R&D Tax Credits and COVID-19
Tap into retroactive credits for critical cash flow.
The coronavirus global health event has driven companies to look for creative ways to fund their operations and stay afloat without resorting to employee layoffs – or other drastic measures that may cut into their ability to survive in a post-COVID-19 world. One potential source of financial flexibility for companies when other financing options are scarce is unclaimed tax credits for research and development (R&D).
R&D tax credits may cover a wide range of business investments and activities defined under Internal Revenue Code Section 41 (R&D credit). If your company has developed or improved a product, process, technique, formula, or invention, it may qualify for an R&D credit.
Highlighting below the kinds of business activities that may qualify—along with a real-life example of the financial benefits companies may be able to secure by analyzing their business activities and filing for the R&D tax credit.
Critical Cash Flow, Quick Returns
With the R&D credit, companies can generate a net, dollar-for-dollar tax credit, used to offset tax liability, of typically between 6%-8% of qualified R&D spending. Because the R&D credit can be claimed retroactively, companies can review expenses/investments for the prior three tax years, as well as the current tax year, to calculate a significant cumulative tax credit benefit. Note that many states also offer additional R&D tax credits for qualifying research activities performed within their borders.
Take the example of a California-based machine shop that recently went through a tax credit analysis with ADP in hopes of identifying cash-generating opportunities to help survive the current economic challenges. The business employs ten individuals and has average annual revenues of $2 million. Working with ADP, this company identified $134,800 in federal and state R&D tax credits related to business activities from 2016-2019.
As a result, the company anticipates a tax refund of $115,000 related to the R&D tax credit in less than 30 days—critical dollars during this time. The remaining $20,000 in savings reduced the 2019 taxes due1.
Digging into the Details: Identifying Eligible Activities
The Protecting Americans from Tax Hikes (PATH) Act of 2015 permanently extended the R&D credit. Effective January 1, 2016, it also broadened the ability of many businesses, especially small businesses, to more easily monetize the R&D credit, by allowing eligible small businesses and startups to use the credit to offset Alternative Minimum Tax and payroll tax, respectively.
While the R&D credit is not limited by industry, certain business activities are more likely to qualify than others, including:
- Manufacturing
- Software Development
- Pharmaceuticals
- Life Sciences and Biotechnology
Generally, retail, hospitality and service industries are less likely to have qualifying activities.
A broad array of technical activities can qualify for the R&D credit, some of which include:
- Developing or engineering a new product or formula
- Developing/improving software or applications
- Improving an existing product
- Enhancing or improving manufacturing processes
- Prototyping, creating trial runs or test batches
- Performing scientific or laboratory testing
- Using CAD or 3-D modeling software
- Developing tools, dies, molds or casts
Learn More and Stay Informed
It's not too late to see if you're eligible for the federal Research and Development (R&D) tax credit. Get information here.
To get additional information on this topic, download the ADP Tax Credits and Incentives Guide
Stay up-to-date on COVID-19-related legislation and information for employers: ADP Employer Preparedness Toolkit — Coronavirus Disease (COVID-19)
Get customizable email templates and in-depth information on resources to support employees in the COVID-19 Employee Communications Toolkit
1 Individual tax savings may vary
