R&D tax credit changes benefit small businesses.

• Author: Butler, Ted
• Position: Research and development

The intent of the Sec. 41 research and development (R&D) credit is to give companies incentive to invest in innovation within the United States. The R&D credit is available to companies in a variety of industries that develop new or improved products or processes. Certain wages, supplies, and contract research costs associated with qualifying R&D projects and activities, referred to as qualified research expenditures (QREs), form the basis of the R&D credit.

Despite having qualifying R&D activities and corresponding QREs, small businesses have often been limited in their ability to claim the R&D credit in the current tax year due to net operating losses or alternative minimum tax (AMT) positions. For example, a startup company that is not yet generating taxable income will not have the tax liability needed to use the R&D credit. Although the R&D credit may be carried forward for 20 years, the company receives no immediate tax benefit from the qualifying R&D activities. In addition, taxpayers in an AMT position do not receive an immediate benefit from the R&D credit because the credit cannot be used to offset an AMT liability.

PATH Act

The Protecting Americans From Tax Hikes (PATH) Act of 2015, part of the Consolidated Appropriations Act, 2016, PL. 114-113, included the following important changes to the R&D credit:

* Making the R&D credit permanent;

* Allowing businesses with less than $50 million in gross receipts to offset the R&D credit against AMT liability; and

* Allowing certain small businesses with less than $5 million in gross receipts to offset the R&D credit against payroll taxes.

These changes positively affect businesses of all sizes that invest in R&D projects and activities in the United States. However, the new rules that provide for the offset against AMT and payroll taxes are the most significant for small businesses that would otherwise be limited in taking immediate advantage of the R&D credit.

Offset Against AMT

For tax years beginning after Dec. 31, 2015, the PATH Act allows eligible small businesses (ESBs) with less than $50 million in gross receipts to offset R&D credits generated after the effective date against AMT liability.

An ESB is defined as a sole proprietorship, partnership, or nonpublicly traded corporation with average annual gross receipts for the prior three tax years that do not exceed $50 million. Partners of a partnership and shareholders of an S corporation must separately meet the gross receipts...