What do 30 countries including Canada, Mexico, Germany and China have, that the U.S. doesn’t? As of 2015, they all offer some form of credit or special grants to aid product research and development, according to a global study by Deloitte Tax LLP.
Yet here in the States, the federal tax break for research and development has been like a flickering candle flame, always in danger of being snuffed out. Losing this break for 2015 could mean the loss of jobs, analysts say.
"Looking at what other countries have done to enact R&D legislation, we are rapidly falling behind in the world," said Sean Gogerty, a partner at Deloitte Tax LLP. "In today's global economy, we're in a battle with other countries to attract those [research] investment dollars." These incentives typically spur the creation of more scientific and engineering jobs, especially in the high-tech and pharmaceutical industries, he says.
Beginning in 1981, when the legislation was first passed, Congress has acted 15 times to authorize the R&D deduction as an incentive to business owners to spend on new products and scientific advances – but in each case the tax measure was temporary, according to Molly Day, a spokeswoman for the National Small Business Association in Washington, D.C. The government's most recent action, in December, made the tax break retroactive to cover 2014, but technically the deduction expired on Jan. 1, Day said.
A new bipartisan push is under way, one that might finally render the R&D tax break permanent and available during the current tax year. Although delayed by the jockeying over a major tax-system overhaul, the effort is one that small business owners are following carefully, because a permanent incentive could allow entrepreneurs to plan for growth.
“This incentive would allow small business owners to hire employees and bring in the equipment they need to take their company to the next level,” says David Park, senior vice president and manager of business banking for City National. “It’s great for business and great for the economy.”
Jere W. Glover, executive director of the Small Business Technology Council, a Washington, D.C.-based nonprofit group that's administered by the National Small Business Association, advises business owners and their accountants to keep a vigilant eye on whether they can qualify for the credit, if an extension is put in place. Glover said the deduction is all the more vital since the credit market for business start-ups is tight and venture-capital seed money has grown scarcer.
"It's an important tool that helps small technology companies grow," he said of the credit. "Once you become profitable, this allows you to put more of your money back into growth. In an ideal growth pattern, you have an idea, you have research and development expenditures, and you have manufacturing and marketing costs. If you get credit for your R&D expenses, you can plough money back into your business and grow more rapidly."
Money saved by means of the tax credit can be funneled toward other expenses such as purchasing equipment or marketing a product, Glover said.
Under earlier versions of the law, the tax credits were inadequate to help many small businesses because the deduction is taken against profits – and many young businesses do not show profits for quite a few years, Glover said. Too often, the tight time frame for claiming the credits closed before a business had to a chance to exploit the deduction.
During his years as chief legal counsel for the federal Small Business Administration, from 1994 to 2001, Glover fought to widen the window in which the tax credits could be used. The most recent law enabled business owners to carry R&D expenses on their books for 20 years, allowing them ample time to become profitable and use the deduction, Glover said.
Such a broad time frame – which might presumably be a model for future legislation – meant that R&D expenditures could be treated as an asset in valuing a company.
"That's a big deal," Glover said. The tax credit "goes on the balance sheet" and can even be used after a company is sold, enabling the new owner to obtain a write-off.
Business advocacy groups have lobbied hard to gain support for extending the credits, arguing that such incentives are necessary to help American companies of all sizes keep pace with innovation in other industrialized nations around the world.
"We think it's very important," said Day of the National Small Business Association, which has been a major player in the push. "It's definitely among our top priorities."
Congressional leaders from both parties are supporting bills to extend the credit, and President Obama also backs the effort, but action has become ensnarled in the larger question of overhauling the entire federal tax system. Gogerty said he expects Congress to incorporate a permanent R&D tax break into its broader reform package, but it remains unclear how quickly the comprehensive legislation can be cobbled together.
If tax reform does not occur by the end of the year, legislators once again will face pressure to adopt a one-year fix, making the credits retroactive to cover 2015.