Sean Yearout, Benjamin Dyches, DDS, JD, Alphonso Anderson, Esq., LL.M (Tax)
Summary
The R&D credit changed for 2022 tax filings by requiring the amortization of research expenses instead of treating them as an immediate deduction.
Background
Pre-2022 guidance (IRC Section 174i) allowed taxpayers to expense all research and experimental (R&E) expenditures immediately. Additional benefits were taken by electing the 21% reduction of the credit value defined in Section 280C(c). Beginning with 2022 filings, the Tax Cuts and Jobs Act (TCJA) removes the immediate expense option by requiring taxpayers to capitalize and amortize R&E expenditures. The required amortization is five years for domestic expenses and 15 years for foreign expenditures.
Example 1
A company qualifies for a $10,000 R&D credit based on $100,000 of R&E expenditures. Under pre-2022 guidance, this company would elect the 280C(c) approach to receive a reduced tax credit of $7,900 while maintaining a $21,000 deduction benefit based on the immediate expense of the $100,000 R&E expenditures.
Example 2
Under the proposed guidance, the same company would elect the $10,000 credit, but would only be able to expense these costs over 6 years using a mid-year convention:
2022 – $10,000
2023 – $20,000
2024 – $20,000
2025 – $20,000
2026 – $20,000
2027 – $10,000
Distributing these expenditures may result in year one net tax increase as the taxpayer is not able to immediately deduct $90,000 in expenses. The R&D credit swings back towards immediate benefit after year three as credit values stack against amortization schedules.
Does this change impact amendment and previous year tax credits?
No, credits earned prior to 2022 are not impacted by the new requirement. While the amendment option is open, savvy taxpayers may be able to capture unused credits and use them to offset any immediate detrimental effect of the 2022 requirements.
Does the R&D Credit make sense for my company under the Proposed Guidance?
While the immediate gratification of the credit is impacted, the long-term value of the credit is still there for most companies. However, companies that anticipate changing hands in the next three or four years may not see the benefit of the credit. Our experts are providing a no-cost analysis and a clear picture of benefits for clients to evaluate whether this credit is still a benefit.
The Future of the R&D Credit
The R&D tax applies to all businesses and there is bipartisan support to get this credit back on track. The National Association of Manufacturers said if the tax isn’t corrected, the U.S. “would lose 263,382 jobs and experience an $82.39 billion hit to GDP in 2023.” Sources indicate that this credit will be a significant area of discussion in January 2023. Hopefully, legislators correct this quickly and businesses of all sizes can rejoin their technological pursuits.
Our experts provide full tax advisory services, the R&D tax credit is only one of the many tools we use to help your business reduce its tax burden. If you are curious whether the R&D credit is a good fit or whether you have overpaid your taxes, reach out for a free tax review look back.