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Invoice wise for Research and Development

hello everyone and welcome thank you for joining us for today's webinar the Deep dive into the research and development credit my name is Kristen beerer I'm the director of marketing at Wagner CPAs and I am thrilled to have you all here with us before we get started uh just a cover couple of quick housekeeping items first please note that the webinar is being recorded and a link to the recording along with the slide deck will be sent to you after the event if you have any questions during the presentation feel free to use the Q&A feature at the bottom of your screen we won't have time to answer questions during the presentation today but Sarah will be following up via email to address as many of your questions as possible her email address will also be included in the slide deck that you'll be receiving with the recording if you encounter any technical issues today reach out via the chat and all do as best I can today we're joined by Sarah Brown a manager at Wagner CPAs Sarah has extensive experience helping clients navigate tax credits including the R&D credit and we're excited to have her share her expertise with us today so without further Ado please join me in welcoming Sarah Brown Sarah the floor is yours awesome thank you so much I'm very excited to talk about the R&D credit it's just been a lot of talk um recently and we have some new forms coming out and with Section 174 uh it's always a Hot Topic uh so here is a quick agenda of what we're going to all discuss today so we'll really briefly get into the history of the R&D credit we'll talk about what it means to qualify for the credit documentations calculating the credit and then like I mentioned uh there is a proposed new form uh 6765 so we'll briefly touch on that and then also briefly at the end if we've got time we'll talk about where is Section 174 sitting right now all right so let's jump in we are going to start off just discussing the history so the credit was originally introduced as part of the economic recovery Tax Act of 1981 it was intention the intention was to encourage investment in the United States there were foreign governments that were starting to incentivize those foreign companies uh with certain credits and whatnot for researching so American lawmakers in the late 70s early 80s or thinking hey we got to get this in the United States so that was enacted in 1981 with an original expiration date of 1985 which it's still here now so we know things have changed since then it's been expired eight times extended 15 times and it was officially made permanent in 2015 under the pat act and that's where current ly is sitting um it is officially known as the credit for increasing research activities so we for short say the R&D credit throughout this webinar I'll say the R&D credit but the official name is credit for increasing research activities it is a general business credit under Section 41 of the Internal Revenue code a dollar Ford dooll reduction uh to a company's tax liability that would be equal to a percentage of certain qualified expenses uh that's what we're going to get into today first before we do that though just a little terminology acronyms that will'll be used throughout the webinar uh we'll be talking about qras which stand for qualified research activities qres qualified research expenses R&D stands for research and development r& research experimental code section 41 as I just stated is what houses the R&D credit credit for increasing research activities and all the um r rules and and qualifications are in the code section 41 uh and then code section 174 in code section 174 that defines what a research expense is what an r& expense is all right so let's dive in qualifying for the credit very simple uh terms or simple format to look at to qualify for the credit it's any company engaged in activities to develop design improve products processes software formulas inventions or techniques um so the six items that I listed off there at the end again products processes software formulas inventions and techniques that's uh what are defined in code section 41 as business components so throughout the webinar when we talk about business components that's what we're talking about there um so again any company who is developing and designing uh new or improved business components qualify for the credit we will of course there's lots of qualifications so we'll uh dive in here and further describe what qualifications to develop design and improve the business components there are um but again just in an easy format to see also wanted to note here that there is no industry or business type that's excluded from this credit so any business any industry is allowed the credit of course just with the nature of some Industries Trader business what they're doing they are naturally doing a lot of research and development and so some of the common Industries we will see that qualify for the credit is going to be um the automobile industry breweries wineries distilleries or even just the food and beverage industry in general um fabrication manufacturing that a lot can fall under the manufacturing but the manufacturing industry very often can qualify for the credit based on the work they're doing um and then another one big one is software development that's not an allinclusive list remember no one's excluded but those are some common Industries we see all right so let's dive in so getting more technical here the definition of qualified research activities per the form 6765 which is the tax form that we report the credit on I'll read this uh verbatim here um this is again from the instructions it says the research activity must be undertaken for discovering information that is technological in nature and its application must be intended for use in developing a new or improved business component of the taxpayer in addition substantially all of the activities of the research must be elements of a process of experimentation relating to a new or improved function performance reliability or quality so here is the formal definition of the qualified research activities that are allowed for the credit you can see here I've underlined four key little segments and this is what we call the four-part test that we're going to dive into and to qualify as a qualified research activity for the credit you have to pass the four-part test so let's dive into that first up we have technical uncertainty so the activity the research activity must be intended to discover information that would eliminate uncertainties concerning the development or Improvement of a product so what are we getting at here this is saying was there uncertainty about the method that was going to be taken for the research activity the approach that was going to be taken or was there uncertainties about the outcome of the said research activity uh so if the company is passing that test they have passed part one of the four-part test uh to be a qualified research activity the second part of the four-part test is process of experimentation this is saying that the research activity must evaluate one or more alternatives to achieve a result that was uncertain at the beginning so what this is getting at oh sorry there what this is getting at is was the process of experim was the research activity um process experimental in nature so were you did you have multiple uh Alternatives that you were uncertain about that could be the outcome and you're going to test each Al alternative and maybe even as you're going along and testing those Alternatives you're changing your approach based on the results or were you using a systematic trial and error as you're testing so you have one uh approach you're going to take and your trial and erroring ingredients changing um so having some sort of this experimentation um in in the research activity with trying to achieve again something that's uncertain at the beginning the third part is technological in nature so this is um maybe a little more straightforward here in saying that the activity must fundamentally rely on the principles of hard science engineering or computer science um so hard science what would fall under there um is is a wide range of you know chemistry physics biology uh and then engineering and computer science kind of all catchalls to to saying is this research activity fundamentally relying on those principles last but not least we have permitted purpose the fourth test here uh which could also sometimes this one's called the business component test or the newer improved business component test uh but what this is getting at here again a little more straightforward than the first two is that the activity the research activity must be to develop a new or improved again here are six business components product process software formula invention or technique uh so are you are you trying to to achieve a new or improved business component few notes on those business components here uh very briefly so a product here could mean tangible or intangible process could mean the manufacturer the manufacturing process the technical process the science uh process um software could mean uh internal or external use there are additional rules if it if you are developing a new or improved internal use software that we are not going to touch Bas on today but if that's something that applies to you definitely reach out to your uh Tax Advisor um and then lastly invention it means a patentable AC activ ity all right so let's go over some examples so qualified research activity examples this could be again developing or engineering a new product process formul software uh this could be even improving or uh redesigning again you'll see those words functionality quality reliability or performance developing experimental models and prototypes um even creating more efficient environmentally friendly designs so if we apply that a little more specifically so if we take let's use the food and beverage industry uh as an example this could look like improving the formula of a product because you want to extend the shelf life uh or improving um the packaging to extend the the um shelf life so the testing that comes behind there development of improved fermentation methods again this is in the food and bit uh beverage industry um developing new or improved um food and beverage products to stay current with the consumer Trends so making organic glutenfree easy preparation Etc experimenting with certain ingredients uh for low fat or again organic ingredients um seeing how that one you can make those new products but also testing let's say the consistency and the quality of the food uh so that could be twofold there a look at you know manufacturing um industry what could this look at in the Plastics manufacturing industry this could be the designing and development of tools molds fixtures jigs uh another activity could be you are trying to optimize the process to reduce waste um and recycle waste experimenting to identify inefficiencies again to prod uh uh reduce excuse me waste uh or to reduce production time that's another example so those are just a few examples of what this could look like in the real world other activities that qualify that we'll kind of describe more once we get into the the expense side the qualified research expenses um other activities involved that are part of um the research activities are the time spent researching and compiling research data uh supervising the technical Personnel who are engaging in these experiments or these testings uh technical design reviews maintaining research equipment Etc and then lastly uh is if you are paying someone to perform any of these above activities that is qualified again we'll get into those last pieces that I just talked about um as we start talking about the expenses this list is not allinclusive uh just a few examples all right so we have talked about who can qualify for the credit which is as simple as everyone uh no business or industry is excluded we've talked about what activities can qualify so what research being done what research activities can qualify for the credit are qras passing that four-part test um so the last piece to talk about when we talk about qualifying for the credit is expenses What expenses qualify for the credit because if you remember one of the first um slides there I mentioned that the credit is equal to a percentage um a percentage of the qualified expenses so now we need to find out what those expenses are all right so qres qualified research expenses uh you'll hear it used interchangeably uh the qres allowed for the credit uh kind of fall into four buckets we've got wages supplies contract research and the right to use computers we will further Define uh What expenses related to each of those four buckets qualify for the credit but first I just want to Quick Define qualified research so in the instructions it states that the research credit is generally allowed for expenses paid or incurred for qualified research and as we start to define the wage allowed wage expenses and allowed supplies expenses Etc you're going to keep we're going to keep seeing this word qualified research so what does qualified research means mean excuse me first it means that the qualified research is passing the four-part test it's a qra it's qualified research activity and the second uh part that uh in the definition of qualified research expenses here is that it's a section 174 expense so we briefly mentioned 174 earlier uh but all that section 174 really tells us it defines research and experiment mental expenses and it's really helpful it it is quote research and experimental expenditures equal research and experimental expenditures which are paid or incurred during the tax year so it's really just uh section 174 expenses our research and experimental uh expenditures so going off my little side note tangent there let's start getting into wages so our first expense allowed are qualified research expenses for wages so this is any amount paid or incurred for employees performing The Following activities so any uh employee that's engaging directly in the qualified research so again engaging directly that qualified research in those research activities any employee directly supervising the qualified research uh or any employee directly supporting qualified research so what does that mean uh this means for example I've got listed out here so let's use let's say there's three separate employees uh for each of these um activities allowed so the first one would be the employees directly involved in let's say testing a manufacturing prototype the wages also would be allowed for the employee that's directly supervising this testing of the manufactured uh manufacturing prototype so who's directly supervising the line and then lastly the wages would be allowed for the employee who's directly organizing the test results or gathering the research or gathering those test results um and organizing the data of this let's say manufactured prototype activity that we were working on so all three of those employees again figuratively speaking it's three separate employees in this example all three of their wages would be allowed for the credit noting though that this isn't saying 100% of their they're performing this one activity so 100% all of their wages for the tax are allowed no that's not the case it's for the time that they spent on this activity uh so we'll talk about documentation but this is where time tracking becomes extremely important um and just one more thing I I did miss a point on on this slide here is that or to qualify the labor must be performed in the United States one fun fact here for the wages so there is a substantial substantially all rule for the wages so this is saying that if an employee spends 80% or more of their time on qualified research performing qualified research you can use 100% of their wage for that tax year towards the credit um so as I was saying in my you know example earlier you only are allowed to use the employees time that is spent on those qualified research activities uh and here the code section does allow that if 80% or more of an employees time is spent um on qualified research activities if that's one activity or multiple activities you do get to use 100% of their wage and then of course if the ratio is less than 80% for an employee you use that actual amount of time spent times their total wage for the year which brings me to my next slide here how to gather those amounts so we are most uh always recommending that we want box one of W2 so we are asking for the employees that are uh are participating in these activities performing these activities we will ask for box one of their W2 and then again we take that times the percentage of time that they're they spend other ways that are allowed are grabbing payroll registers time tracking data which to note time tracking data is going to be needed no matter how you're Gathering your amounts because you do need to know how much time each employee is spending um but other um ways to gather Mount is oral testimony meeting minutes time questionnaires Etc but I will uh go back you know to that first bullet point box one W2 is going to be your best bet there all right so the next QR we have is supplies so qualified supplies expense that are allowed for the credit include any amount paid or incurred for items used or consumed while conducting qualified resar SE Arch so the code section 41 does Define supply as any tangible property other than land or improvements to land and property subject to depreciation excuse me so what this is getting at here is that if you are let's say purchasing Machinery or equipment that's going to be solely used uh for your R&D and you are capitalizing that and you spent $100,000 on this Machinery equipment for R&D that $100,000 does not qualify does not qualify as a supply expense for the uh research credit uh because you are capitalizing it um or it it's just property subject to depreciation so even if you haven't capitalized it for some reason it's still not allowed um so really that's kind of an open-ended definition if you will uh so any tangible property other than so some examples include uh you know parts and tools that are used used uh used to fabricate for example and test prototypes raw materials that's a big one you'll see here and um the example is raw materials used during product or process design another example is chemicals and dyes used during testing uh so anything that you are using Supply wise during your qualified research so let's say you are a cheese manufacturer and you are trying to improve your packaging because you want to extend the shelf life of your cheese so you have the cheese ingredients to make the cheese and then the raw materials for the the type of packaging that you use so the ingredients for the cheese and the raw materials for the packaging that you're using in your testing uh to extend the shelf life those expenses count towards the credit one item uh last time on this slide to note here is that an allow Supply Q must be directly Rel related to the performance of qual qualified services so of your employees uh the the qualified services that the employees are performing your supplies must be directly related really what this is getting at here is that any supplies indirectly related to R&D so any GNA uh types of expenditures are not allowed for the credit other items that are not allowed uh as a supply expense for the CR these are listed out in the code section um they give us these uh word for word that travels and meals uh expense and entertainment expenses related to let's say the researchers telephone expenses of researchers relocation or rental lease expense and then professional dues or royalty lease expense um related to the researchers let's say those are not allowed as a supply QR um so directly from the IRS audit technique guide which I'll really quickly explain what the uh what an audit uh technique guide is in case you haven't heard that before so the IRS comes up with these technique guides for their Auditors they are IRS Auditors that are going to go audit a company's R&D credit let's say so the IRS has come up with an audit technique guide telling their Auditors exactly what they should be looking at uh it defines everything for them it says pull this information if this looks like this you need to look at this uh it is truly an answer key for practitioners and for companies uh in our situation here the R&D credit to know exactly what the IRS wants what documentation is needed and if they were to ever come and audit for the R&D credit we know exactly what they're going to ask so going back here directly from this R&D uh audit technique guide it says quote Supply cures in general should represent a small portion of total qres and when they don't when they are substantial you should be alerted to the possible inclusion of capital or other ineligible expenses being claimed as qres so this is telling those Auditors that if out of again remember we have four buckets that qes fall into um wages supplies contract research and computer use and if supplies is looking substantial compared to the other four it's saying alert alert go take a look because there might be something in there uh that's ineligible it's not saying that there is something in there that's ineligible but there might be uh so key here is supplies uh really shouldn't be your biggest QR uh we might be including something in there that shouldn't be it we might be including that $100,000 Machinery or equipment we we uh bought this year when really that's not allowed as a a supply QR so Gathering amounts for supplies the biggest one here first bullet point general ledger so creating accounts that are specifically for Supply um related to R&D is your best bet it's the best way to stay organized easy to find and we know that the again that this is from the audit technique guide this is what they're going to be looking at uh so the general ledger is is your best way to gather amounts for the supplies expense that are allowed other ways uh are purchase orders invoices receipts Bill bladings all right moving on to our third QR contract research so qualifi contract research expense include any amount paid or incurred to any person other than the employee of a taxpayer for the performance of qualified research or qualified Services um so if you are Outsourcing uh you are paying a contractor to do any of your qualified research or qualified services those amounts you are paying and Outsourcing are allowed towards the credit two little key caveats here uh it is only 65% of the total contract researches contract research expenses allowed so you're paying a contract research a full amount to and what we can use for the credit will take that time 65% uh and then the second Cav caveat or note to make here is that it must be performed in the US so if you are Outsourcing something International Al that is not allowed as a q for the credit um so on top of those two there is a three-part test you'll see here throughout all this there's a lot of three four-part tests that we have to pass and we have to be aware of um but the three-part test uh that must be met for the contract research expenses to qualify is one the contract has to be entered into prior to the performance of the qualified research activity starting by whoever you're Outsourcing to uh two the contract has to provide that research that's being performed is on behalf of the taxpayer so saying that the taxpayer is maintain the substantial rights to the R&D that's being performed by the the outsourced contractor let's say third the contract requires the taxpayer to Bear to excuse me to Bear the expense even if the research is not successful so the taxpayer has to Bear the economic risk regardless of the outcome we would really suggest here that if you are Outsourcing that there is a physical contract in place and these items are stipulated uh in that contract so that there's no questions uh whether these items are true some common examples of contract research expenses or items that are being outsourced if you will is software development you know a lot of times you know for any of these think about uh the taxpayers or these companies might not have the resources to have an inhouse software development team and equipment so they Outsource that work uh same with engineering prototype fabrication or another big one lab testing and again remember it's if you're Outsourcing this work for qualified research so it's not just your Outsourcing lab testing in general your Outsourcing lab testing to to uh for them to further your qualified research activities again the Gathering amounts the best way is the general ledger uh so having specific accounts dedicated to these expenses related to R&D uh in in your GL is the best bet uh but other ways that that will uh suffice is service contracts purchase orders invoices or if uh you know who Outsourcing to as an independent contractor so you're sending them a 1099 NEC um having those all will be other ways you are allowed to gather amounts all right the last QR here to talk about is the rental or lease costs of computers so qualified rental or lease costs of computers include any amount paid or incurred to another person for the right to use computers while conducting research and for those expenses to be allowed as a QR again there's a three part requirement a three-part test uh so the computer has to be owned and operated by someone other than the taxpayer the computer has to be located off the taxpayer's premises and the taxpayer um cannot be the computer's primary user so let's talk about examples to kind of better understand what we're getting at here uh so if you remember you know this credit was originally uh started in the 80s so how this uh Q started was um you know in the 80s uh this and this again this Q is very uh big in the computer software development realm of research and development um but companies were leasing data storage facilities literal um physical data storage facilities to to house for the R&D work that they were being done and those lease expenses were allowed for the credit but this is really turned into today is cloud computing services so Cloud Computing Services we'll kind of get into some details on the next slide but what happens here is we have cloud service providers uh that are have space that's leasable uh in the cloud so companies uh the taxpayer is leasing out or or excuse me leasing cloud storage um with another third-party company and that's how this qre is really starting to be seen now uh in this day and age of technology so there was some you know as the cloud started to get bigger and we started to use the cloud more there was question of if this cloud computing rental service meets the requirements that we stated on the previous slide to be a QR and the answer is yes for the following three reasons one the business claiming the R&D credit is not the primary user of the cloud infrastructure uh you know that remember they're getting it from a a large thirdparty um vendor if you will the servers for the rental service are in various locations it's not on the taxpayers premises uh and the cloud servers are owned uh by other companies such as major service providers AWS aour Rackspace so for those reasons that's passing that three-part test so Cloud Computing Services uh the rental leasing expense is allowed for the credit uh an example here again big in the computer software development world so this would be if software developers are using a cloud environment to not only perform their development work their research activities but perhaps they're also designing a mirrored virtual environment for their new tests that they've newly developed um to confirm that it doesn't disrupt the functionality of an existing program so that's one example where a company might be using Cloud Computing Services all right so those are our four qres and as you can kind of see as we were talking through those um it's alluding to a lot of documentation is is required between the qras the the research activities happening and then the expenses that we're allowed to to use for the credit so what does that this look like the IRS guidance it quote they say a taxpayer must retain records insufficiently usable forms in detail to substantiate that the expenditures claimed are eligible for the credit so what they're getting at here is they one they want proof of product qualification and two they want these expenses that are eligible for the credit by project um so you know as you work with your Tax Advisor your R&D consultant you really want to make sure you've got this proper documentation and you have proof that the projects that you're doing uh the business component that you are improving or designing uh is you have each one separately listed and how they pass the four-part test and then expenses by the project the IRS um audit technique guide does mention if estimations are needed how that would look going a little farther on the documentation so again the audit technique guide I've taken this straight from there uh this is exact L what the IRS auditor is going to ask for so that means this is exactly the documentation that we have to have uh so one for the activities again like I just mentioned they're going to ask what each activity is what each activity is and why that activity is eligible so how does it pass the four-part test for wages uh for your wage expense they're going to ask for the names of the employees the amount of their wage amount their percentage of annual wages that uh is goes um the percentage of their annual wages of them doing qualified research activities the Departments they're in their job title and their description supplies they're going to ask for the categories of supplies they're going to ask how that ties to the general ledger so again that's where we kind of said the best way to track supplies is by making an account so that you can very specifically grab that from the general ledger and say these are my supplies for R&D um but they're also going to ask the supplies amount by the category so they're going to ask for the supplies expense Again by project by activity for contracts they're going to ask who the contract is with the amounts and the categories again so bu project other items that they might or that they will ask for uh excuse me are the taxpayers base amount and the fixed base percentage calculations so we'll get to that here when we talk about calculating the credit um but that is um really what we're getting at here is they're going to ask for your calculation so however you calculated the credit they're going to want that um calculation key here work with your Tax Advisor your R&D consultant and make sure you have all the proper documentation so if this is what's going to be asked for under audit that means this is what needs to be readily available at all times in the documentation that's needed other documentation that the auditor May ask for or that could just be helpful um to have on hand um so that you can very easily um identify your qualified research uh they might ask for um any materials explaining the research activities so if you have brochures or pamphlets or press releases uh you know keeping that information could be helpful uh if you are submitting any information to management Board of director either you know you're submitting R&D budgets or R&D project ideas or uh anything of that sort keeping that information on hand is very helpful um other or along that same breath would be you know the meetings from a board uh board meeting let's say oh excuse me the minutes from a board meeting let's say where you're talking about the R&D activities that are being done or you're talking about the budget being done having all of that information on hand could be extremely helpful all right so let's now talk about how to calculate the credit we'll talk about Federal and Wisconsin so for federal there are two methods of calculation uh of ways you can calculate the credit and you can alternate between them on a year-by-year basis if you pick one you're not in you can only use that one going forward let's say that is not the case uh so we have the regular credit and we have the alternative simplified credit so the regular credit is going to be the higher percentage you could get up to uh you can get 20% um of of the credit is 20% but there's more documentation required and the calculation is a little more um complicated complex if you will and then the alternative simplify credit is 14% there's a little less documentation required and the calculation is a little easier um but you can alternate between um year toe like I said we'll run through an example to show how something would calculate out using the regular credit how something would calculate out using the alternative simplified credit and really best practice is to calculate both every year see which yields the highest credit and that's the one you'll use that year but let we'll get into that more I'm getting ahead of myself here so the regular credit the regular credit equals 20% of the small smaller of the current year qres expenses that exceed a base amount or 20% of 50% of the current year qres what does base amount mean base amount is determined by applying a fixed base percentage to the average gross receipts for the four most recent years so that means what we're saying here back to uh the bullet point up top it would be the current year qres that exceed a base amount which equals a fixed basee percentage times the average gross receipts over the past four years what's the F fixed base percentage that's a tongue twister there um the fixed space percentage I I took a snippet here um from another presentation at the time because it really lays it out well U but it is complex this is where I was talking about the complexities that come in and this is what comes in with needing more documentation so in your first five years uh you use 3% is your fixed base percentage but then you can see for the next five years there is a convoluted uh uh calculation and then every year after that you can use the percentage between that was calculated between five five years between the fifth and the 10th year so those five through 10 years um okay too many words we're going to go through an example here but really what this fixed base percentage is getting at again is in your first 5 years you use 3% uh and then there is a um different calculation for your next five years so what that would look like in your sixth year if you look at that second line there in your sixth year you would take your fourth and fifth year aggregate qres divided by your fourth and fifth year uh aggregate gross receipts times one six and that's the percentage you use that percentage though can never exceed 16% again and as you can see here the regular credit is a little more complex and it requires uh more documentation you need all the documentation from your first year noting here what does first year mean this could either mean it could be your first year of business uh but it's the first year that you have both gross receipts and qres so if you are a company that's been doing R&D since the the day you open your doors your first year is that first year business if you are a company that's been around for a long time but you just started uh doing qualified research and having qualified research expenses that's your first year all right so let's get into an example here so this is going to be one where it's a company that's in its 10th year of business but it's in its fourth year of the business conducting qualified research so it's it's in its fourth year in terms of our fixed base percentage so that means we're keeping it easy here we're just going to use 3% other items uh to note in this example for qres for wages we have 100,000 and our supply qres are 30,000 and the four-year average annual gross receipts is 250,000 so let's take a look at what this looks like now again this is the form 6765 credit for increasing research activities this is the old form uh we will talk about the draft new form so this is the form that would have been filed on all 2023 tax returns uh just for Simplicity sake here uh but if we take a look you know we start off here just listing out our qres so we have the 100,000 of wages we've got the 30,000 of supplies on line nine to give us our total qres for the current year is 130,000 line 10 is that fixed base percentage we're in our fourth year so that's 3% because we're within our first five years next up here line 11 we've got 250,000 as our 4year average annual gross receipts those are kind of the easy um slot inss if you will next we get to line seven so line seven is our base amount so again the base amount is your fixed base percentage times your average gross receipts so that is $ 7,5 500 line 13 that is our excess current year qres 130,000 remember over the base amount 130,000 less That Base amount of 7,500 gives us 122,500 that is again the X's current year QR over base amount because remember the credit is the smaller of the current year CES that exceed the base amount or 50% of the qres the current year qres and so that's what we see here on line 14 it just says take your current year QR is 130 times 50% which is 65,000 so what we are allowed for the credit is 20% of the lesser of line 13 and 14 so the Lesser is the 65,000 we get to take that times 20% that equals 13,000 so if we use the regular credit method our credit for this year is 13,000 okay so let's jump into the alternative simplified credit and then we'll run through that same example to see what it looks like but first let's define uh how this method uh credit is calculated using this method so this is 14% of the current you current year qres above 50% of the average qres in the previous three years always a lot of words and always hard to see unless we get into an example so we'll get to that shortly just really quickly noting here if you're in your first three years and you are using the ASC method you just take your current year qes times 6% and that's the amount but let's jump to an example here so same example as before 10th year business fourth year the business conducting qualified research wage QR is equal 100,000 Supply QR is equal 30,000 now for this example we need our three prior year total qres summed together that equals 330,000 we don't need our fixed base percentage using this method and we don't need the average annual gross receipts using this method so how would that look so now again this is the form 6765 this is section B is where you calculate the alternative simplified credit so taking a look at here at this again here line 24 25 we're just listing out our qres for the year to give us our total current year qres of 130,000 line 29 is our prior three the sum of our prior three-year qres so we have that as 330 that was on the fact pattern line 30 is you are going to divide line 29 the 330,000 by six this is the base amount in this method so that 55,000 is 50% of the 3-year qre average so the 330,000 is the sum of our prior three-year qres divide that amount by 6% so that's 50% of the average that's 55,000 that's our base amount in this method line 31 uh that is our excess current year qres of 100 30,000 over our base amount of 55,000 that equals 75,000 because again remember the Kelk is 14% of the current year qres that are in excess of above the 50% of the average qres in the previous three years so of the 55,000 um the excess of our current year over that so 130,000 our current year qres less than 55,000 equals 75,000 we get 14% of that 14% of 75,000 is 10,500 that is the credit amount allowed using the alternative simplified method so kind of summing that all up in our example if you use the regular credit method we saw we got 13,000 using the alternative method we got 10,500 so obviously we want to use the regular credit key here again C calculate both every year there can be years depending on how things are lining up and depending on how your fixed base percentage is calculating there could be years uh where the alternative simplified credit will still yield a larger credit for you and so you would want to use that so calculate both every year uh the I do want to knowe we do have situations where a company might not have substantial records to go all the way back for gross receipts and qes to use the regular method uh and to to calculate their fixed base percentages so for that reason we use the alternative simplified credit every year so you know if a company has been in in business for 20 years they've been doing research and development but didn't know they could be taking the credit until this year uh to be able to use the regular credit they'd have to go back all 20 years uh to figure out their fixed base percentage so sometimes that's just not realistic and we use the alternative um method instead all right just checking that what I'm doing on time here 10 minutes all right I think I can do this so really quickly here Wisconsin does have an R&D credit as well uh it is similar to the federal uh calculation but two main difference one the credit is just equal to 5.75% there's no different methods um it is just 5.75% second key main difference here that the Q that you are allowed to use for the Wisconsin R&D credit uh the expenditures must have been incurred or performed in Wisconsin uh so if you have contract research let's say and you are a Wisconsin um based company you are looking to do the Wisconsin Credit but you have contracted something out to Florida let's say uh those expenses are allowed for federal but they are not allowed for the Wisconsin Credit uh so you again key in the documentation process is documenting um each contract by each project and who that contractor is so we know where they're based and the credit for Wisconsin is reported on Wisconsin schedule R Wisconsin research credits awesome all right so let's talk about reporting requirements where I was going to go into something a little different but now let's just talk about our new proposed form uh 6765 so in September of 2023 the IRS perform uh excuse me the IRS proposed new a new form 6765 and they opened it up for questions comments and concerns and they got questions comments and concerns and so in June of 2024 just this summer the IRS announced a new revised draft uh taking into consideration the questions and conc concerns that they received from the their originally proposed form uh and they announced this uh via IR 2024 17 171 in case you want to go look that up so now as of June 2024 we have a revised draft form 6765 which had a few changes from the original one they proposed so there propos changes Al together so page one section A and B are going to stay relatively the same so in our example that's where we just looked at section A and section B again section A was the regular credit section B was the alternative simplified credit those stay relatively the same the biggest difference there that is that instead of listing out each Q category so the wages and the supplies uh there's just a total qre section that comes from the new section F which we'll see on the next slide so that's the biggest difference on page one where the differences really come in is every page after that they have uh section e f and g that are all new sections on the Revis draft so we will jump into those just noting here though instructions have not been released so we're working with the IRS release 2024 171 um and the draft form but we don't have instructions yet we'll know much more once uh things are more finalized and we start to see instructions all right so let's look at these new sections so section e this is going to ask us for some new information it's information that we should always have uh that we've been documenting in the past but the IRS has never asked for it and asked for us to tell them on the tax form so they're asking for the number of business components generating the qres so they're asking for every uh activity every business component and how many you have so again this is documentation we've always needed uh but now we're going to be putting it on the form they also ask now the amount of Officer wages that are going to be included in your QR wage expense and they ask a few other questions here that will definitely um help us more too once we have instructions we also have section F which is new so section f is new but what section f is asking isn't technically new it's very similar so this is where I mentioned before on the old 6765 uh the qres were asked for in each section A and section B now they're just going to be asked for here in section F uh your total wages your total uh supplies your total rental or lease cost of computers etc and you take that line 48 that sum and you just take that sum number to the credit calculation so section F isn't all that new we've already been filling out it's just in a new format um really the key takeaway here is that your Tax Advisor your R&D consultant might be asking you for some additional uh information going forward to be able to fill out these new forms the biggest change and the biggest Talk of the Town if you will is section g uh the business components information so the IRS is as asking for each business component and to list that out on the form again this is information we should always have already been documenting but the fact that they're asking for it now um is is new and it's B and it's a big compliance uh additional workload uh so this is where they kind of got the backlash in the originally proposed um form and so that they made some updates in June of 24 so two two updates they made one they made section g optional reporting for certain qualified small businesses the two types of qualified small businesses that will have optional reporting of section g one includes the qualified small business who check the box to claim a reduced payroll credit now we haven't talked about the payroll credit that's on this form um not enough time in this webinar but if you check the box to claim a reduced payroll credit your qualified small business section g is optional the second group that section g is optional for are taxpayers with total qres equal or less than 1.5 million and total gross receipts equal or less than 50 million so if you kind of fall into that small business taxpayer section g will be optional and then for everybody section g is optional in 2024 and um tax year 2024 so filing 2024 so means uh processing year 2025 uh and will be effective in tax year reporting year 2025 so processing year 2026 they also in the release in June lowered the amount of business components that those that do have to fill out section g have to report so work with your Tax Advisor your R&D consultant and and make sure you have the proper documentation um to be able to fill out this form if needed uh but even if it is optional uh you fall into the the the small business taxpayer um thresholds that they that they have set out you still have to have this information documented you just won't need it um to put it on the form all right okay really quickly here running up to time I know I just want to really quickly talk about section 174 and where that's currently standing so for a quick a quick uh brief background on Section 174 pre tcja code section 174 discussed the allowance of those research and experimental expenditures that are allowed to be deducted the intent of creating section 174 was to eliminate any uncertainty businesses had and so that businesses were confident that yes we can perform R&D and we can get expense we can deduct our expenses post tcja as we all know uh now code section 174 discusses that no deduction is allowed in the current year for such expenditures instead they must be capitalized and amortised over five years uh or 15 years for foreign research so why is this always brought up with the R&D credit um and the reason for that is if you have the R&D credit you have a section 174 issue remember we were talking about qualified research earlier and we said for it to qualify as qualified research uh the expenses are 174 expenses uh but the other key Point here is that if you don't have the R&D credit you might still have a section 174 issue I'm a very visual person uh so the section 174 expend expenditures are a very large bucket um and the section 41 which is the credit is a part of that uh but it's not all inclusive there are other expenses out there that fall into section 174 so you might still have a 174 issue last slide here where does that leave businesses uh where does that leave us standing uh there was a bipartisan tax bill that did pass the house it was stalled in the Senate it restored immediate deduction and we kept saying nothing's going to happen before the election uh the bills aren't going to be passed but we've come to the election and where does that leave us now it's really going to um we're going to start to hear things once that new Administration takes effect in January and they start to talk about their new 2025 uh hopefully tax reform efforts and so that's when we'll start to hear talks of where does this lead uh where does this lead 174 hopefully it's retroactive um but even if it is 2025 tax reform we probably won't see it until processing year 2026 uh so we're still kind of in a stand still there um okay very sorry I went one minute over here I appreciate everybody's time I have my email address on here if you have any questions at all please reach out and I will try to get back to as timely as possible thank you so much Sarah for that insightful presentation and thank you to everyone for joining us today we hope you found the session valuable and gained some practical takeaways as a quick reminder a recording of today's webinar will be shared with you via email so you can revisit it or please feel free to share it with others who may benefit from this information if you enjoyed today's session be sure to check out our website for other upcoming events next month Sarah is presenting again for us another webinar that might interest you on yearend tax update so be sure to check that one out if you have any follow-up questions as Sarah mentioned please feel free to reach out she'd be happy to connect with you and provide further insights thanks again for your time and we look forward to seeing you at Future webinars have a great rest of your day thank you