If you read our earlier blog post, How Do I Calculate the (R&D) Research Credit, you probably are aware of the formula used to calculate your qualified research expenses in order to claim the credit. If you didn’t have the chance to read it, I encourage you to do so as it will provide a solid foundation for calculating the R&D credit.
If I scared you away with the term “formula” — don’t be alarmed! The “formula” is rather easy, considering you most likely have access to the documents needed like payroll documentation, calendars, and other bookkeeping items. A little addition and multiplying won’t hurt you! Especially if it means qualifying for a tax credit!
According to chapter 5 of the IRS Audit Techniques Guide: Credit for Increasing Research Activities (the Bible of the R&D Tax Credit), QREs are the sum of in-house research expenses and contract research expenses. To break it down further:
In-house research expenses
- Wages: the amount paid to employees who performed “qualified services” (ie. W2 employees)
- Supplies: the amount paid for supplies used to perform “qualified research”
- Computers: the cost of renting computers
Contract research expenses
- Equates to 65% of the amount paid or incurred by the taxpayer to outside vendors and contractor (1099, typically)
For the sake of this blog post, we’re going to focus specifically on the first and most important category: qualified labor, otherwise known as wages. Now keep in mind this simply isn’t 100% of the qualified employee’s W2, but rather the portion of their time on the job performing qualified research activities. For a full description of how to determine qualified research activities, check out the blog post, Qualified Research Activities.
Qualified labor includes:
- Partaking in qualified research (ie. the chemist)
- Directly supervising the qualified research (ie. the chemist’s boss who’s working on with the chemist on the experiment)
- Note that the chemist’s boss’ boss doesn’t count
- Directly supporting qualified research (ie. the chemist’s assistant washing the beakers)
- Administrative or general support doesn’t count (ie. although the chemist’s admin assistant works for the chemist, their work is not directly correlated to the qualified research)
According to chapter 5 of the IRS ATG, these wages specifically include, “all taxable wages as reported on Form W-2, including bonuses and stock option redemptions. It does not include amounts that are not subject to withholding, such as certain fringe benefits or non-taxed income, even if paid for research services performed by an employee.”
Now that you have a better understanding of what qualified labor entails, always keep in mind that it is important to first identify which employees are eligible for the credit and then calculate their QREs. To better help you, we created an infographic that breaks down how to Calculate the R&D Tax Credit.
Ready to calculate the R&D Tax Credit? It all starts with the Form 6765. Click on the below button to get started!
(don’t worry we won’t spam you).