Save Money With Tax Credits – Rea CPA

Save Money With Tax Credits

A Closer Look At Four Fantastic Business Tax Credits

You spend a lot of money to keep your business up and running. This is why, if an opportunity to save a little more of your hard-earned cash presents itself, you should take it. One way to keep more cash in your company’s coffers is to take advantage of tax credits.

Some tax credits are industry-specific while others can be explored by all businesses. Let’s dive into some tax credits that can be used to yield maximum tax savings.

1. Work Opportunity Tax Credit

The best way to determine if this credit applies to you is to include a short questionnaire in all new employee packets.

Are you deploying a strategy that helps people become self-sufficient members of the American workforce? Then you might consider the Work Opportunity Tax Credit (WOTC).

This two-year tax credit ranges from $2,400 to $9,600, depending on the employees you hire and the terms of their employment. For qualified summer youth employees, the credit is limited to a $1,200 credit based on maximum wages of $3,000, paid for services performed during any 90-day period between May 1 and Sept. 15.

Generally speaking, the WOTC is limited to eligible employees who begin working prior to Jan. 1, 2020, and is available on an elective basis for those who hire from one or more of the following groups:

  • Qualified members of families receiving assistance under the Temporary Assistance for Needy Families program
  • Qualified veterans
  • Qualified ex-felons
  • Designated community residents
  • Vocational rehabilitation referrals
  • Qualified summer youth employees
  • Qualified members of families in the Supplemental Nutritional Assistance Program
  • Qualified Supplemental Security Income recipients
  • Long-term family assistance recipients
  • Long-term unemployed individuals

Each qualified employee must complete at least 120 hours of service to be eligible for this credit. Additionally, certain relatives or employees who work more than 50 percent of their time outside of a trade or business of the employer (e.g., working as a maid in the employer’s home) will not be eligible. Moreover, the credit generally is not available for employees who may have worked for you in the past.

The best way to determine if this credit applies to you is to include a short questionnaire in all new employee packets.

There are some additional rules that, in limited circumstances, prohibit the credit or require an allocation of the credit. A CPA can provide additional insight and clarification.


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2. Research and Development Credit

Over the years, the R&D tax credit has been simplified making it more available to a variety of businesses, not just research expenditures incurred in a laboratory setting.

Since being made permanent in 2015, the Research and Development Credit (R&D Credit), continues to be a valuable tax credit for forward-thinking businesses. The statutory rules for this credit essentially provide for a tax credit equal to the sum of either:

  • 20 percent of the excess of the “qualified research expenses” (QREs) over the greater part of either:
    • 50 percent of the QRE, or
    • An amount based on a formula that takes account of the QREs and gross receipts in certain earlier tax years.
    • 20 percent of the excess of research payments paid to certain outside organizations over an amount calculated under a complex formula.
    • 20 percent of amounts paid or incurred to an energy research consortium for energy research.

This credit, in some limited situations, can now be applied against the taxpayer’s alternative minimum tax (AMT) liability and your portion of the Social Security payroll tax liability. Additionally, some states also have their own version of this credit.

Over the years, the R&D tax credit has been simplified making it more available to a variety of businesses, not just research expenditures incurred in a laboratory setting.

Initially, you must determine whether the following tests have been demonstrated:

  • Attempted to eliminate uncertainty
  • Experimentation was performed
  • Experimentation relied on the sciences of engineering, physics, chemistry, biology or computer science.
  • There was a qualified purpose for the research namely to create a new or improved product or process that will have measurable results.

The following are potential activities that may qualify for the R&D tax credit:

  • Testing of new concepts
  • Testing of new technology
  • Creating prototypes and models
  • Patent development
  • Creating or improving products, processes or formulas
  • Adding new equipment to a product line to improve a process
  • Streamlining a process
  • Developing new software
  • Initiatives on “going green” and improving the environment
  • Improving on existing concepts and designs (HVAC, lighting, electrical, etc.)

Example Calculation

The R&D credit is an incremental tax credit capped at 20 percent. And boy does it get technical.

For example, a basic calculation for an established entity with base period years of 1984-88 might be as follows:

Current year’s qualified expenses $100,000
1984-88 qualified research expenses $220,000
1984-88 aggregate gross receipts $1,000,000
Fixed base percentage (Line 2/Line 3) 22%
Lesser of fixed base percentage or 16% 16%
Average annual gross receipts for the previous four years. $500,000
Base amount (Line 5 multiplied by Line 6) $80.000
Greater of base amount or 50 percent of current qualified research expenses (greater of 50% multiplied by Line 1 or Line 7) $80,000
Excess of current year qualified research expenses over minimum base amount (Line 1 minus Line 8) $20,000
R&D credit equals Line 9 multiplied by 20% $4,000

Of course, additional rules apply if the calculation is being applied to a “startup” business or if the defined base period does not exist.

Fortunately, in lieu of this detailed calculation, there is an Alternative Simplified Credit, which equals 14 percent of the excess of current year qualified research expenses over 50 percent of the taxpayer’s average qualified research expenses for the prior three years. This would mean, for startup taxpayers, the credit would equal 6 percent of current year qualified research expenses.

Since the R&D credit is very technical in nature, and the computation is rather complicated, it’s important to work with a tax expert who regularly tackles R&D credits. In this way, you can ensure that you’ll receive the maximum benefit available.


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3. Business Energy Credit

Have you considered alternative energy sources to meet your energy needs and reduce costs? You might want to take a look at the Business Energy Credit. This credit is intended primarily for businesses that use alternative energy.

To be eligible for this credit, your business must:

  • Own or construct the energy-saving equipment.
  • Place it in service the year the credit is taken.
  • Ensure that the equipment meets specific performance and quality standards.

In addition to the cost savings associated with alternative energy, another favorable aspect of the credit is the possibility that, for the same property, the credit can sometimes be used in combination with other subsidies – like, for example, state tax credits or utility rebates.

In addition to the cost savings associated with alternative energy, another favorable aspect of the credit is the possibility that, for the same property, the credit can sometimes be used in combination with other subsidies – like, for example, state tax credits or utility rebates.

There are, however, restrictions to be aware of as well. For example, the credit is not available for property acquired with certain types of non-recourse financing. Additionally, for property for which the credit is allowable, the “basis” (that is, the “tax cost” for computing depreciation deductions and gain or loss on disposition) is reduced by 50 percent of the allowable credit.

4. Credit for Small Employer Pension Plan Startup Costs

Those starting a retirement plan can take a credit of up to $500 a year for each of the first three years of the plan.

Another opportunity to lower your tax bill is the Credit for Small Employer Pension Plan Startup Costs. This credit is available to companies that establish a retirement plan for their employees.

As of January 1, 2020, under the Setting Every Community Up for Retirement Enhancement (SECURE) Act, the amount of the tax credit available for the first three years of the plan is capped at $250 multiplied by the number of eligible employees (not including the owner), up to a $5,000 annual maximum – but never less than $500. The credit is designed to offset 50 percent of certain startup costs incurred in each of those years, including the expenses incurred by establishing and administering the plan, as well as the cost of any retirement planning education programs you sponsor for your employees. Additionally, if the new plan automatically enrolls employees, the employer will receive an additional annual credit for start-up costs $500 per year for three years. That’s a huge savings!

So, for example, let’s say a small business with 15 employees wants to establish a safe harbor 401(k) plan with automatic enrollment. If the out-of-pocket cost to the business to set up and manage the plan is $3,500 for the first year and $2,500 every year thereafter, the tax credit available to this employer would be $1,750 plus the $500 automatic enrollment incentive for a total credit of $2,250 for the first year. And the credit would be $1,250 for the next two years. In previous years, the credit would have been limited to $500.

Of course, any remaining plan cost after the tax credit is deductible as a normal business expense, which is the same as all plan contributions made by the business.

To qualify for this credit, you must:

  • Have no more than 100 employees who received at least $5,000 of compensation in the year before you start the plan (i.e., you can have more than 100 employees, as long as no more than 100 of them earned at least $5,000).
  • Have at least one plan participant must meet the definition of a “non-highly compensated employee”- or someone who makes $125,000 (as adjusted for inflation for 2019) or less a year and who is not an owner of the company.
  • Not have had a retirement plan in place during the three tax years directly before the year in which you started your current plan. (For example, if you had a plan that was terminated in 2015. you would have to wait until 2019 to start a new plan and qualify for the credit.)

Read Also: The Best Tax Deferral Opportunity Is A Retirement Plan

Don’t Miss Out On Tax Savings

Because tax credits are often misunderstood, they are not fully utilized by the business community as a whole. It’s true that tax credits can often involve special expertise and complicated calculations, but there are experts available to help you along the way. Reach out to your CPA today to learn more about the tax credits outlined here and to discover what other tax credits are available for your specific business.

By: Cindy Kula, CPA/PFS, CFP, Cleveland office


Looking for more tax savings insight to get you geared up for tax season? Check out this informative tax podcast from Rea tax guru Chris Axene!