Software Research & Development Tax Credit Study
How can software qualify for the R&D tax credit?
Despite being a huge benefit to software and technology companies around the country, the Research and Development Tax Credit is often overlooked. From evaluating algorithms to testing and releasing, there are qualified activities throughout software development. At Calvetti Ferguson, we stay up to date with relevant IRS literature, as well as case law, and have extensive experience working with a variety of engineering, manufacturing, and software companies to qualify and quantify the tax credit.
The internal revenue code, section 41, outlines the requirements for the R&D credit, however, the high-level requirements for an activity to qualify can be summarized by the “four-part test” as explained below.
- New or Improved Business Component for a Permitted Purpose: Must develop a new or improved product, process, formula, invention, software, or technique for the purpose of performance, functionality, quality, or reliability.
- Programming a new module or program
- Improving efficiency, functionality, stability of existing code
- Developing new algorithms
- Process of Experimentation: To overcome uncertainty, you must evaluate one or more alternatives in a systematic way.
- Evaluating alternative architectures, prototypes, algorithms
- Systematic process of testing an evaluation
- Encounter Uncertainty: During the development of the “business component”, you must encounter uncertainty regarding the final design, methodology of achieving desired outcome, or capability of achieving the desired outcome.
- Appropriate technology
- Correct architecture: Fundamental structures of software system and the discipline of creating such structures and systems. Each structure comprises software elements, relations among them, and properties of both elements and relations.
- Integration: Back-end development of new software applications and platforms, such as CRM applications or engines using sourcing codes (C++ or Java) and ties into web base front end.
- Technological by Nature: Development must rely on the principals of computer science and engineering.
If your activities satisfy this four-part test, the associated wages, supply costs, and/or third-party contractor expenses could qualify towards the tax credit. We often see the credit amount to 10% of those qualified expenses.
Software company case study
Calvetti Ferguson performed an R&D tax credit study to review the software company’s activities and expenses during tax years 2017-2019. As a result, Calvetti Ferguson assisted the software company in receiving over $275,000 in federal tax credits.
During the study period, the company designed and developed unique software to provide companies control over their telecom and wireless asset management. This qualified business had annual revenues averaging between $8 to $11 million and employed between 100-130 employees.
Commonly qualified activities in software:
- Concept development
- Brainstorming alternatives
- Software requirements analysis
- Proof-of-concept and prototyping
- Programming new features, modules, enhancements
- Design reviews, scrums, code reviews
- Static testing
- Dynamic testing
- Unit testing
- Integration testing
- Build verification tests
- Creating test cases
- Developing automated testing methods
- Alpha and beta testing
Commonly qualified projects in software:
- Mobile applications
- Manufacturing controls
- Virtualization software
- Order tracking systems
- Internet security software
- Software as a Service (SaaS)
- Claims processing software
- Financial transaction software
- Hardware/software combinations
- Content management systems
- Analytic software packages
Calvetti Ferguson works with mid-market companies, nonprofit organizations, and high net worth individuals across the country. Regardless of the complexity of the compliance, assurance, advisory or accounting need, our team stands ready to assist you. Please complete the form below, and we will follow up with you shortly.