Demystifying Exclusions in R&D Tax Credit Calculations

The business tax credit for research and development is a specific form of federal tax credit that can be used by organizations to save money on their taxes. The credit applies to specific activities and expenses related to research and development, and is used by countless businesses across the US to minimize federal tax obligations. A more detailed overview is available on the IRS research credit webpage.  

R&D tax credits serve as a prevalent means for US-based companies to reduce their taxable income. However, to fully capitalize on the benefits provided by these credits, organizations must adhere to a host of regulations and fulfill specific requirements. Additional insights into the credit, as well as more info on how to calculate R&D tax credits, are available on our other R&D tax credit blog.

Research and Development Tax Credit Example Exclusions  

Here is a list of common activities that do not meet R&D tax credit qualifications:

• Administrative and managerial tasks: Improving non-technical aspects of a business, such as budgeting and organization, does not qualify for R&D tax credits. While these tasks may involve research, they focus more on non-technical functions and do not satisfy the IRS' four-part test.
• Foreign research activities: To be eligible for R&D tax credits, companies must carry out their research and development within the U.S. or its territories. R&D conducted outside of the U.S. is not considered a qualified research activity (QRA) by the IRS.
• Purely aesthetic alterations: Changes to a product's appearance that are solely cosmetic, such as modifying its color or design, are not eligible for R&D tax credits. If the modification requires technological advancements, that specific activity may qualify.
• Equipment or process troubleshooting: Regular troubleshooting to identify errors or faults in a product and quality control inspections are not considered QRAs. These tasks primarily aim to ensure a product's proper functioning rather than improving it.
• Non-technical research activities: Non-technical endeavors, including market research, surveys, and data collection, are ineligible for R&D tax credits, as they do not fulfill the IRS' technical criteria for such credits.
• Replicating prior projects: Carrying out projects that are identical to those previously completed does not qualify for R&D tax credits.
• Activities not meeting the four-part test: If your company's activity raises doubts about its eligibility for R&D tax credits, verify whether it complies with the IRS' four-part test. Activities that fail to meet all test criteria are not eligible for R&D tax credit claims.

Wrapping It Up

While R&D tax credits can provide substantial savings for businesses, it's crucial to know the exclusions and qualifications. If your company is considering claiming R&D tax credits and is still unsure how to calculate R&D tax credits with accuracy, we recommend consulting with a tax professional to ensure you take full advantage of the credit and adhere to the proper guidelines.