At more than $12 billion annually, the research and development (R&D) tax credit is one of the biggest tax incentives available to businesses.
For wineries, the potential tax savings could be in the hundreds of thousands of dollars.
Yet many Northern California wineries are missing out. Some are unaware of the credit’s existence.
Even the wineries that are aware may not be taking full advantage of the credit. Wineries that fail to realize the maximum benefits of the R&D tax credit often do so because of a lack of understanding about what activities qualify as research, what expenditures qualify for the tax credit, and what documentation sufficiently supports their research.
Can you use this credit?
Understanding the tax code definition of qualified research is the starting point for any company looking to claim the credit.
Any company that encounters and resolves technological challenges may be eligible. That said, eligibility largely depends on whether the work being conducted meets the criteria established by the tax code’s four-part test:
1. Elimination of uncertainty. You must demonstrate that you’ve attempted to eliminate uncertainty about the development or improvement of a product or process.
2. Process of experimentation. You must demonstrate — through modeling, simulation, systematic trial and error, or other methods — that you’ve evaluated alternatives for achieving the desired result.
3. Technological in nature. The process of experimentation must rely on the hard sciences, such as engineering, physics, chemistry, biology and/or computer science.
4. Qualified purpose. The purpose of the research must be to create a new or improved product or process, resulting in increased performance, function, reliability or quality.
Documenting activities and expenses
Eligible expenses for the R&D tax credit are wages (as reported on Form W-2, box 1), supplies used in the research process, and contractor expenses that would be eligible if the same services were performed in-house.
After identifying qualified research, it’s critical to document the activities and demonstrate a connection between your qualified activities and your eligible expenses. The importance of this documentation cannot be overstated. Accurately tracking qualified activities and their related expenses can help your company realize the full benefit of the R&D tax credit.
Your company may already be documenting its R&D efforts, in which case it may just be a matter of improving the records you keep or making adjustments to your documentation processes to ensure that you capture the records necessary to properly support the tax credit.
Examples could include project notes, lab reports, emails or other documents that help demonstrate how your activities meet the four-part test.
Using the R&D tax credit
Companies that are not currently taxable should still take advantage of the R&D tax credit, since the federal credit can be carried back one year and forward 20 years. And many state R&D tax credit programs also have lengthy carry forward provisions.
Certain elections must be made on your tax returns, and it’s much easier to collect documentation and support for credits identified and claimed contemporaneously than to look back and do so historically.
Recently, the R&D credit was enhanced and made permanent.
One enhancement allows eligible small businesses to use their credits to offset the alternative minimum tax, and another allows qualified small businesses to use up to $250,000 in credits against their payroll taxes. Both enhancements are a windfall for companies and business owners who haven’t been able to use their credits in the past.
Travis Riley has provided research tax credit studies to companies claiming R&D credits since 2006. He is a leader in Moss Adams’ R&D practice in California, helping both companies and business owners save millions of dollars in taxes each year. He can be reached at 408-558-5769 or firstname.lastname@example.org.