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Federal and State Research and Development Tax CreditsCGCPAJust

Federal and State Research and...
Federal and State Research and Development Tax Credits
CGCPA

Just to make sure I understand all the specifics with the state and federal research and development/experimentation tax credits, so I submit some examples to you. I will submit each scenario as a separate question as you experts may determine that they are quite different. When googling for r & d tax credit, the first US state that comes up with specifics is arizona, so we'll use that. It specifies a 24% credit above excess QREs...

Scenario 1:
A genius research scientist form a lab (S-Corp) in Arizona (in 2013) looking for the cure to all illnesses. He is the sole owner of the S-Corp and shares control of the lab with no one. He somehow manages to get contracts with a pharmaceutical, and he will produce $1.2M in revenue over the next year. He will need $200K of lab equipment. Since he controls his own salary, he decides to take $1M in salary, to maximize the research credit (of course he'll pay a bit for this with self-employment taxes). The rest of the profits ($0M) will flow through distributed equally (because of the pass-through of the S-Corp). Assuming no other personal deductions, and rounding off numbers for simplicity, let's assume AZ flax tax rate of 4% and fed flat tax rate of %35. All tax rates are personal tax rates (since S-Corp doesn't pay corporate taxes and all credits will pass-through).
Federal Tax = 35% of $1M = $350K
AZ Tax = 4% of $1M = $40K

Computation of the Federal R&E (Research and Experimentation) tax credit
The salary and equipment all qualify as research expenditures. This makes research expenditures to be equal to $1.2M. Also note: I've read that since this is the first year and there is no historical research expenditures to form a base amount, the QRE has a flat credit rate of 6%.
Federal R&E tax credit =
0.06 * $1.2M = $72K

Arizona R&D tax credit (requires regular research credit calculation) =
Current year's QREs will be: $1.2M
Initial Fixed Base Percentage will be 3%
Lesser or FBP or 16% = 3%
Multiplied by avg. annual gross receipts = Base Amount of $36K
Greater of base amount or %50 of current QRE = $600K
Excess of current QRE = $564K
Arizona tax credit for 2013 = 24% of excess QRE = ~$135K
Arizona tax credit refund (up to 75% of excess) = ($135K - $40K) * 0.75 = $67.5K

Summary
First of all, please correct me where I may have computed some of these things wrong.
The federal tax credit makes a little sense to me, since the tax rate is so high. However the state tax credit (for any research heavy organization) will likely wipe-out all state tax liability (if I have the computation right). Furthermore, the newer Arizona tax credit refund is where I truely believe I may be misunderstanding something. Is AZ really refunding up to $67.5K? If no equipment is needed, it seems like this program will subsidize the income of this genius... Perhaps I have something wrong here...I just want to make sure I have a solid grasp of these programs.
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Answered in 11 hours by:
3/31/2013
Lindie-mod
Category: Tax
Satisfied Customers: 5
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Hi, I am a moderator for this topic. I sent your requested Professional, CGCPA a message to follow up with you here, when they are back online. If I can help further, please let me know. Thank you for your continued patience.

Lindie

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Customer reply replied 4 years ago

Yes, I would like to wait for an answer. Perhaps during the week, CGCPA will have time to answer.


 


Thanks

Hi

Thank you for your continued patience.
Lindie
Ask Your Own Tax Question
CGCPA
CGCPA, CPA
Category: Tax
Satisfied Customers: 3,820
Experience: over 40 years experience in tax matters
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Welcome to Just Answer. I am here to help you resolve your tax and finance concerns. Please feel free to ask anytime you need extra help.

I see a few minor points in your work up:

The net income will be ($1.2M less equipment of $200k, less salary of $1M less payroll taxes ) If we assume for sake of simplicity that the payroll taxes and payroll will combine to $1M) then the net taxable income will be zero. The tax credit for R&D expenditures will be as you calculated but will carry through to the following year. To make them usable in the current year there would need to be a net income.

If you alter the amounts to achieve this then your analysis appears correct. The tax credits for R&D will pass through to the shareholder via Schedule K-1.

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Customer reply replied 4 years ago

Is this true as long as there is ANY net income? Can I alter the amounts to make the net income $1? Would the rest of my analysis be correct then?


 


Thanks for your help!

Yes to all of the items.

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