On December 18, 2015, Congress passed an extenders package called the Protecting Americans from Tax Hikes Act of 2015 (the PATH Act). The new law makes the research and development (R&D) tax credit permanent, retroactively to January 1, 2015, and preserves both the regular credit and the alternative simplified credit. This allows taxpayers to compare which method is best. In addition, the law makes two key enhancements for using the credit targeted to small businesses.
Enhancements for Small Businesses
Small businesses that couldn’t use the credit in the past can now use the credit against AMT and the employer portion of payroll tax.
Credits can be used against AMT
Many small businesses that have passed on the R&D tax credit because they couldn’t use the credit can now use it against the AMT starting in 2016. Eligible small businesses are non-publically traded companies with less than $50 million in sales averaged over the prior three years. The PATH Act removes a longstanding road block that prevented small businesses from using the R&D tax credit. Small businesses, especially pass-through entities, should reconsider this credit in 2016.
Credits can be used to offset employer payroll tax
Many small businesses still in start-up mode don’t have any tax liability so filing for the R&D tax credit did not make sense. That also has changed. Starting in 2016, qualified small businesses can use the credit against the employer portion of payroll tax up to $250,000 per year. A qualified small business is a corporation or partnership with sales for the tax year of less than $5 million, and no sales for any of the tax years preceding the five tax year period ending with the tax year. Put simply, a taxpayer making this election in 2016 cannot have had any sales in a year prior to 2012.
A small business that is not a corporation (sole proprietor) would take into account all sales in carrying on all its trades or businesses. Companies can claim the credit against their payroll tax for no more than five tax years. This provision is aimed at small businesses still in their start-up phase by giving them a break on payroll tax.