Research & Experimentation Credits -
     How More Businesses Can be Taking Advantage of Them

By: Robert J. Dutkiewicz, CPA, MST

Changes in tax regulations have dramatically loosened the requirements to qualify for corporate research and experimentation (R&E) tax credits.

Among the changes were more reasonable recordkeeping rules and different requirements pertaining to software development. With both of these changes in place, more R&E activities now apply to the credits - and more businesses should be taking advantage of them.

Many businesses can claim the credit for such activities as new product development, product improvements, production process improvements, process automation or software development. The credit is retroactive, so you can go back to any open year and amend your tax return to recapture unclaimed credits. In some cases, companies may recapture taxes paid up to four years ago.

To meet the tax definition, research and experimentation must meet four requirements:

1. New or Improved Business Component
The activity on which money is spent must be designed to create a new or improved product or process. It doesn't have to be "brand new" to the marketplace, but it must be new in terms of function, performance, reliability, or quality.

2. Technological in Nature
While the research doesn't have to be laboratory-based, it must fundamentally rely on the principles of physical or biological science, engineering, or computer science. The research cannot be in a "soft" science, such as psychology.

3. Elimination of Uncertainty
Activities must be intended to discover information that is currently unknown about how to improve or develop the product or process. Even if the outcome is unsuccessful, related activities can still qualify.

4. Process of Experimentation
Activities must include a "process" to evaluate alternatives. This may involve developing a hypothesis, then testing, refining, or eliminating it through modeling, simulation or trial and error.

Internal-use software must also pass an additional three-part test: It must be commercially unavailable, pass a high threshold of innovation and pose significant economic risk.

While still a complex task, qualifying for R&E tax credits can mean significant tax savings.

If your company qualifies for the federal R&E tax credits and hasn't taken advantage of them, you could be leaving a significant amount of money on the table.

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