Offsetting payroll taxes with the R&D credit

With the passage of Protecting Americans from Tax Hikes (PATH) in 2015, the Credit for Increasing Research Activities was finally been made permanent. Not only did PATH make the credit permanent, it also included provisions which allow the credit to now offset alternative minimum tax and payroll tax for certain taxpayers. A significant change in the rules is the ability for certain taxpayers to now offset their employer portion of social security liability. Now certain small taxpayers may be able to utilize the credit even though they are not yet profitable. The new rule is allowed for any R&D costs that were incurred beginning in 2016. To qualify for the new offset, you must be an eligible taxpayer. An eligible taxpayer is any C corporation, S corporation, or partnership that: - Has gross receipts for only five years or less. Any company which generated gross receipts prior to 2012 would not be eligible for the offset. - Has gross receipts of $5 million or less for the current tax year. - Has qualified research and development expenses. ----- Gross Receipt Rule Gross receipts will generally mean the amount properly reported as gross receipts on Line 1c of your tax return. If your company is in its first year, you must annualize your gross receipts for purposes of meeting the $5 million in gross receipts test. Gross receipts of related businesses that share common ownership will need to be computed on a combined basis for purposes of meeting the $5 million requirement. Also, it is important to point out that the rule does not state that it only applies to businesses that have been around for five years or less, but those that have had gross receipts for five years or less. Many startup companies or research intensive companies often do not generate gross receipts for several years. These companies could still potentially qualify for the payroll tax offset if they did not have gross receipts for more than five years, regardless of how long they have been in existence. ----- Making the election The annual election is made on a timely filed Form 6765, Credit for Increasing Research Activities. The qualified small business makes the election by specifying the amount of the research credit that will be used against the employer portion of their payroll tax. The credit equals the lesser of the current year tax credit, not to exceed $250,000, or the general business carryforward for the tax year. The carryover limitation only applies to C corporations. The election must be made on or before the due date of the originally filed return, including extensions. The election cannot be made with an amended return. So while it may be too late to make the election in 2016 for taxpayers who have already filed their tax returns, it is still available for those taxpayers who extended their tax returns. The election is irrevocable and can only be revoked with the consent of the Internal Revenue Service. The credit is claimed on the taxpayer's quarterly payroll tax report. It is not claimed with its monthly or semiweekly deposits. As you can see, this new rule could prove to be extremely beneficial, especially for those companies starting out that have large payroll tax liabilities but have yet to generate any significant sales. Under the old rules, these companies may not see the cash benefit of the credits for several years after starting out. The favorable change to the rules will help companies who are generating R&D costs to receive the cash benefit during the early stages when they need it most. The rules for claiming the Credit for Increasing Research Activities, as well as determining if a taxpayer is a qualified small business for purposes of the payroll tax offset, can be complex. You should consult your tax adviser to see what steps are necessary to be sure you qualify and properly claim the credit. ----- John Finocchario, CPA, is a principal in the tax department at Mengel, Metzger, Barr & Co. LLP. He may be reached at Jfinocchario@mmb-co.com. Published: Wed, May 31, 2017