Misconception: The R&D Tax Credit Doesn't Apply to Unprofitable Companies

Misconception: The R&D Tax Credit Doesn't Apply to Unprofitable Companies

Posted by Jeffrey Feingold on 11.11.20

Can an unprofitable company claim the R&D Tax Credit?

If you are a company with qualified research and development work, the R&D tax credits apply to you. These credits can make a lot of difference in your company's bottom line.  They are some of the most lucrative tax credits available on both the federal and state levels. You can claim them even if you're unprofitable.   How can this happen? You may have a lot of questions in the back of your mind right now. Let's explore why an unprofitable company not only can claim this credit, but should claim it, and how this makes sense. If you are looking to improve the profitability of a startup or unprofitable business, contact a company that specializes in R&D Tax Credits, like Tax Point Advisors.  Claiming tax credits now and for any open tax years may save your company thousands of dollars with cash back or with future tax savings.

Is profitability one of the requirements for claiming the federal R&D Tax Credit?

A simple four-part test is used to determine qualified R&D activity:

  1. Do you create a product, process, technique, formula or invention to improve performance, functionality, reliability or cost?
  2. Is this activity technical in nature?
  3. Does this activity seek to eliminate technical uncertainty?
  4. Does this activity follow a process of experimentation?

Profitability of the company is NOT one of the requirements.

How can you take a tax credit on taxes you don't owe?

If you are unprofitable, you do not owe taxes. So why care about a tax credit.  Doesn't that seem like a waste of valuable company time and energy to document the research and development work that has been done to the level needed to claim the R&D tax credits? After all, you need everyone "heads-down" working to make sure that the company becomes profitable. Right? Since the R&D Tax Credit is a bottom line, dollar-for-dollar reduction of taxes owed, the tax owed becomes a negative number when the credit is subtracted from zero taxes owed.  How is it possible to do this? The would-be tax credit can be:

  • Banked for future tax savings
  • Used for a reduction of employment taxes in some states

Do these tax credits really make a difference for a startup company?

The R&D tax credit has helped tens of thousands of American companies succeed and create new jobs.  Less than half the R&D credit in recent years was taken by companies with revenue of under $1 billion. Although this credit isn't available right now to startups -- that are not yet profitable and don't have an income tax liability from which to subtract the credit -- it is money in the bank for their future. If the company becomes profitable in the next 20 years, they can use this credit. Some states allow the credit to be used against employment taxes if there is no income tax liability. States like Iowa, Arizona, New York, Connecticut, and Pennsylvania, help new companies get started and older unprofitable ones to keep the doors open by allowing the tax credits to be used against employment taxes. This gives our small businesses and innovators a chance for job creation and to strengthen our economy. Remember: the profitability of your business has nothing to do with your eligibility to claim the federal R&D tax credits. If you spent money on qualified research or development during the tax year, you are eligible for tax credits regardless of your bottom line.  You may qualify for money back or for a tax credit rolled forward for up to 20 years until you can use it. This much needed money can help your company become profitable.  It can help a start-up company that has huge expenses at the beginning.  It can take an unprofitable company and move it to be solidly profitable again.

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