Tax and Compliance — 6 min

How to claim the R&D tax credit in the US

Written by Ana Vieira

November 20, 2024

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As a small business, you may be entitled to receive numerous tax credits, enabling you to reduce your business costs.

One of these is the research and development (R&D) tax credit, which can help you offset expenses tied to developing new products, processes, or software. But understanding how to claim the R&D tax credit — as well as the qualifying factors around it — can feel overwhelming.

In this guide, we’ll explain everything you need to know about this lucrative incentive, from eligibility criteria to retroactive claims. So let’s jump straight in.

Jump straight to a key chapter

What is the R&D tax credit?
What are the benefits of the R&D tax credit?
What qualifies for the R&D tax credit?
How do you claim the R&D tax credit?
How far back can you claim R&D tax credits?
R&D tax credit examples
How can Remote help?

What is the R&D tax credit?

The R&D tax credit is a federal incentive designed to reward businesses for investing in innovation. Established in 1981 and made permanent in 2015, it encourages companies of all sizes to push boundaries in science and technology.

Who is eligible to claim the R&D tax credit?

If your business engages in qualified research activities (QRAs), you can claim a percentage of related expenses — such as wages, supplies, and contract research — back. This applies to a wide range of industries, including tech, manufacturing, pharmaceuticals, and even food and beverage.

What are the benefits of the R&D tax credit?

Claiming the R&D tax credit can offer your business significant financial and operational benefits, such as:

Direct tax savings. The credit reduces your federal (and, in some cases, state) tax liabilities.
Boosted cash flow. These tax savings free up capital, allowing you to reinvest in further innovation, talent, or operations.
Competitive advantage. Leveraging these savings enables you to outpace competitors and expand market share.

Some eligible startups — such as those with little to no tax liability — can also use the R&D credit to offset up to $500,000 in payroll taxes annually.

Overall, the R&D tax credit isn’t just a financial perk; it’s a strategic tool that empowers your business to do more with less.

What qualifies for the R&D tax credit?

To qualify, your research and development activities must pass the Internal Revenue Service (IRS) Four-Part Test. This evaluates whether your work involves:

Permitted purpose (creating or improving a product, process, software, or invention).
Elimination of uncertainty (addressing technical uncertainties regarding development or improvement).
Process of experimentation (employing a systematic process, such as testing or prototyping).
Technological nature (relying on principles of engineering, computer science, biology, or physical science).

Some common examples of qualified R&D activities include:

Developing prototypes or pilot models.
Improving manufacturing processes for efficiency.
Conducting environmental testing or certifications.
Creating custom software for internal use or customers.

General market research or routine maintenance does not apply. It’s also important to note that the R&D activities should be conducted inside the US to qualify.

How do you claim the R&D tax credit?

To claim the credit, you will need to follow these steps:

1. Identify your expenses

Pinpoint the activities your business is conducting that meet the criteria above, then document all expenses tied to these activities. These can include:

Wages: The salaries, bonuses, and payroll taxes for employees involved in your QRAs (directly or in support).
Supplies: The costs for materials used in R&D, such as parts for prototypes or lab consumables.
Contract research: The payments made to third parties for conducting QRAs (limited to 65% of the amount paid).
Cloud computing services: The fees for cloud services used in R&D, such as testing or data modeling.

2. Calculate the credit

To do this, you can use one of the following approaches:

The traditional credit method

This method is calculated using the following formula:

(Expenses - base amount) x 20%

It requires historical data to determine a base amount, which is calculated as:

Average annual gross receipts (for the prior four years) x Fixed base percentage

Note that the fixed base percentage is industry-specific and determined historically. It is currently capped at 16%.

Example

Say that your calculated QRA expenses total $280,000, and your average annual gross receipts over the last four years are $1 million. Based on your industry, the fixed base percentage is 5%.

The base amount would be:

$1 million x 5% = $50,000

Using this base amount, you would calculate the credit as:

($280,000 - $50,000) x 20% = $46,000

The alternative simplified credit (ASC) method

The ASC method offers a lower credit percentage, but it doesn’t require historical gross receipts data to calculate the base amount. It can be calculated as follows:

(Current expenses - base amount) x 14%

To calculate the base amount, you use the average of your expenses from the prior three tax years, as follows:

3-year expenses average x 50%

If you don’t have any historical expenses data, the base amount defaults to zero, and the credit applies to the full current expenses amount.

Example

Say that your calculated QRA expenses total $280,000, and your average expenses over the last three years total $100,000.

The base amount would be:

$100,000 x 50% = $50,000

Using this base amount, you would then calculate the credit as:

($280,000 - $50,000) x 14% = $32,200

3. Prepare and file IRS Form 6765

Once you have identified and calculated your credit, record it on IRS Form 6765, and include it when you file your tax return.

If you’re unsure at any point, it’s advisable to consult with a qualified tax advisor with experience in R&D tax credits.

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How far back can you claim R&D tax credits?

In most cases, the IRS allows taxpayers to amend federal income tax returns for up to three years from the original filing date. For most businesses, this means:

Reviewing tax returns for the prior three years to identify unclaimed R&D credits.
Filing amended returns (using IRS Form 1040X or 1120X, depending on your entity type) to apply for the credit retroactively.

For example, if you’re filing in 2025 and your tax year aligns with the calendar year, you can amend your returns for 2024, 2023, and 2022, as long as the filing deadlines (plus extensions) for those years haven’t passed.

Note that filing amended returns may also trigger a review by the IRS, so ensure that your documentation is meticulous.

Special circumstances

While the standard look-back period is three years, certain situations allow businesses to claim R&D tax credits beyond that. These include:

Carryforwards for unused credits. If you previously calculated R&D credits but couldn’t use them due to low or no tax liability, those unused credits may be carried forward for up to 20 years.

Net operating loss (NOL) years. If your business incurred losses in prior years, R&D credits may have gone unnoticed or unutilized. In this case, you can revisit and amend older returns to recover credits that weren’t initially applied.

State-specific rules. Some states offer longer look-back periods for amending tax returns and claiming R&D credits. For example, California allows businesses to amend returns going back four years instead of the federal three-year limit.

R&D tax credit examples

How different businesses use R&D tax credits can depend on their industry and their expenses. To give you a general idea of how they can help, though, consider the following examples:

Example 1: Tech startup

Your company is a 12-person software development startup focused on creating a custom, cloud-based project management tool. As a startup, you have limited cash flow for reinvesting in product features and hiring.

Your QRAs include:

Developing your tool’s real-time collaboration feature.
Prototyping AI-based task management.
Testing the software’s performance under different server loads.

To support these activities, your qualified expenses include:

$250,000 in employee wages for software engineers.
$50,000 for cloud-based testing environments.
$20,000 paid to an external consultant for specialized AI development.

In this example, your startup can claim $320,000 in R&D expenses. By leveraging the payroll tax offset (available for startups with less than $5M in revenue and under five years of operational history), you reduce your payroll tax liability by $500,000 over the next year.

This credit frees up vital cash, enabling your company to hire additional engineers and speed up product development.

Example 2: Small manufacturer

Your company is a 20-person manufacturing firm aiming to produce eco-friendly packaging solutions. However, you’re also having to deal with rising production costs and demand for higher product output.

Your QRAs include:

Designing and testing a new machine to automate assembly.
Experimenting with recyclable materials for durability.
Developing a process to reduce production waste.

To support these activities, your qualified expenses include:

$180,000 in wages for engineers and technicians.
$60,000 in materials used for testing and prototyping.
$30,000 for third-party lab testing on packaging durability.

Your business claims $270,000 in qualified expenses, resulting in an R&D tax credit of approximately $20,000 at the federal level. You also qualify for an additional $5,000 through your state’s R&D tax credit program.

These savings allow your company to invest in scaling up its automated processes, cutting future production costs and improving profit margins.

How can Remote help?

The R&D tax credit is one of the most valuable — and oft-overlooked — incentives for US businesses, and successfully claiming it requires proactive planning and proper documentation.

As part of this, you need to keep full track of the compensation you’re paying those employees who are contributing to your QRAs. As a fully automated payroll system, Remote Payroll can provide you with this information quickly and accurately, making it more simple to calculate your eligible costs.

We also make the entire payroll process faster and more reliable, saving you time and resources. To learn more about how we can simplify your entire payroll management system and help you manage expenses, speak to one of our friendly experts today.