How to Calculate R&D Tax Credit: The Basics

In a world that's increasingly driven by innovation, businesses often invest substantial resources in research and development (R&D). To incentivize these businesses to develop novel solutions, the US government offers R&D tax credits. However, calculating these credits can be complex. In this blog, we'll break the process down and go over the traditional method, the alternative simplified credit (ASC) method, and some of the basic fundamentals of the R&D tax credit.

Traditional Method of Calculating

The traditional method for calculating the R&D tax credit, also known as the regular credit method, involves comparing the current year's research expenses with affixed-base percentage of the average annual gross receipts from a specific period.

First, identify your qualified research expenses (QREs) for the current tax year. Then calculate your average annual gross receipts for the four preceding years. The fixed-base percentage is the ratio of your aggregate QREs to your aggregate gross receipts during a particular historical period.

The traditional method can be complex, as it requires detailed historical data, which can be challenging for newer businesses. That's where the ASC method comes in, another type of R&D tax credit calculation.

Alternative Simplified Credit Method

The ASC method is a more straightforward way to calculate the R&D tax credit. To calculate the ASC, first, find your QREs for the past three years. Then, calculate 50% of the average QREs for those years. Subtract this value from the current year's QREs. Finally, multiply the result by 14% to get the ASC. If this sounds a bit too complicated, there are many R&D tax credit calculator websites around the internet you can use, as well as firms that provide full-service R&D tax credit solutions.  

Who Is Able to Claim the Credit?

The R&D tax credit is accessible to businesses of all sizes across various industries, as long as they engage in qualifying research activities as defined by the tax code. Read this blog on the US Chamber of Commerce’s website to learn more about qualification. Alternatively, the IRS provides numerous in-depth resources on all R&D-related topics on its official R&D credit webpage.

What’s Included and What’s Excluded?

The tax code for R&D is specific about what qualifies for the credit. In general, eligible expenses include wages for R&D staff, supplies used in research, contract research expenses, and certain costs associated with developing software for internal use. However, not all R&D expenses qualify. More information on R&D tax credit exclusions is available in this blog.

Beyond Innovation: Leveraging R&D for Financial Leverage

When it comes to R&D, it's not just about innovating, it’s about about maximizing the financial support available for your cutting-edge work. If you are thinking about maximizing your financial leverage with the R&D tax credit, we recommend reaching out to a specialized advisor, such as the team at Velo Advisers, that will guide you along each step of the process and ensure you get the highest credit possible.

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