Startups now have access to a new form of non-dilutive capital.
The research and development (R&D) tax credit was established in the early 1980s as an incentive to stimulate growth in the US economy. But due to the fact it was an income tax credit, it saw little use by pre-revenue startups.
In late 2015, the federal government changed the rules about how companies could claim the R&D tax credit. Early-stage companies can now take advantage of this lucrative incentive, up to $250k per year, that traditionally only went to the big guys.
Still, many startups don’t understand they’re eligible to claim the R&D credit and continue to miss out on money they’ve already earned. At Clarus R+D, we talk to entrepreneurs every day and we’ve heard it all. Here are the top reasons startups are missing this non-dilutive funding opportunity.
1. It sounds too good to be true.
Entrepreneurs expect to work hard for funding, so they can initially be skeptical about this benefit they’ve actually already earned. The R&D tax credit is a legitimate government program that rewards investments in innovation.
2. I’m not earning any revenue so I didn’t think I qualified for the R&D credit.
Companies don’t need revenue to claim the credit, and don’t need to be paying income tax. The credit can be taken as a payroll tax offset, up to $250K per year, by qualified small businesses. You are considered a qualified small business if you have less than $5 million gross revenue in 2017 (i.e., the credit year), plus no gross receipts prior to 2013 (i.e., five-years prior to the credit year).
3. I don’t have any employees so I didn’t think I could take the R&D credit.
Although wages are typically the biggest component of the credit calculation, contracted costs and supplies are also eligible. If you take the R&D credit as a payroll tax offset, but have no payroll, the credit can be carried forward to the next quarterly return. The credit doesn’t expire and continues to be available until it can be fully used against payroll tax.
4. I’m not a qualified small business so I didn’t think I could claim the R&D credit.
While only qualified startups can take the R&D credit against payroll tax, other companies can take it against income tax. This benefit can then be carried forward for a period of 20 years. Credits generated in net loss years can be recorded as Deferred Tax Assets, enhancing your balance sheet and making your company more attractive to potential acquirers.
5. I might not do R&D work.
There are many different industries and products that qualify for this credit where development activities pass a four part test. Most technology startups, including software companies, qualify.
6. My work wasn’t incorporated into my end product so I didn’t think it qualified.
The work does not need to be successful to qualify. If you spent time and money working in a certain direction then needed to change, that effort still qualifies.
7. I already filed my 2017 taxes so I thought it was too late to claim the R&D credit.
Although it’s too late the claim the credit as a payroll tax offset, companies can amend their returns to monetize it as an income tax credit—and can even consider performing a ‘look back’ (up to 3 years) to capture unclaimed tax credits.
8. I thought the cost of an R&D study wouldn’t be worth the benefit.
The concept of an R&D tax credit is simple. The government wants to reward you for investing in innovation. While the concept is simple, a traditional R&D tax study is notoriously complex. The challenge is getting it done right for a reasonable effort and cost. The Clarus R+D platform streamlines and automates the process of claiming the R&D tax credit.
If you’ve never claimed the R&D tax credit, it’s time to reconsider. Move past any skepticism or misconceptions and use this financial benefit as a meaningful way to fuel your company’s growth.
The R&D tax credit must be submitted with your annual business tax return. As the taxpayer, you are required to keep documentation showing that your work meets the criteria to qualify for the credit, and that your credit was calculated from your related qualifying costs. Because the IRS continues to see misuse of this credit, it’s important to have solid documentation on hand in case of an audit. Clarus R+D specializes in helping startups with the R&D tax credit—ensuring compliance, simplifying the process, maximizing the benefit, partnering with your tax preparer, and integrating with your payroll provider for easy monetization.
About Clarus R&D
Clarus R+D is the brainchild of long-time tax CPA Brent Johnson (who understood the value of R&D tax credits) and serial tech entrepreneur Jeff Haskett (who knew how to tailor the process for startups). Together they’ve helped 150+ early-stage companies monetize over $10MM in tax credits.
This article is intended for informational purposes only, and doesn't constitute tax, accounting, or legal advice. Everyone's situation is different! For advice in light of your unique circumstances, consult a tax advisor, accountant, or lawyer.