Some of the latest trends in the food and beverage industry that may qualify for the Federal research and development credit are:
- Reducing the number of ingredients
- Sustainability
- Reducing sugars
- Use of local ingredients
- Eco-friendly packaging
Let’s say you are a food manufacturer with all production and activities taking place in the United States. Following is an example of the steps taken in an R&D study.
STEP 1: Brainstorm the various projects you’ve worked on throughout the year.
Example:
You call a meeting with a representative from each department: Lab, Production, Sales, Research and Development, Management and come up with the following list of potentially qualified R&D projects:
Project A: Reduce amount of sugar in granola bars
Project B: Reduce the number of ingredients used in the breakfast cereal
Project C: Adjust the recipe and ingredients of one flavor of the granola bar line to offer a gluten-free option to consumers
STEP 2: Once you have a list, apply the four-part test to each project to determine if it qualifies. Keep in mind that whether or not the project was successful has no bearing on qualification for the credit. Activities from concept through release to commercial production are considered for research and development.
There is a four-part test to determine if your activity qualifies:
- Technical uncertainty
- Process of experimentation
- Technological in nature
- New or improved business component
Example:
Project C: gluten-free option
Technical uncertainty
This was the first time our team was going to try a gluten-free option. It was unknown at the time if the product would be able to maintain its texture, quality, and flavor that would satisfy consumer needs due to the drastic change in ingredients that was required.
Process of experimentation
It took several recipe modifications (see attached recipe documentation) to create a viable product. A process of focus groups, regulation testing, and ingredient sourcing to come up with the final product as well.
Technological in nature
The baking process in itself is based on the chemistry of ingredients.
New or improved business component
This was the first gluten-free offering in our line of granola bars that our company sells to various food distributors.
STEP 3: Quantify the costs associated with the R&D process for the qualified activity. Allowable costs include wages, supplies, computer lease or rental and some contractor expenses. The work must be performed in the United States to qualify.
Example:
If your business has been doing R&D activities for years without taking advantage of the credit, you will have to go back into your records to identify and quantify costs.
Wages will likely be the largest cost contributing to the credit calculation, and also the most difficult to calculate the time spent. Start by creating a report with every employee, their job title, and their W-2 Federal Taxable Wages. If 2017 is the first year you plan to take advantage of the credit, you will need this information starting with 2014. The prior year information is needed in order to calculate the credit because the calculation uses a prior year average to determine how much the current year credit should be.
Hopefully there is a particular expense account that your company has been using for R&D related supplies. Run a report for this account, and label the expenses with the particular R&D project name.
STEP 4: Once you have the dollar amounts for wages and supplies, the company’s credit potential can be calculated. We may request some of your documentation so that we have the support in the tax file along with the credit calculation. Documentation is key to the support of the credit.
A couple helpful tips:
- Think of supervisors (they do not need to meet the four-part test), trial production runs, etc. – they likely all play a role in your R&D process.
- As you are gathering past and current data, think of ways to better capture the details throughout the year to save time when things are most crunched – year-end and tax season.
To learn more about how much credit your company qualifies for, contact a professional at Wegner CPAs. We can help you navigate any or all of the steps above to make sure you are maximizing your company’s R&D credit benefit.
