Seven years ago, Summit CPA had a client who asked about R&D tax credit, and as we've grown we received more inquiries on how to claim and who qualifies for it. At that time we didn't have much exposure to R&D tax credit, so we did our best to learn about this credit and while we thought we did a good job we realized there were still a lot for us to learn. In this podcast, we sit down with our host Tom Wadelton and Summit CPA Group's virtual CFO, our Director of Tax, Dave Danic, Jennifer Bolton and Maggie Crowley, Senior Tax Manager Consultant and Senior R&D Tax Credit Consultant respectively from Leyton to discuss about R&D Tax Credit and how Summit CPA Group partnered and with Leyton to assist and help serve our clients better in this aspect.
"Sometimes CPAs get a little nervous or apprehensive because they're fully understanding what the research credit is about, how to claim it. So they're skeptical about how they want to prepare it or present it on return... So having another (party who) specializes in research credit services is very helpful because we're able to help the CPAs help their clients, which is basically the same goal that we all have in mind. Trying to get bigger amounts of credits for our clients, but we work together. So there's really no competition." - Jen Bolton
The finer details of this episode :
Episode resources
Tom Wadelton: Welcome to the Cleared Diagnostic Tax podcast. So we've got a great episode with a couple of guests here today. Joining us today, Jen Bolton a Senior Tax Attorney at Leighton USA, Inc. and Maggie Crowley is Head of Strategic Development, Head of Strategic Partnerships also at Leighton Inc. We’ve also got Dave Danic who is Tax Director here at Summit CPA Group. I'm Tom Wadelton. I'm one of the full-time Virtual CFOs here at Summit. So Dave, I'll start with you on R&D tax credits and what we offer to our clients. Do you want to tell a little bit about our story that may be similar to many of the people watching this?
Dave Danic: Sure. Yeah. Thanks Tom. R & D tax credits were one of those things when we were really growing as a firm, probably about six or seven years ago, it was one of those things where it's like, we had a client come to us say, oh, I heard about the R&D credit. Then another one came and then it started to be like this feeding frenzy of saying, wait, if this person can claim it, why can't I claim it? So it was a credit that we didn't have much exposure to just based upon our client base at that timeframe of our firm's history. Then I started diving into it and I spent hours upon hours trying to figure out the credit. We claimed a handful of credits for our clients, and I thought we did a decent job, but after a while it was like, I feel like someone else knows this a lot more than I do. And it's probably better for our client in terms of having an accurate tax return. So, that's where we started working and partnering with other companies to help, you know, just really be a support for us to give us confidence going forward. And that's where we run into groups such as Leighton. Thanks, Jen and Maggie for being here and being a support to us and our clients and things of that nature. So Jen or Maggie, I'm sure you run into a lot of CPAs like me who wish they knew everything, but they just can't, so how does that work when you partner with a CPA group or what do you find CPAs might be missing when it comes to client service in the R&D credit?
Maggie Crowley: I think a lot of CPA firms don't necessarily know just how many industries can qualify for the R&D tax credit. I mean, so many people when they think of a any tax credit, they think that it's white lab coats, people doing like test tubes and doing experiments, but it's actually, it's pretty broad. There's no limit, but I would say there are approximately like 70 industries that qualify for the R&D tax credit, ranging from dentistry to engineering, to manufacturing software, and life sciences. So, it's really applicable to a broad group. So I think with, when it comes to CPAs and CPA firms, you guys are busy and you don't necessarily have time to absorb that education about the R&D tax. I mean it's a thick part of the tax code. I don't know how many pages it is, but it's a lot. So it really, you need to take on that in a full scope and you don't necessarily want to do this incorrectly because we are dealing with the IRS. So it does behoove people to outsource it and let us do the dirty work when it comes to the R&D tax.
Jen Bolton: And if I can also add, sometimes CPAs get a little nervous or apprehensive because they're fully understanding what the research credit is. So they're skeptical about how they want to prepare it or present it on a return. And they don't really, as Maggie said, have the time to spend really understanding what the requirements are, the technicalities, the qualifications. So having another specialist in research credit services is very helpful because we're able to help the CPAs help their clients, which is basically the same goal that we all have in mind. Trying to get bigger amounts of credits for our clients, but we work together. So there's really no competition. It's a matter of achieving that same goal for our clients, maximizing their amount of their.
Dave Danic: Absolutely. Yeah, I was totally in that nervous camp at some point where just, as I said, like there were two angles, one, you want to make sure you're doing it correctly. And for a lot of CPAs, we're generalist at times like hey, I can be your general practitioner, but sometimes you need a cardiologist. So we're going to refer you to the cardiologist. And I think CPAs who are listening, like you don't want be seen as a sign of weakness. I see it as sign of saying hey, this is an opportunity for the benefit for the client.
Tom Wadelton: And Dave you know, with our clients, I don't really think I had any resistant from any client who said why can't you do this as part of your service? Why do you have to bring in someone else? Knowing that they have a group of individuals who are well versed in what the requirements are is huge.
Dave Danic: Yeah. So one of the hardest things for claiming the R&D credit for our clients is making sure their activities actually qualify for that. How do you go through the process with your CPAs and or the clients, making sure that they do qualify? Because I think it's one of those things where everyone's feels like, well, if my buddy Tom can claim it, then I should be able to claim it. So, what does Leighton do to make sure that they're qualifying for it in the correct way?
Jen Bolton: Yeah. So what we do is we have a couple of conference calls, emails, where we explain what the criteria is. And we also have a request where we ask for different types of projects that they worked on for the years that we're claiming. And then we have what's called a scoping call where we really start getting into the different activities for the individuals that were working on a project with. And so there have been times where clients thought projects qualify and we determined that they did not. There've been other times where clients don't know that a project did qualify. And so we really just discuss, what did you do during that time period? What types of projects were you working on? We go through what's called the four-part test, which is how you qualify. We walk them through the task. We take all their projects and we do a walkthrough of who was doing what and we explain the criteria we expect who is able to be qualified so that they really feel comfortable. As I've mentioned before, there are times where certain departments or certain projects themselves do not qualify. And we will explain that, and we've had clients sometimes say, well improving the health of our scientists we have a gym and we'd like to be able to claim that gym because that is an indirect type of expense. And we have to explain, we understand that improving their health and is being supportive, but that doesn't qualify. You know, we do see people try to come up with creative ways. We don't come up with a creative ways. We really want to stay within the letter of the law so that we feel comfortable, that the activities that are being claimed are qualified according to the code, the regulations and other guidance.
Maggie Crowley: I just wanted to add on one thing that really sets us apart from some other firms, that are the people that we have doing this work and qualifying it is not just our great staff of accounting professionals and other CPAs, but we also have those who have expertise within various different industries. So we have doctors, scientists, engineers, software experts, you name it. We have those people on staff so that they are truly understanding the activities that our clients are doing so that we are 100% sure that the activities we're qualifying will meet that four part test that Jen referenced and it becomes a really fun experience for our clients, they end up getting to like nerd out on the stuff that they are passionate about. And so it becomes fun. We don't often hear what a fun tax call that was, but we do often get that remark.
Dave Danic: So when would a CPA come too late in? If I'm thinking about the R&D credit and I think the client has something that qualifies. I'm guessing it's early in the process.
Jen Bolton: A lot of times we will find that CPA's right around this time are doing planning or they're beginning to file taxes. So we'll have an influx of referrals from CPAs, but I mean, let's say you take on a new client and you think there might be a good fit. It's worth having a chat with us. I wouldn't say there's necessarily a wrong time to inquire about the R&D tax credit because it is retroactive. And if you've never claimed you can look back by three years. So there's always opportunity to take a look.
Dave Danic: I don't like that rule. While it's nice for our clients I filed enough amended tax returns for the R&D credit and I'm ready to be more proactive.
Tom Wadelton: I agree. It's a ton of work.
Dave Danic: It is totally the right move for the client.
Maggie Crowley: The benefit is in getting the ball going right from the get-go. You don't have to do the look back because then it becomes something that we look at on a yearly basis because the credit is incremental. And typically clients are continuing to work on projects, whether it's a continuation of a project or they're doing new projects and another important factor that people don't understand, you don't have to be. As I've told clients failures are great. You know, it may not be great for the company or for their boss, but it's great for the research credit because it shows that you actually went through a process of experimentation, which is one of those four-part tests that are required because if it was so easy and you were able to do it, there really isn't that growth for that research. It doesn’t have to be innovative to the world. Doesn't have to be something that. Is strictly patentable. It can be new to that specific company, but failures are good because it does show that you're not able to achieve that result right from the get-go. So people tend to forget that. And so when we do talk about projects we talk about ones that not only are successful, but that didn’t happen.
Tom Wadelton: You now, when we talked about CPAs picking a candidate, one of the things I did that I assume you would do similar, is I sat down with another firm before we get clients involved and went through like 15 clients. And they gave me a little bit of criteria, but I went through them and said, here's what the client does. Here's why I think they probably do or don't qualify and got some of that initial view in where we ended up prioritizing probably a third of them where they said these look like the very best candidates to go after. I assume that's a similar process, rather than me deciding it's like, here's one that I know qualifies having an expert like you that you can sit down and kind of quickly go through and probably get rid of some and also find others.
Jen Bolton: Oh, absolutely. It's also industry wise, you know, most industries as Maggie was saying could potentially claim. So it's some, some clients you can pretty much eliminate right from the get go because you can see that they're not doing the research or they've contracted out with somebody else and they don't have the rights to that research. So there are certain industries or companies that you can kind of say when you look through the list, not sure that they'd be a good candidate. They only have one employee what's really going to be the benefit of that as well. So sometimes it's a matter of taking an initial look and being able to eliminate. Rather than every single client that you look at and say, hey, there's potential for research credit. You know, we are also able to help assist CPAs if they're interested in getting that basic knowledge. So we help educate CPAs. They don't have to do the research credit, but understand what to look out for so that they can help identify good prospect of clients.
Maggie Crowley: Yeah. Should we put on a number of webinars and round table forums? I think what adds such value to a CPA as an individual or as a firm is you're, you're taking this proactive approach to your client's business and it definitely, I mean, it certainly adds value to their business and then validity to your business. As a CPA you become sort of like a one-stop shop. You've got, you know, you can handle their general R&D tax credit, reverse sales and sales tax. We've got all the bells and whistles, you know, without actually having to have all the bells and whistles.
Dave Danic: Yeah that's kind of like when we have candidates going through the VCFO course, you know, that's what we teach them. It's like, sometimes you just have to be the quarterback and start getting the right players on the field. The business can move forward. So you talked about education. Absolutely. Now there's one tech centric CPA that needs some education. And Jen, I know you've been reading a lot on this, but what are these new rules coming with the R&D tax credit? We've got another filing season coming up. What are we in for?
Maggie Crowley: There's always change. We can't stay constant. There are two significant changes. One is effective for tax filings for 2022 so that they don't really have an effect until you file the 2022 tax returns in 2023, but it's something to be aware of is actually all the way from the Trump administration. It was in legislation that he put in the tax jobs act way back to be effective for 2022. And it's the 1 74 research expenditures prior to 2022 tax filing. Companies could take the expense of a research credit, of a research expenditure rather and fully expense it. They had to do some other significant add backs that we could talk about, but they were able to take that full expense effective for 2022 tax filings. You're no longer going to be able to do that. If you want to claim the research credit, you're going to need to imitate those expenditures over a five-year period, using a half year depreciation method, and you are going to have to include software costs. Those are now going to be part of these expenditures. So it has a significant impact because of the fact you're going to really need to keep track of the 1 74 expenses for research. I think the best way is to provide an example. If you had an employee who was engaged in research active fully so that you'd look at their salary, and say their salary was a full hundred thousand dollars and you were going to claim them before you could expense it under 1 62, which is ordinary necessary business expense, or you could expense it under 1 74 is a research cost. You really didn't need to segregate it. But now for the 2022 filings you would have to take that employees expenses of a hundred thousand dollars. You couldn't claim it under 1 62 as a wage expense, you would have to amortize it over five years under 1 74, if you want to be able to claim it for the research credit. So $20,000 is all you would get for the 2022 tax.
Dave Danic: Now we're really texts nerding out. So if there was any listeners that dropped off we understand. That's okay. So is that related to the add back once you get the credit?
Maggie Crowley: So say if I get a credit of a hundred thousand dollars, in the past you had to add if you didn't make the two 80 election, the two ADC election. But it's also the fact that now what you're amortizing, you would be adding back as opposed to the full expense. So yeah, I think, it was one of those things that accountants need to be aware of. If they're also going to be having their clients do research credit, because when they're preparing the return, a lot of times they have their own and the process of being ready and then they throw in the research credit it may need to be modified before they start to finalize the return.
Dave Danic: That’s the first question that our clients ask, how much is this? So now we have a different playbook of saying, you know, I would always give like a general 10% of qualified research expenses of what the credit would be. But now I might have to lower that a little bit and say hey, the benefit might get stretched out some based upon these new amortization rules.
Maggie Crowley: Well, you also could, instead of taking the amortization, don't forget if you're in a current year, what you do is instead of taking that full amount of the credit, there's an election that you can take to take a reduced amount of the credit so that you wouldn't need to go and do that. So, I mean, there's all these different intricacies and different rules that we are aware of. So we're able to help our clients become aware and help educate the CPAs. I will stop nerding out on that stuff.
Dave Danic: Well, no, that's actually really good because I think if our CPAs are talking to our clients about the R&D credit, that's always one of the first questions when you're talking to them, how much is this worth? And I might be a little bit more conservative on saying, this is how much you may be getting in terms of like tax dollars back.
Maggie Crowley: Another point that we usually like to bring out is we represent the company. So if you have say an S-corporation, so you have a taxpayer that has a pass through entity, when we prepare the credit we're preparing it for the company. It's the CPAs that really do the tax ones. So they do the allocation, same for partnerships. So it's hard for us to estimate what their actual benefit is going to be. And that's when we do look to CPAs to see, you know, where we can tell you what the amount is for the company. How that flows through to the individual owners or partners is not something that we can determine, because one, we don't know if there's different allocations in a partnership agreement who gets what things aren't always even or based on proportion of ownership. So that's really something that is important for us to work with the CPA so that the client gets a better understanding from the outset that no matter what the number is we give, if it's a flow-through it's going to be different. There's also return of a minimum tax, or there's a whole bunch of other factors that whatever that number is might not be the actual number because of specific circumstances to an individual.
Tom Wadelton: Right. Jen, are the changes enough that someone where the R&D tax credit for the year 2021 was worth pursuing that you would say it may not be worth pursuing?
Jen Bolton: It's the 2022 tax year, so it really doesn't take effect until 2023. We're also very hopeful that this will get reversed because there are so many people in opposition to this. You have to keep in mind, it came under the Trump administration. And so we've got a different president in office who is very much into research and innovation. If you remember, it was Barack Obama who actually made the permanent and also gave other benefits to the credit back in 2015 with the path act. So we are hopeful that it might get reversed. It's just that it's probably not on the radar right now as being as important. There was legislation in, I want to say the beginning of this year or beginning of last year in February that has asked for this to be reversed, but it's kind of just sat going nowhere. It's been an introduced bill that we've been watching as well. So we are hopeful that this will get reversed in the event.
Dave Danic: I think there was two educational tidbits. What was the next one? I think this one is also pretty pertinent CPAs.
Maggie Crolwey: This one just came out in October effective for January 10th of this year. The IRS, they don't want to just go through research credit claims anymore. They're going to put the burden on the company, on the taxpayer to provide new document requirements with the actual filing of the income tax return. The IRS claims it's only for refund claims. But we take a very conservative approach and we feel that is also for current claims because you could still be getting a refund on a research credit claim for current year. So we've been taking the approach that for all clients effective after January 10th and thereafter, we want to comply with these new document requirements. The new document requirements are basically you have to have a narrative that is attached to the income tax return that goes over every business component. So every type of project that was worked on in that year, that you're claiming, every individual that worked on that business component what their activities were. So you're tying their activities to the amounts of expenditures and that needs to be included. You also, they say the actual form, we'll go over you know what the qualified research expenditures are, but they want this narrative and we at Leighton always prepare a technical report that goes through and walks through what that four-part test is, how you qualify. But the IRS has now said that just submitting a technical report isn't sufficient. You never had to attach it before. It was, you had this in your back pocket in the event you got audited. So this was always something that you had in the event of an audit but you were never required to include all of that backup information. But the IRS is now saying in order to just even process or validate your claim we're going to look for that narrative. If for some reason you want to throw in your technical report, you're still going to need a narrative references to the exact pages where everything that they're looking for is. So it's one of those things where they're trying to put the burden on the company, on the taxpayer to identify everything and keeping that in mind, that doesn't mean that the credit is automatically approved. It's just saying, have you followed the procedural requirements that we're asking you for? Did you include all the employees, what their activities were and then we can put it in for processing.
Dave Danic: How many narrative writers have you hired? Because I know, I don't feel like writing a lot of these narratives if we have a specialist onboard.
Maggie Crolwey: So that's what we do. There's a lot of issues though, because you know, we have clients that we've done statistical sampling for. So that means that there's been lots and lots of projects going on. Over hundreds to thousands. And so we're still waiting on guidance. Does that mean we have to write up every single one of those reports that nobody knows at this point? This is so relatively new. If we've got a client that has a thousand projects, and we want to file that before you know, February 15th deadline is after January 10th.
Dave Danic: Yeah. Well that's interesting. I mean, what I've learned with all these tax changes is I always feel like I want to be ahead of the curve on knowing these new rules. Our clients expect us to know exactly what these rules mean, and they have a point, but at the same time, sometimes you just have to take a step back, wait a couple of weeks or a month and say, usually cooler heads prevail on some of these things. And hopefully that's a lesser of a burden. Now, do you think they put all these new rules in because people were getting too aggressive with the R&D credit.
Jen Bolton: I think a part of it is net. They've been burdened with, they get that by the time that they select somebody for an audit, they feel like we could have already eliminated this at the beginning. If somebody had put all this information in. It's hard to tell because we don't have any brainwork at the IRS to know what they were thinking. But it's our understanding that it was more of an easier administrative burden and maybe there'll be more selective with who they audit, because if we're able to put everything that they're looking for at the beginning, hopefully that's enough to help substantiate a claim and put it through as opposed to others that they might have some questions on. They'd be able to look at that perhaps at the get-go and say, we need more information on that because keep in mind, as I mentioned before you would file the form which had numbers on it. So it didn't really give you much background information.
Dave Danic: Yeah. That happens a lot. I think some of the states that we have to do the credit for are a little bit more on the type of information that they need. So that's great. Thanks for that education, Jen, at least for me, Tom, I don't know if you blacked out during that but I thought it was riveting.
Tom Wadelton: Yes, no, I found it very interesting, it does sound like a higher burden that's coming and I'm interested because I do have some clients, not with thousands of projects, but with a lot, and we've done the sampling and the thought of getting detailed on every single item it's difficult. And then the clients stay engaged, but they don't like this level of detail either as we go through and describe projects
Jen Bolton: You've got independent contractors, right? Who sometimes help do the work. You're going to need to find out exactly what they did because it's not just employees. You need to find out all individuals and what they did. And that's not always easy to assess because if you hire say a consulting firm, you don't know what employees were working on. You hired them for a purpose to say, complete a software or help you with code. You may have retained the rights to that code, but now you're going to have to put in detail for what their employee, their employees which are your contracts working on that project. So we are hoping for more clarification because of this honor as burden. You're not alone in this. There are other practitioners who are feeling the heat as well, and hoping for some further clarification to ease the.
Tom Wadelton: Okay.
Dave Danic: That's great. This has been great information. Thanks a lot, Jen. I would say one more thing. How do we get in touch with Leyton?
Jen Bolton: You can email us at: sdteam@leyton.com. You can always call us and you can always go on our website, which is leyton.com.
Tom Wadelton: Maggie, is there any particular, I don't want to say niche, but are there certain types of CPAs that you're saying maybe they are not as good of a fit? I'm thinking of like sizes of firms, sizes of clients, anything like that?
Maggie Crowley: No I think that's a really nice thing about Leyton. We're here to work with anybody. who's a good fit for the credit. We really are believers in what the credit actually does for a business and the growth that it allows them to have. I mean, for a smaller business, it can make a huge deal in like an early stage business for them getting through the year or getting to the next round of funding. And that's what we're all about. That's what Leyton is about actually helping during COVID. I think we were able to globally, we were able to source about 1.5 million for our clients. So the credit is a big deal.
Dave Danic: That's great. Well this has been awesome. Jen, did you say you had one more thing to say?
Jen Bolton: No, I was done.
Tom Wadelton: Yeah, this has been really good. Thank you. Good overall education for when the change is coming and that's really helpful. I think it's going to be really useful to a lot of our listeners.
Dave Danic: Very good. That's great. Well, thanks everyone. See you next time.