The NYC CPAs at MEDOWS CPA, PLLC provide the following overview of the impact of the Protecting Americans from Tax Hikes (PATH) Act of 2015 modifies and makes permanent the credit for increasing research activities (research credit). The PATH Act also adds the research credit to the list of general business credit components designated as “specified credits” that may offset alternative minimum tax as well as regular tax, effective for tax years beginning after December 31, 2015. In addition, a qualifying small business may make an election to apply a specified amount of its research credit for the tax year against the 6.2% payroll tax imposed on the wages that it pays to its employees. Our lower Manhattan CPAs can assist you in understanding how these changes may affect your business.
Background. When it was first enacted in 1981, the research credit was to terminate after four and a half years. However, it has been extended several times over the years, and was allowed to expire at one point without a retroactive extension back to the prior termination date. The latest extension applied to any amounts paid or incurred for qualified research and experimentation before January 1, 2015. Manufacturing associations lobbied to make the credit permanent. In making long-term plans for research projects, they can now be assured that the tax incentive will continue to be available.
Research credit. The research credit was provided to encourage taxpayers to increase their research expenditures and is the sum of the following three components:
- 20 percent of the excess of qualified research expenses for the current tax year over a base period amount;
- 20 percent for basic research payments to a university (or other qualified organization) in excess of a qualified organization base period amount (available only to C corporations); and
- 20 percent of the amounts paid or incurred by a taxpayer in carrying on any trade or business to an energy research consortium for qualified energy research.
Alternative simplified credit. Taxpayers may elect an alternative method to calculate the research credit amount using an alternative simplified credit. Under the alternative simplified credit method, a taxpayer can claim an amount equal to 14 percent of the amount by which the qualified research expenses exceed 50 percent of the average qualified research expenses for the three preceding tax years. If the taxpayer has no qualified research expenses for any of the preceding three years, then the credit is equal to six percent of the qualified research expenses for the current tax year. If the taxpayer makes the election to use the alternative simplified credit method, the election is effective for succeeding tax years unless revoked with the consent of the IRS. Our NYC CPA firm can help you determine how this alternative simplified credit may impact your taxes in NYC and New York State.
Payroll Tax Credit for Research Expenditures
For tax years beginning after December 31, 2015, a taxpayer that is a “qualified small business” during a tax year may elect to apply a portion of its research credit against the 6.2 percent payroll tax imposed on the employer’s wage payments to employees.
The payroll tax credit portion of the research credit is equal to smallest of the following:
- An amount, not to exceed $250,000, specified by the taxpayer in its election to claim the credit;
- The research credit determined for the tax year (determined without regard to the election made for the tax year); or
- In the case of a qualified small business other than a partnership or S corporation, the amount of the business credit carryforward under Code Sec. 39 from the tax year of the election (determined without regard to the election made for the tax year)
Comment From Our NYC CPA Firm
Under Code Sec. 39, an unused general business credit, of which the research credit is a part, may be carried back one year and forward for twenty years. The payroll tax credit portion of the research credit for a tax year may not exceed the amount of the general business credit that may be carried forward after carryback, determined as if the election to claim the payroll tax credit had not been made. This means a taxpayer must first apply its general business credit, including research credit, against regular tax liability and, for component credits of the general business credit that are specified credits, including the research credit, against alternative minimum tax liability. An excess is carried back one tax year. The payroll credit is limited to the amount that remains available for carryforward after carryback.
The payroll tax credit portion may only be applied against the taxpayer’s 6.2 percent share of payroll tax liabilities and may be carried forward indefinitely against future liabilities if necessary, as explained below. Any payroll tax credit that is unused in a tax year may not be treated as a general business credit that may be carried carryforward and applied against regular and minimum tax liabilities in future tax years.
A taxpayer has a $35,000 general business credit in 2016, which includes a $25,000 research credit computed without regard to the payroll tax credit. The taxpayer’s regular tax liability in 2016 is $15,000 and it has no alternative minimum tax liability. The taxpayer’s 2015 tax liability was $5,000 and it had no alternative minimum tax liability in that year. After offsetting 2016 and 2015 tax liability, the taxpayer has a $15,000 general business credit carryforward to 2017 without regard to the election to claim a payroll tax credit. The maximum payroll tax credit that may be claimed in 2016 is $15,000 since this amount is less than $250,000 and the $25,000 research credit determined for the year of election without regard to the payroll tax credit.
The election may be made six times (i.e., for any six tax years). In determining the number of times that the election has been made, elections made by any other person treated as a single taxpayer with the taxpayer are taken into account.
Qualified small business defined. A partnership or corporation (including an S corporation) is a qualified small business during a tax year if its gross receipts are less than $5 million and the partnership or corporation did not have gross receipts in any tax year preceding the five-tax-year period that ends with the tax year of the election.
A taxpayer other than a partnership or a corporation, e.g., an individual, is also a qualified small business during a tax year if the taxpayer’s gross receipts for the election year are less than $5 million and it had no gross receipts in any tax year preceding the five-tax-year period that ends with the tax year of the election. Gross receipts for this purpose are determined by taking into account gross receipts received by the taxpayer in carrying on all of its trades or businesses. An organization exempt from tax under Code Sec. 501 is excluded from the definition of a qualified small business.
Election procedure. The election must specify the amount of the research credit to which the election applies. The election deadline is on or before the due date (including extensions) of the qualified small business’s income tax return or information return and may only be revoked with IRS consent. In the case of a partnership or S corporation the election is made at the entity level.
Claiming the credit. A qualified small business taxpayer making the payroll tax credit election claims a credit against its payroll tax liability for the first calendar quarter which begins after the date on which the taxpayer files its income tax return for the tax year of the election. Deductions allowed for payroll taxes are not reduced by the amount of the payroll tax credit
Comment From Our NYC CPA Firm
The payroll tax credit applies to tax years beginning after December 31, 2015. The credit, therefore, may be claimed against the payroll tax liability for the first quarter beginning after the date on which taxpayer’s 2016 return is filed (e.g., July – September 2017 quarter for a calendar year individual filing 2016 Form 1040 on the April 15, 2017 deadline).
The IRS is expected to release additional guidance on aggregation rules; recapturing the benefit of the payroll credit if there is a later adjustment; and efforts to minimize compliance and record-keeping. If you are interested in claiming the research credit, we would like to discuss the requirements with you in greater detail. Please contact our NYC CPA office at your earliest convenience to arrange an appointment.