Two members of alliantgroup’s executive management team cover the intent of the credit, its value to C-level executives and its importance in ensuring future economic progress
After years of firsthand experience serving clients and building CPA and industry partnerships across the country, I can state, without a doubt, that the Research and Development (R&D) Tax Credit is the single most important incentive for U.S. businesses. This has been true since the credit’s inception—and considering its evolution over the last three decades and the ever-expanding influence of technology, the R&D Tax Credit has become crucial in ensuring a thriving and competitive economy.
Ever since my colleagues Dhaval Jadav and Shane Frank founded alliantgroup back in 2002 (and after I joined the firm in 2005), the three of us have witnessed this credit do extraordinary things. It has helped companies keep their doors open during a difficult recession, given countless businesses the opportunity to create jobs and allowed business owners to divert capital into new technologies.
Simply put, the history of the R&D Tax Credit is one of supporting American enterprise—and understanding its intent as well as its gradual evolution over time can offer us an important roadmap to the economic policies we should pursue going forward.
Founding and Early History: Revitalizing American Automakers
In response to the economic recession of the early 1980s and widespread concern about U.S. economic performance, Congress passed The Economic Recovery and Tax Act of 1981. Included within this legislation was a tax provision that would eventually come to be known as the R&D Tax Credit.
The intent of the credit was tied to a growing consensus that declines in research spending had negatively impacted economic growth and competitiveness. Congress reasoned that reductions in research spending had led to less innovation—which in turn led to inferior products, adverse effects on productivity, the outsourcing of American jobs and declining economic growth.
The struggles of the American economy were perhaps most evident in the automotive industry. According to statistics from the OICA, in 1950, the U.S. was producing three quarters of all the world’s automobiles. By the early 1980s, the U.S. had been overtaken by Japan as the largest automobile producer in the world. Given the industry’s historical significance in creating domestic jobs and in empowering the nation’s economy, the R&D Tax Credit was seen as the perfect stimulant to encourage American automakers to reinvest in their products and regain their competitive edge. Congress deemed the struggles of the automotive industry as symbolic of the larger economy—and thus a credit that rewards companies for technical innovation was born.
After a major overhaul as part of the Tax Reform Act of 1986, the parameters of the credit would be further defined over the next decade and a half by new Treasury regulations and court rulings. However, the most impactful change would occur two decades after the credit’s creation.
2001-2003: A Turning Point for U.S. Businesses…
Initially proposed in 2001 and later finalized in 2003, new regulations that eliminated the “Discovery Rule” would mark a major shift and expand eligibility of the R&D Tax Credit to countless businesses across the nation.
In layman’s terms, the Discovery Rule required that research activities must be “new to the world” to qualify, creating an absurdly high bar for businesses to receive the credit’s tax-saving benefits. With the rule gone, activities now only had to be “new to the taxpayer”, a standard that is much more favorable to U.S. businesses and business owners.
In my time as a consultant in this space, I have found that companies will often incrementally improve their products or processes over time rather than achieving an immediate industry-wide breakthrough. However, those gradual steps taken to improve efficiencies—whether it be the iterative technical steps to enhance an existing manufacturing process or updating software to better serve clients or improve operational procedures—are just as valuable as the big technological breakthroughs in increasing productivity and in ensuring U.S. businesses remain competitive in the global marketplace.
…and the Founding of alliantgroup
The elimination of the Discovery Rule was what sparked the founding of alliantgroup back in 2002, with Dhaval Jadav and Shane Frank realizing the immense opportunity that now existed for so many U.S. businesses. For years, the Fortune 1000 had monopolized their claim on the credit, and while the modifications would certainly work in their favor as well, the relaxed standards nevertheless opened the door for countless small to mid-market businesses to seize on a golden opportunity. However, unlike the Fortune 1000, most small to mid-market companies did not have the time, resources or the technical and tax expertise on-hand to seriously explore their newfound eligibility for the credit.
Realizing a whole new market had opened up for a company that specializes in government incentives, and realizing the need for someone to fill the void in educating small and mid-size businesses on the existence of these incentives, Dhaval Jadav and Shane Frank founded alliantgroup in a studio apartment.
Since then, alliantgroup has grown to more than 800 employees and put over $7 billion back into the pockets of U.S. businesses. We’ve witnessed firsthand how the credit was literally able to keep open the doors of numerous businesses in the years following the 2008 financial crisis. We’ve witnessed how the credit has helped companies grow their profit margins, allowing executives to hire new employees and keep high-paying technical jobs here in the United States. And most important, we’ve seen the credit’s potential in taking our nation’s economy in the direction it must go to stay competitive—a STEM-based economy.
Further Credit Expansions and Emerging Economic Challenges
In 2015, the Protecting Americans from Tax Hikes (PATH) Act was signed into law. Among a host of other provisions, the new law finally made the R&D Tax Credit permanent and featured two major modifications designed to further expand access to the credit to small and mid-size businesses and open up its availability to startups.
What were the reasons for this?
Much like when the credit was first-passed, there has been a growing awareness that further innovation is needed within the private sector. There have been multiple studies (such as this one conducted by The Brookings Institution) that note how business dynamism (i.e. the churning of established businesses and the formation of new ones) is on the decline, with older and larger companies doing better relative to younger and smaller ones. The result has been a drag on productivity and sustained economic growth, with the economy lacking the competitive forces that push businesses to put labor and capital to the best use. Such concerns explain why expanding access to the R&D Tax Credit was a high policy priority.
Dynamism aside, there has also been a drop in national innovation metrics. Earlier this year, the U.S. fell out of the Top 10 in Bloomberg’s Innovation Rankings—and while the headlines have been mostly positive with regard to the economy, this would seem to be a bad omen in terms of maintaining sustained economic growth given the growing and undeniable influence of technology on the direction of our economy. Coupled with our current STEM-talent shortage, a topic that has been covered by our CEO Dhaval Jadav in Forbes and in other publications, the next few years will be full of economic challenges.
Moving Forward: The R&D Tax Credit and the STEM Economy
The R&D Tax Credit rewards companies for the exact activities that drive our economy forward—be it the development of new technologies or the enhancement of existing ones that improve efficiencies, solve real-world challenges and improve our overall quality of life. These are the types of behaviors we need from the private sector to remain competitive, and now is the time for us to further strengthen our various federal and state R&D tax incentives and put them on par with other first world nations.
We could start by increasing the total value offered with regard to qualifying activities for the federal R&D Tax Credit. This currently stands at 6.5%—well behind other countries around the world. This restriction on the credit, as compared to what other countries offer, has been a major impediment in our nation’s ability to remain competitive. If we are seeking to create more innovative businesses, this will require further investment in the private sector.
Aside from offering additional value for the federal credit, our government could do a better job in making companies aware of the existence of federal and state R&D tax incentives. The federal R&D Tax Credit—and the various state R&D tax incentives offered around the country—were created for the express benefit of U.S. businesses. However, too many business owners are either unaware of the opportunities available to them or feel the process of claiming these incentives is not worth the hassle. As a nation, we need to make the process of claiming these incentives easier—be it informing the public through information campaigns or easing various reporting restrictions.
Implementing these measures would go a long way in strengthening the impact of the R&D Tax Credit and in supporting a STEM-based economy that creates high-paying jobs and improves economic opportunities for all Americans.
About the Author
Sonny Grover is Executive Vice President based out of alliantgroup’s New York City office. He is a Certified Public Accountant with more than 20 years of experience providing tax, mergers & acquisitions, structuring, and operational consulting to corporations, partnerships, and individual business owners throughout the world.
Previously, Sonny was a Tax Partner at Deloitte & Touche, LLP, where he managed a national consulting practice and a team of 30 professionals in 12 cities. Prior to Deloitte, Sonny was with Arthur Andersen. Sonny is a graduate of the University of Texas at Austin with his BBA & MPA (in tax).