Everything Your Startup Needs to Know About R&D Tax Credits
If you’re a startup founder, you already have enough to worry about. Sometimes it’s keeping up with the dozens (if not hundreds) of Slack messages you get on a daily basis, how to clearly communicate your vision to potential investors so they’ll cut you check, or putting on your therapist hat to aid a struggling team member...or all the above at once!
Taxes are likely the last thing you want to think about. And familiarizing yourself with government incentive programs is even less likely to cross your mind.
Odds are, no one on your small team enjoys or has time to apply for tax credits, let alone want to submit paperwork every time new credits are added.
And we don’t blame you!
In fact, you’re not alone. More than 80% of startups are either completely unaware they are eligible for government sponsored tax credits or don’t have an easy way to get them.
But the truth is, these credits can save your startup thousands of dollars (no small potatoes for a scrappy startup), which can help extend runway, and overall ease the burden on your finances.
So here’s everything a startup should know about the R&D tax credit.
What are R&D Tax Credits?
The R&D tax credit is a government program that provides a tax incentive to U.S. companies spending their time and money developing and improving products and technologies.
Basically, it’s the government's way of encouraging US companies to continue innovating and building cool stuff.
In the past, big corporations had the upper hand over startups, but recent legislative changes made the credit much more accessible!
How Do I Know If My Startup Qualifies?
If you’re a startup that’s less than five years old, has less than $5 million in gross receipts, and you’re developing or improving upon technology or products, you’re typically a shoe in.
And it takes only about 5 minutes to pre-qualify.
But if you’re still a little unsure, you can ask yourself these questions:
Do you make something?
If your company is involved in software, manufacturing, life sciences, architecture, engineering, food, or construction, you may be eligible for the credit.
2. Does your product change over time?
Your new product or process doesn’t have to be new to the industry – just new to your startup. Businesses rarely make their products the exact same way, year after year. So if your startup conducts research to make your own products, software, or processes cleaner, greener, quicker, or cheaper, you may qualify for the credit.
If you answer “yes” to the two questions above, you might want to talk to a tax professional who is familiar with the R&D credit.
What Expenses Qualify?
Four types of expenses can be included in the credit calculation for your qualified projects:
US-based contractor expenses
Wages are usually the biggest component. Salaries paid to U.S.-based engineers, designers,as well as supervisors and supporting personnel are all qualified expenses. And a portion of payments made to U.S.-based contractors can also be eligible. Cloud expenses such as AWS or Heroku used for testing and staging environments qualify as well. Lastly, if you're in a space like hardware or CPG, supplies used or consumed in the development process, such as prototype materials can also qualify.
How Can They Benefit My Startup?
You have the potential to earn back up to 10% of what you spend developing products and technologies each year.
Say for example, you spent $100k on software engineering in 2020 W-2s. Through our R&D study process, we can get you back up to $10k in relief against your tax liabilities. If you spent $200k in W-2s, you can expect up to $20k back, and so on.
This can be used to offset payroll taxes, income taxes, or AMT (Alternative Minimum Tax), depending on certain characteristics of your company.
How Do I Apply For Them?
To claim the R&D tax credit now or in the future, a good starting point is to document potential projects, products, or processes that may qualify. After evaluating your company’s activities for eligibility, you can then begin tracking qualifying expenses and gathering documentation to support it.
It’s also a great idea to loop in your accountant. Most don’t offer R&D tax credit support, so it’s a good idea to find an R&D credit specialist who can help you map out an expense tracking and documentation process. Your accountant will still handle everything else for your tax filing -- think of them like a Quarterback and TaxTaker a part of your special teams.
Lastly, if you think your company might be performing work that qualifies for the R&D tax credit, don’t let the potential tax savings go unclaimed — and don’t be intimidated by preconceived notions of what R&D is or the IRS is like. This incentive was made for you, so get what you’re due.
Plus, if you’re willing to take a look, you could uncover sizable savings to reinvest in your startup! What’s better than free money?