Original air date: Dec. 6, 2017 Rebroadcast and recording info at http://www.mhmcpa.com The research and experimentation credit recently was enhanced to give small businesses greater access to its benefits. Eligible small businesses can now elect to offset their liability for AMT or payroll tax with research credits, where many payroll tax returns filed in the fourth quarter of 2017 will first see these credit claims. As we explore many of the activities that qualify small businesses to the research credit, we will also review the eligibility criteria for the payroll tax offset, as well as the manner in which the payroll tax offset works for employers using PEOs to lease employees.

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CBIZ & MHM
Executive Education Series™
Opportunities to Offset Payroll Tax
Liabilities with Research and
Experimentation Credits
Presenter: Raj Rajan
December 6 and 13, 2017

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About Us
• Together, CBIZ & MHM are a Top Ten accounting provider
• Offices in most major markets
• Tax, audit and attest and advisory services
• Over 2,900 professionals nationwide
A member of Kreston International
A global network of independent
accounting firms
MHM (Mayer Hoffman McCann P.C.) is an independent CPA firm that provides audit, review and attest services, and works closely with CBIZ, a business consulting,
tax and financial services provider. CBIZ and MHM are members of Kreston International Limited, a global network of independent accounting firms.

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Disclaimer
The information in this Executive Education Series
course is a brief summary and may not include all
the details relevant to your situation.
Please contact your service provider to further
discuss the impact on your business.

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Raj Rajan is a Managing Director at CBIZ MHM, LLC. He is currently the
national technical lead for the firm with regards to all research &
experimentation tax credit services. He has been primarily focused on
the R&D tax credit for twelve years and has led more than 500 research
credit studies for numerous companies in a variety of different industries
including aerospace, agriculture, construction, food manufacturing, job
shops, injection molding, life science and computer science.
949.727.1327 • rrajan@cbiz.com
RAJ RAJAN, JD MBT
Managing Director
Presenter

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Agenda
History of R&D Credit
02
01
03
04
R&D Credit Basics
IRS Concerns
Questions

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HISTORY OF R&D CREDIT

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History of R&D Credit
 The R&D tax credit was established in 1981 to:
 Encourage innovation,
 Drive technological advancements,
 Stimulate economic growth, and
 Improve global competitiveness in the United
States
 Designed to encourage businesses to increase
their investment in research in the United
States
 Changes to definition of qualifying “Research
and Development” have enhanced credit over
the years
 “Qualified R&D Expenses” are different for GAAP,
Tax Deduction, and/or Tax Credit purposes
 Expired in 1985 and extended 16 times until
made permanent in December 2015

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History of R&D Credit – Sample of Applicable Industries
• Food Manufacturer
• Lighting Products
• Office Furniture
• Fitness Products
• HR Software
• Cosmetic (private label
manufacturer)
• Injection Molding
• Architecture
• Signage
• Agriculture
• Educational Equipment
• Home Goods
• Ornamental Iron
Manufacturer
• Wholesale Bakery
• Nutritional Supplements
(private label manufacturer)
• Ceramic Fabricator
• Packaging

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Recent History of R&D Credit
PATH Act
Protecting Americans from Tax
Hikes
December 2015
Big Headlines: Bonus depreciation,
§179 Deduction, various
international items
Small headline: R&D Expansion

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Recent History of R&D Credit
Dirty Dozen List
IRS list of 12 ‘tax related scams’
February 2016 and 2017
Usual suspects include offshore tax
avoidance & falsely padding
deductions
R&D Credit makes the list for the
first time

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PATH Act vs. Dirty Dozen

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R&D CREDIT BASICS

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R&D Credit Basics – In General
Credit against Tax Due
Federal credit is 20% of
qualified costs over baseline
Average net benefit range is
between 4% to 7% for every
qualified dollar spent on R&D
Various States add to the net
benefit.

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R&D Credit Basics – Considerations
Different methods of
calculation
• Traditional Method
• Alternative Simplified Method
R&D for state purposes
• Not just a federal incentive
Carryover is allowed
• Federal R&D Credit carried
back 1 and carried forward 20
years

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R&D Credit Basics – PATH Act
 R&D Credit is now
permanent
 R&D Credit used against the
Alternative Minimum Tax
(AMT)
 Gross receipts under $50
million
 Applies to C-Corps, S-
Corps, LLC, etc.

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R&D Credit Basics – PATH Act – Start-Up Companies
R&D used against Payroll
Tax
 Under $5 million in
current revenue
 Must be pre-revenue or
have less than 5 years of
revenue.
 $250,000 in credits
maximum per year

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R&D Credit Basics – PATH Act – Start-Up Companies
R&D used against Payroll
Tax
 Offsets 6.2% Corporate owed
Social Security tax (OASDI)
 Available to C-Corps and Pass-
throughs (election made at the
corporate level)
 Timely filed election on Tax Return
Form 6765
o Opportunity to amend to elect
for 2016 but must do so by
12/31

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Credit Benefit Example
Company X has 25 Employees, $3 million Gross Receipts, and Founded in 2013
 2 Engineers - $95k in salary each, over 80% of their time in qualified development
activities (QRE: $190k)
 4 Other Eng. Dept. Employees – (CAD, Sustaining Engineer, etc) –Average $65k in Salary
each, 70% of their time in qualified development activities. (QRE: $182k)
 1 CEO -$200k in salary, 1 day a week (20%) in development (identifying functionalities,
directly supervising/supporting development, etc) (QRE: $40k)
 2 QC/QA Employees – $48k in salary, 25% of their time testing/ supporting
development (QRE: $24k)
 5 employees(1 shop, 3 production, and 1 assembly) - $40k in salary each, 10% of time
directly supporting with tooling design, testing, processes, prototypes. (QRE: $20k)
 $29k in prototype supply costs
 $40k to Outside Contractor for development assistance (QRE: $26k)
 TOTAL QREs: $511k
 TOTAL GROSS CREDITS USED AGAINST PAYROLL TAX DUE: $51k

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R&D Credit Basics – PATH Act – Start-Up Companies
 R&D used against Payroll Tax
 Credit available to use against Payroll tax
in the first quarter after the quarter in
which the tax return/payroll election is
made
 Elected amount made on Form 6765 is
then placed on new Payroll Form 8974.
 Compares credit and Corporate OASDI
amount available for the quarter.
 Excess credit amount carried forward
to next quarter
 Available credit amount used on
quarterly payroll form 941
 Form 8974 filed with form 941
 Using Professional Employment
Organizations (PEO)

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IRS Concern – Do you meet the 4 part test?
IV. Process of Experimentation
Substantially all of the activities
must be elements of a process of
experimentation to resolve the
technical uncertainty.
II. Technological in Nature
The activity performed must
fundamentally rely on the hard
sciences of:
 Physical Science
 Biological Science
 Computer Science
 Engineering
III. Technical Uncertainty
There must be uncertainty
concerning the capability to develop,
method of developing, or appropriate
design of a new or improved product
or process at the outset of the
project.
I. New or Improved Business
Component
The activity must relate to a new or
improved product or process that
improves the component’s:
 Function
 Performance
 Reliability
 Quality

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The Research Process: Qualifying Activities
Product
New Product Development
Product Enhancements
Product Improvements
Process
New Manufacturing Systems
New Production Equipment
Production Changes
Concept
Product or Process
Research and Development Activities
Design/Engineering
Innovation/Experimentation
Prototyping and Testing
Finished Product or Process Released to
Production
Domestic Outsourcing
Design
Fabrication/Prototyping
Manufacturing
Foreign Outsourcing
Design
Fabrication/Prototyping
Manufacturing

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IRS CONCERNS

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IRS Concern – Qualified Costs
Wages
 Wages of employees directly engaged in
the research or that provide direct
supervision or support of research.
Supplies
 Qualifying supply costs are generally
consumed in the performance of the
research activities.
Outside Services
 65% of outside costs are eligible for credit,
including outside consultants, software
programmers, engineers, etc.

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IRS Concern – Costs That Do Not Qualify
Nonqualified Expenses
 Efficiency surveys or consumer surveys
 Acquisition of another’s patent, model,
production or process
 Funded research (i.e. by grant, contract or
other)
 Research performed outside the United
States
 Activities not directed at functional aspects
of the product (typically, this includes
expenses related to style, taste, cosmetics,
etc.)

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IRS Concern – We Have a Blueprint!
Agents must now adhere to the
following guidelines:
I. IRS Industry Directives and
Guidelines
II. R&D Audit Technique Guide
III. Notice 2002-44
IV.Use of R&D Technical Advisors

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IRS Concern – How Will They Audit You?
The IRS will look for documentation and
substantiation in four areas:
I. High Level Estimates
II. Biased judgement samples
III. Lack of nexus between business component
and qualified research expense
IV. Inadequate contemporaneous
documentation

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IRS Concern – How Will They Audit You?
 IRS Continually Working to Standardize Credit
Auditing Process
 Recognizes that many CPAs making claims do not
have the expertise leading to material errors
 Also recognizes contingency agreements can
create incentive for providers to push aggressive
claim positions
 Continuing to hire professionals with Hard Science
(Engineering, Computer Science) backgrounds for
audits
 State audits tend to differ from IRS audits as the State
auditors generally will not specialize in R&D credits
 Can take significantly longer
 Can be more financial audit of the credit than a
technical audit

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IRS Concern – How Will They Audit You?
Potential remedies to combat Nexus issues and to
document and substantiate credits:
 Project Narratives
 Employee Interviews and Participation in credit claim
assessments
• Minimize “high level assessments”
 Establish Procedures and Tools for Capturing and Maximizing
Future Credits
 Revisit Fixed Base Percentage determination
 Have researchers/client personnel spend time documenting how
they arrived at the R&D percentage qualifications used in
determining the qualified research expenses
 Break out time into appropriate categories—by person.

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IRS Concern – Recent Court Rulings & Legislation
 Many court cases over past 7 years
 Most decided in favor of taxpayer
 Some areas where cases provided
guidance:
 Level of documentation
 Supplies expense and depreciable
items
 CEO’s salary
 New Internal Use Software
Regulation

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Key Takeaways
PATH Act
Huge expansion of R&D availability
but also added to Dirty Dozen List
Strategy
Even if an entity has been taken the
credit for a number of years, may be
time to review strategy
Audit Techniques
Getting more and more clear on
how the IRS will audit you, so
substantiating claim is critical

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?
QUESTIONS

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If You Enjoyed This Webinar…
Upcoming Courses:
• 12/7: Individual Year-End Tax Planning Tips for 2017 and Beyond
• 12/14: Critical Disclosures – New Revenue Recognition Requirements
• 12/21 & 12/28: Fourth Quarter Accounting and Financial Reporting Issues Update
Recent Publications:
• Check the CRS: How Investment Funds Can Prepare for Common Reporting
Standard
• Evolving ERM: New Framework Provides Updated Guidance for Risk
Management
• Economics Lesson: 3 Mistakes to Avoid Leaving State Incentive Money on the
Table

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CBIZ & Mayer Hoffman McCann P.C.
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