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New, Improved Research and Development (R&D) Credits Available

Since 1981, a research tax credit has been available to encourage R&D activities in the U. S. Although the credit has been extended 11 times, it has never been made permanent. 

In 1996, the alternative incremental research credit was enacted. The Tax Relief and Health Care Act of 2006 extended the R&D credit once again and provides for a new clarification method. Whereas the general credit and alternative incremental credit use gross receipts to determine a base amount, the new simplified credit does not.

What R&D credit options are available?

When claiming the credit for R&D expenses, taxpayers can choose from three methods:

• Regular credit-20% of a taxpayer's qualified research expenses (QRE) over a base amount of credit rates. To receive any credit, the taxpayer must have current year QRE greater than 1% of its average annual gross receipts.
• Alternative Incremental Credit-calculated using a sliding scale
• Alternative Simplified Credit-discussed below

Each method varies based on the past and present financial situation of the company, the economy itself and, of course, R&D expenses. 

Alternative Simplified Credit focuses on qualified research expenses 

The new alternative simplified credit is available for tax years ending after Dec. 31, 2006. If you could not claim the regular credit in previous years due to high gross receipts or a high fixed base percentage, you might be able to benefit from this new credit, which focuses on QRE.

To determine the alternative simplified credit:

1. Calculate the average QRE for the last three tax years.
2. Multiply the average QRE by 50%.
3. Determine the excess of current year QRE over the amount calculated in step 2.
4. Multiply the overage in step 3 by 12%

What are the benefits of the Alternative Simplified Credit?

• Available if R&D spending varies from year to year
• Still eligible if gross receipts have recently been high
• No computation of fixed base percentage
• QRE and gross receipts from 1984-1988 not required
• Prior-year gross receipts not required
• Start up companies eligible for credit
• Companies with no average QRE allowed 6% credit of current QRE
• Maximum 12% credit available for most taxpayers

R&D burden of proof is on you 

The burden of proof for the research and development credit lies with the taxpayer. The IRS closely analyzes research credit claims, so it is important to keep good records and document all research activity (including employee time spent) and expenses. This might be the most time-consuming and difficult part of claiming the credit. However, it is strongly advised.

An election for the alternative simplified credit is effective for all succeeding tax years unless revoked with the consent of the IRS. The election process can be complicated; please take care when determining the best method for your business. 

Currently, the R&D credit (all three methods) is temporary and scheduled to expire on Dec. 31, 2007. Although extensions to the expiration date and other changes are constantly being discussed by Congress. Blackman Kallick will keep you up-to-date on new developments.

Need help determining the best R&D credit method for your business? Contact Diane D'Aversa at 312-980-3222 or your Blackman Kallick representative.

This publication is part of Blackman Kallick’s marketing of professional services, and is not written tax advice directed at the specific facts and circumstances of any person and/or entity. Contents of this publication are of a general nature, and you should not act on this information without obtaining professional advice from your business advisor that is appropriately tailored to your individual needs and circumstances. This written advice is not intended or written to be used, and cannot be used by any taxpayer, for the purpose of avoiding penalties that may be imposed under the Internal Revenue Code.