IRS releases guidance on payroll tax credit for small business research expenses


Interim guidance describes for small businesses the new payroll tax credit election for increasing research expenses. The IRS also provided a special rule for 2016 for small businesses that did not claim the credit but want to claim the credit before year-end 2017. The interim guidance reflects changes made to the research credit by the Protecting Americans from Tax Hikes Act of 2015 (PATH Act).

Before passage of the PATH Act, the research credit was only available as a credit against income tax liability. Congress created the employment tax credit to encourage research activities by small businesses. A qualified small business may now elect to claim an amount of its research credit as a payroll tax credit against the employer-share of Social Security taxes.

Qualified small business

A partnership or corporation, including an S corp, is a qualified small business during a tax year if its gross receipts are less than $5 million and the partnership or corporation did not have gross receipts in any tax year preceding the five-tax-year period that ends with the tax year of the election. A taxpayer other than a partnership or a corporation is a qualified small business during a tax year if the taxpayer’s gross receipts for the election year are less than $5 million and it had no gross receipts in any tax year preceding the five-tax-year period that ends with the tax year of the election.

Amount of the credit

The payroll tax credit portion of the research credit is equal to smallest of the following amounts (1) an amount, not to exceed $250,000, specified by the taxpayer in its election to claim the credit; (2) the research credit determined for the tax year (determined without regard to the election made for the tax year); (3) or in the case of a qualified small business other than a partnership or S corp, the amount of the business credit carryforward under Code Sec. 39 from the tax year of the election (determined without regard to the election made for the tax year).

Comment. A small business makes the payroll tax credit election by submitting Form 6765, Credit for Increasing Research Activities, the IRS explained. Form 6765 must be attached to the taxpayer’s income tax return. The IRS also provided a transition rule. If a small business did not make the election on its already-filed 2016 income tax return, the small business may file an amended return and make the election, the IRS explained.

IR-2017-70, Notice 2017-23