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3 small-business tax credits you may be able to claim

Posted by Kanika Sinha

August 11, 2021    |     3-minute read (777 words)

Business tax credits, usually meant to incentivize a certain kind of activity, let companies subtract a set amount of taxes otherwise owed to the government. The tax credit is applied by the business when it files its annual return.

By taking advantage of such credits, your business’ tax bill is reduced, and you can potentially invest that money back into your company. Unfortunately, some entrepreneurs and business owners don’t take advantage of these credits, often due to the complexity of the tax code or because they are unaware and have limited or no access to an accountant or tax professional. 

Are you certain you’re not leaving money on the table? Read up on three important small-business tax credits that could work in your favor.

  1. The Employee Retention Tax Credit 
The ERC aims to keep employees on U.S. business payrolls. First implemented in March 2020 as part of the Coronavirus Aid, Relief, and Economic Security (CARES) Act, the ERC was extended through 2021 with the American Rescue Plan Act.

How the ERC works

For 2020, eligible businesses get a refundable tax credit of 50% of up to $10,000 in wages including certain health insurance costs paid to employees after March 12, 2020, and before January 1, 2021. That means eligible employers can claim a credit of up to $5,000 for each employee they paid for last year.

Those eligible can get immediate access to the credit by reducing employment tax deposits they are otherwise required to make. Employers whose employment tax deposits are insufficient to cover the credit can get an advance payment from the IRS.

The American Rescue Plan Act expanded the ERC. In 2021, eligible businesses can get up to 70% of up to $10,000 in wages paid per employee per quarter, up to a maximum of $28,000 per employee.

Eligibility for the ERC:

This credit is available only for businesses that have been financially impacted by COVID-19. 

For the 2020 credit: Only employers that suffered full or partial shutdowns of operations or saw at least a 50% quarterly decline in gross receipts due to the COVID-19 pandemic are eligible.

For the 2021 credit: The program’s rules were expanded to include a wider swathe of pandemic-affected businesses. The threshold for eligibility was reduced to a 20% dip in gross receipts every quarter.

Claiming the ERC

Eligible employers can use IRS Form 941

  1. The Research and Development (R&D) Tax Credit
This credit aims to encourage businesses to invest in innovation. It was introduced in 1981 and made permanent in the Protecting Americans from Tax Hikes Act of 2015. 

How the R&D tax credit works:

The potential value of the R&D tax credit varies, based on the eligible company’s qualified spending. Startups and small businesses can apply for up to $250,000 each year for up to five years of the federal R&D credit to offset the Federal Insurance Contributions Act (FICA) portion of their annual payroll taxes, income taxes or alternative minimum tax (AMT).

Though a federal program, the majority of U.S. states also provide a comparable tax credit to businesses. 

Eligibility for the R&D tax credit:

This tax credit is available to all organizations that engage in activities to develop, design or improve products, processes, software, techniques or formulas in the course of their business.

Claiming the R&D tax credit: 

File IRS Form 6765, Credit for Increasing Research Activities.

  1. The Work Opportunity Tax Credit 
This tax credit targets increasing employment opportunities for people who have typically faced significant barriers to employment.

Initially created in the Small Business Job Protection Act of 1996, the program has since been extended. This year’s Consolidated Appropriations Act further extended the Work Opportunity Tax Credit through 2025.

How the WOTC works

Depending on the target group of people from which employers hire, the program provides a tax credit of up to $9,600 per employee. However, the credit is limited to the amount of the business income tax liability or social security tax owed by taxable businesses and qualified tax-exempt organizations respectively.

The incentive is nonrefundable, but any unused credit can be carried back one year and carried forward for up to 20 years by eligible businesses.

WOTC eligibility:

The Work Opportunity Tax Credit is available to employers that recruit individuals from 10 target groups listed by the IRS. These include qualified veterans, designated community residents, former felons, qualified supplemental security income recipients, summer youth employees and supplemental nutrition assistance program recipients, among others.

Claiming the WOTC

Eligible employers should visit the IRS' Work Opportunity Tax Credit website.

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