A&M Tax Advisor Weekly

The Research Tax Credit: Federal vs. California

Brett Nowak, Managing Director

bnowak@alvarezandmarsal.com

Carolyn Smith Driscoll, Senior Director

June 18, 2018 / North America

Numerous states offer a research and development (“R&D”) tax credit. Companies can, therefore, claim credits for the same expenditures in different jurisdictions. Similar to enterprise zone credits and job training credits, the purpose behind state research tax credits is to incentivize companies to invest and provide jobs in a given state. Frequently these states follow federal guidance under Sections 41 and 174 of the Internal Revenue Code and accompanying regulations. California largely conforms to the federal credit guidelines with a number of critical adjustments.

California has historically enacted incremental changes to make its R&D credit more attractive to businesses. These include businesses in the biotech, agriculture, technology, software, manufacturing, pharmaceutical, pre-release medical device and aerospace industries. As such, it is important to understand the differences between the federal and California R&D tax credit to successfully claim the benefit in both jurisdictions. Thankfully, the State Franchise Tax Board has published the “Research & Development Credit: Frequently Asked Questions.”1 This is a very helpful information source whenever filing for a California Research Credit.

Overview

As with the IRC Section 41 federal R&D tax credit, California provides a permanent tax credit as an incentive for taxpayers to conduct R&D activities. The California R&D Credit reduces income or franchise tax. Qualified research must occur in California to qualify for the California credit. Qualified Research Expenditures (“QREs”) generally include wages, supplies and contract research costs. As with the federal credit, the calculation in California is based upon the excess of California QREs over a base amount. The regular credit base amount means the product of the fixed base percentage and the average annual gross receipts for the four preceding tax years.


North America