait until they exhausted any losses and reached enough profitability that would warrant the use of the credits. A qualified small business is defined as a corporation or partnership with:

  • Gross receipts less than $5 million, and
  • No gross receipts from more than five years ago (for purposes of Tax Year 2017, this would be 2013).

How can my small business elect the Credit?

Once it has been determined that your business is a qualified small business and generating an R&D credit, the process of claiming the credit is actually straightforward . Here are the forms you will need:

  • Form 6765 – Credit for Increasing Research Activities. If you’re already generating an R&D credit, you are filing this form.
  • Form 8974 – Qualified Small Business Payroll Tax Credit for Increasing Research Activities. Form 8974 calculates the payroll tax credit amount that is allowed for the current year, using information from Form 6765.  Its commonly referenced as the “connector form.”
  • Form 941 – Employer’s Quarterly Federal Tax Return. The final credit amount from Form 8974 is used on your quarterly filing. Form 941 is the form you or your payroll provider is already filing to determine your employer portion of Social Security  taxes. When filing Form 941 with a payroll tax credit, you also must attach a copy of Form 8974.  Most payroll providers have this process in place or are developing a smooth process.

When does my business receive the benefit?

The portion (or all) of the credit that is being used to offset the employer’s portion of taxes is applied to the first calendar quarter after the corporate income tax return containing the payroll election is filed. For example, if your business makes the payroll tax credit election and filed your corporate tax return on March 15th , the credits will be applied on your payroll on your 2017 second quarter payroll tax return (as soon as July 2018).

Are there any limitations?

There is no limit to how a much a business can generate in credits depending on their spend, but there is a limit to the amount of the R&D credit the business can elect to allocate against payroll taxes.  The business cannot apply more than their payroll tax liability in a given year or no more than $250,000.

Ultimately, the R&D Tax Credit against Payroll Tax liabilities is an extremely powerful tool for a qualified small business. The result of which is a more immediate cash benefit as your business can see credits utilized sooner than before legislation was enhanced.  If you conduct R&D activities and think your business is a qualified small business under the guidelines above, give us a call and we will walk you and your accountant through the process and estimate what your savings will be this year!