Article
Inflation Reduction Act expands valuable R&D payroll tax credit
Oct. 9, 2022
When President Joe Biden signed the Inflation Reduction Act into law in August, most headlines covered the law’s climate change and healthcare provisions. However, the law also enhances an often overlooked federal tax break for qualifying small businesses.
The Inflation Reduction Act doubles the amount a qualified business can potentially claim as an R&D tax credit to offset its payroll tax for tax years starting after 2022 — to a maximum of $2.5 million over five years.
The credit allows a qualified business to leverage the substantial R&D tax benefit even if it has little to no income tax liability, potentially freeing up significant cash flow.
Pre-Inflation Reduction Act credit background
The Protecting Americans from Tax Hikes (PATH) Act created a permanent incentive for eligible start-up companies to pursue R&D activities within the United States. The Internal Revenue Code (IRC) Section 41 tax credit for qualifying in-house and contract research activities already existed, but early stage companies that hadn’t yet incurred income tax liability couldn’t take advantage of it.
The PATH Act revised the Section 41 credit to allow taxpayers to elect to apply up to $250,000 of the credit against their share of the Social Security, or FICA, tax for their employees, rather than against income tax. The revision became effective for tax years that began after Dec. 31, 2015.
Who is eligible?
The payroll tax election is available to taxpayers with gross receipts of less than $5 million for the tax year, and no gross receipts for any tax year more than five years prior to the end of the current tax year. The latter requirement essentially limits the payroll tax credit to start-up companies.
If the taxpayer had a tax year of less than 12 months, the gross receipts must be annualized for a full year.
Be aware that not all research is eligible. To qualify for the credit, the research must be:
Related sections
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