If you’re a startup founder or finance leader, you may have heard that R&D tax credits can help offset payroll taxes. But can these credits be used for both federal and state payroll taxes, or only federal? Here’s what you need to know:
Federal Payroll Tax Offset
The federal R&D tax credit is especially valuable for early-stage companies that aren’t yet profitable. Thanks to recent legislation, qualified small businesses can use the federal credit to offset up to $500,000 of their federal payroll tax liability per year.
Key facts:
- Only the employer’s share of Social Security and Medicare taxes (FICA) can be offset.
- The credit is available to companies with less than $5 million in gross receipts and within five years of their first gross receipts.
- The offset applies only to federal payroll taxes, not to any state payroll tax obligations.
What About State Payroll Taxes?
Here’s where things get tricky:
- The federal R&D tax credit cannot be used to reduce state payroll tax liabilities.
- Each state has its own payroll tax system, and federal credits do not transfer over.
State R&D Credits
Many states offer separate R&D tax credits, but these programs are distinct from the federal version.
Consider:
- State R&D credits typically offset state income or franchise taxes.
- A few states offer refundable credits or allow credits to offset other state-level business taxes.
- The rules, eligibility, and application processes vary widely by state.
Best Practices
- Track and claim federal and state credits separately.
- Consult a tax advisor to maximize your benefit and avoid compliance pitfalls.
- Stay updated on both federal and state legislation, as rules can change.
So remember, you can use R&D tax credits to offset federal payroll taxes, but not state payroll taxes. State R&D credits exist, but they generally do not apply to payroll taxes.
Want to make sure you’re getting the most out of your R&D tax credits?Contact us for a free consultation.
Vanessa Kruze, a seasoned CPA, has an impressive track record prior to establishing Kruze Consulting. Her experience includes pivotal roles at Deloitte Tax and as a controller for a substantial startup with over 120 employees and $20 million in revenue. Under her leadership, Kruze Consulting has emerged as a distinguished CPA firm, recognized on the Inc 5000 list for five consecutive years, illustrating rapid growth and success in the competitive accounting landscape. Vanessa's unique approach, combining deep industry knowledge with advanced automation and software solutions, has positioned her firm as a leader in providing comprehensive accounting services to startups across the United States.
