by Carter Johnson
In the manufacturing sector, there are many ways to achieve success. Most businesses in this sector attempt to achieve their objectives through the means of creation, production, and fostering growth. For these companies, difficult decisions are inevitable in the pursuit of achieving their goals. Many of these decisions have to do with taxation. When making these decisions, it is essential for the owners to know all of their options. Planning ahead and identifying alternatives are great ways for manufacturing companies to decrease their tax burden while achieving their goals in the process. Below are a few opportunities companies in the manufacturing sector should be aware of.
Research & Development Credit
In order to fully understand the Research and Development Credit (R&D Credit), we need to establish a clear definition of the term “business component.” A business component can be a product, process, technique, formula, computer software, or invention. Basically a business component is an element of your company that helps you do business. In terms of qualified activity, the credit is available to companies researching an unfunded business component that meets the following criteria:
- Technological in nature
- Uses experimentation
- Eliminates uncertainty
- Ultimately attempts to generate new and improved performance
The credit allows companies to use approximately 5 to 7 percent of Qualified Research Expenditures (QRE). Generally the following types of expenses qualify as QREs:
- W-2 Wages for direct research, direct supervision of research, or direct support of research
- Supplies and materials used
- Contracted research fees (65% of fees are eligible for the credit)
Research projects that are eligible for this credit can include but are not limited to the creation of a new product or prototype, testing alternatives by using computations, and internally developing software. The credit has many benefits to the company; perhaps the largest being that the research performed does not require success. Also, research conducted only has to be new to the organization rather than new to the industry as a whole. Additionally, this is a dollar for dollar credit that reduces the entity’s tax liability rather than simply reduce taxable income.
Section 199 – Domestic Production Activities Deduction
The DPAD incentivizes production within the United States by allowing a deduction of 9% of qualified production income. In order to qualify for the deduction, manufacturing companies must answer two simple questions: Does your company make something within the United States? Did your company make money? If you can answer yes to both questions, then your company qualifies for the credit. It’s that easy! Making something can include anything from manufacturing or production to growth or extraction. An important element of maximizing the DPAD is identifying your Domestic Production Gross Receipts. By determining this amount, you can properly allocate your costs to determine your qualified production income. This provides a major opportunity for the entity to maximize the benefits of this deduction.
Manufacturing companies should also consider the state of their fixed assets for tax purposes. The tax code provides companies with two major benefits in regards to depreciation. First off, Section 179 allows a company to depreciate up to $500,000 of new equipment purchased during the year (if purchases were less than $2 million). This provides a major benefit for companies trying to expand their business through the acquisition of machinery and other capital. In addition, bonus depreciation opportunities were extended through the year 2019.
Another aspect of fixed assets to consider is the construction of new buildings. Segregating costs between the building structure and support machinery can accelerate the use of depreciation in a major way. Instead of depreciating over a 39 year period, costs for support machinery can be depreciated over a much shorter time period.
The Interest-Charge Domestic International Sales Corporation is designed to provide a benefit to those who have sales to foreign countries. The IC-DISC is a separate corporation that files a US tax return, but generally does not pay taxes. The manufacturer may choose to pay commission to its IC-DISC and receive a tax deduction of up to 39.6%. In turn, the IC-DISC pays a dividend, generally taxed at 15%, resulting in a net tax savings to the affiliated group. IC-DISC legislation is very complicated, so it is important to understand your company’s specific situation before making a decision. Like most opportunities for tax deductions, planning ahead is key in order to receive maximum benefits.
Other Credits & Incentives
One opportunity many manufacturing firms can take advantage of is the Work Opportunity Tax Credit. This credit was extended through 2019 and allows the company to take a credit for hiring certain classes of individuals. This includes disabled veterans, ex-felons, long-term unemployed workers, and people using TANF or food stamps. Additionally, this credit allows for residents of Rural Renewal Counties to qualify. Check the link at the end of this article to see the complete listing of qualifying individuals and list of counties in Nebraska that are considered Rural Renewal Counties.
Another area to emphasize when planning in the manufacturing industry is to be proactive regarding state and local tax incentives. Many states have credits for creating jobs, expanding technology, and revitalizing depressed economic areas.
Should you have any questions on the tax savings opportunities that may be available for your company, please contact our office. Our Manufacturing Industry Specialty Team can help analyze your business and identify credits and incentives that you may be missing.