R&D Tax Credits: Strategic Business Savings

Two federal rules decide what research costs a business: the Section 41 research credit, which pays back part of the spending, and Section 174A, which decides when the spending can be deducted. The 2025 tax law (Public Law 119-21) changed the second one. From 2022 through 2024, domestic research costs, including every software developer's salary, had to be spread over five years. For tax years beginning after December 31, 2024, they can again be deducted in the year they are paid or incurred.

This guide covers the expensing change and the deadlines that came with it, which activities and costs qualify, how the two credit calculations compare, how startups turn the credit into payroll tax savings, and what the new Form 6765 Section G requires from 2026. Figures and rules are as of September 2026.

Expensing is back, with a transition

Under Section 174A, domestic research and experimental expenditures are deductible when paid or incurred, and any amount paid or incurred to develop software is treated as such an expenditure. A business can instead elect to amortize them over at least 60 months. Foreign research is still amortized over 15 years under Section 174, so offshore development teams cost more in tax timing than domestic ones.

Illustration: a C corporation spends $2,000,000 on domestic development in a year. Under the 2022-2024 rules, it deducted 10% in the first year because of the half-year convention, or $200,000. Under Section 174A it deducts the full $2,000,000. The extra $1,800,000 of first-year deductions is worth $378,000 of tax at the 21% corporate rate, paid later rather than never.

Rev. Proc. 2025-28 sets out the transition options for costs capitalized in 2022 through 2024:

• Small businesses, meaning average annual gross receipts of $31 million or less for the first tax year beginning in 2025, could apply the new rules back to 2022 by amending those returns. That election had to be made by July 6, 2026, so it has closed. A small business that hadn't yet filed an original return for one of those years could still change methods on that late return.
• Any business can deduct the remaining unamortized 2022-2024 domestic costs in full in its first tax year beginning after 2024, or split them evenly over that year and the next. Calendar-year corporations on extension have until October 15, 2026 to file 2025 returns, so this choice is still open for some.

The credit also interacts with the deduction again. Under Section 280C(c), the research deduction is reduced by the credit, unless you elect a smaller credit (the credit minus 21% of it) and keep the full deduction. That election has to be made on a timely filed original return, including extensions.

What counts as qualified research

Section 41(d) sets four requirements, applied to each business component (a product, process, software program, technique, formula, or invention):

1. The costs must qualify as research and experimental expenditures under Section 174A.
2. The work must aim to discover information that is technological in nature, meaning it relies on the physical or biological sciences, engineering, or computer science.
3. The information must be meant for developing a new or improved business component.
4. Substantially all of the activities, which Treasury regulations set at 80%, must be part of a process of experimentation: identifying the uncertainty, considering alternatives, and testing them.

The statute excludes research after commercial production begins, adapting or duplicating an existing product, surveys and market research, research in the social sciences or humanities, research done outside the United States, and research funded by a customer or grant. The funding exclusion catches many software agencies and contract manufacturers: if the client pays whether or not the work succeeds, or you keep no substantial rights in the results, the research counts as funded and you can't claim it. Software developed mainly for internal administrative use faces extra tests, set out in the Form 6765 instructions.

Which costs count

Sources: 26 U.S.C. 41(b) and the Form 6765 instructions (December 2025).

The two ways to figure the credit

The regular credit is 20% of qualified research expenses (QREs) above a base amount. The base is a fixed-base percentage, capped at 16% and set by formula for newer companies, multiplied by average gross receipts for the prior four years, and it can't be less than 50% of this year's QREs. A company whose sales grow faster than its research spending sees its base climb and its credit shrink.

The alternative simplified credit (ASC) ignores gross receipts. It is 14% of this year's QREs above half of the average for the prior three years, or 6% of this year's QREs if the company had no QREs in any of those three years. You choose on Form 6765 each year.

Illustration: a software company's 2026 QREs are $1,220,000 of wages, $50,000 of supplies, $100,000 of cloud computing for development and testing, and $130,000 of contract research (65% of $200,000 paid to contractors), for a total of $1,500,000. QREs were $800,000 in 2023, $1,000,000 in 2024, and $1,200,000 in 2025.

For a profitable C corporation, the two 280C choices come out the same. The full $140,000 credit cuts the research deduction by $140,000, which costs $29,400 in tax at 21%, leaving $110,600. The reduced credit keeps the deduction intact. For a company with losses, the deduction may not be worth anything soon, so it usually matters which way you choose.

Now the regular credit for the same company, assuming a 4% fixed-base percentage. If average gross receipts for the prior four years were $15 million, the calculated base of $600,000 is below the $750,000 minimum, so the credit is 20% of $750,000, or $150,000, a little more than the ASC. If average gross receipts were $40 million, the base would be $1,600,000, above this year's QREs, and the regular credit would be zero. A company with no QREs in the prior three years would get 6% under the ASC, or $90,000.

Unused credits generally carry back one year and forward 20 years as part of the general business credit.

The payroll tax offset for startups

A startup with no income tax to offset can still use the credit. A qualified small business, under Section 41(h), is a corporation or partnership with gross receipts under $5 million for the year and no gross receipts in any year before the five-year period ending with that year. It can elect to apply up to $500,000 of credit a year against payroll taxes. Under Section 3111(f), the first $250,000 offsets the employer's 6.2% Social Security tax and the next $250,000, available for tax years beginning after 2022, offsets the employer's 1.45% Medicare tax. The offset starts in the first calendar quarter after the income tax return is filed, is claimed on Form 8974 with the quarterly Form 941, and unused amounts roll to the next quarter.

Illustration: a startup had its first revenue in 2023 and has $1.2 million of gross receipts in 2026. Its QREs were $300,000 in 2023, $500,000 in 2024, $700,000 in 2025, and $900,000 in 2026, so its 2026 ASC is 14% of ($900,000 minus $250,000), or $91,000. It files its 2026 return in March 2027. On a $2 million annual payroll, the employer's Social Security tax is $31,000 a quarter, so the credit covers $31,000 in the second quarter of 2027, $31,000 in the third, and the last $29,000 in the fourth. A company with a smaller payroll takes longer to use it, and the Medicare offset only matters once the Social Security portion reaches $250,000.

Because the five-year rule counts from the first year with any gross receipts, which can include investment income such as interest, check the company's revenue history before planning on the offset.

Form 6765 Section G from 2026

Section G asks for information by business component. The December 2025 instructions make it optional for tax years beginning before 2026 and required for tax years beginning after 2025, with two exceptions:

• A qualified small business electing the payroll tax credit.
• A company whose total QREs, measured across its controlled group, are $1.5 million or less, whose average gross receipts for the prior three years are $50 million or less, and that is claiming the credit on an original return.

Companies that must complete it report enough business components to cover at least 80% of total QREs, up to 50 components, largest first. For each they give the entity's EIN and business activity code, a name or ID that matches their books, the component type (product, process, or other), the software type if relevant (internal use, dual function, non-internal use, or excepted), wages split among people doing, directly supervising, and directly supporting the research, and supplies, computer rental, and contract research costs. Column 49(f), a description of the information the company was trying to discover, is required only for credits claimed or increased on amended returns.

In practice this means the tracking has to exist during the year. Tie time records to named projects that match your ticketing or engineering system, keep dev and test cloud accounts separate from production so computer costs can be assigned to components, and keep contractor agreements showing who bears the risk of failure and who owns the results. Our guide to AI in project management covers project tracking tools, and our cloud cost optimization guide covers account and tagging structure.

Before you claim

1. Check each project against the four requirements and the exclusions, especially the funded-research rule if you build for clients.
2. Decide the Section 280C election before filing the original return; it can't be made later.
3. Figure both the ASC and the regular credit if you have the gross receipts history for the regular method.
4. For a startup, confirm qualified small business status and make the payroll election on the return, then add Form 8974 to the payroll filings from the following quarter.
5. If the 2025 return isn't filed yet, decide how to recover any unamortized 2022-2024 research costs.
6. Look up your state's credit separately; the rules and forms differ.

The cash from the credit usually arrives a year after the spending, so plan for it in the cash flow forecast rather than the current quarter's budget. For how venture-backed companies plan runway and funding rounds, see our venture capital guide.

This guide is for informational purposes only and does not constitute tax or legal advice. Rules, thresholds, and deadlines are as of September 2026 and can change with legislation or IRS guidance. Research credit claims receive close IRS review; work with a qualified tax adviser before filing.