The short version
R&D does not have to happen in a laboratory. Software companies, manufacturers, engineering firms, construction companies, food and beverage businesses, and startups may all perform activities that qualify for the federal R&D tax credit under IRC Section 41.
What Is the R&D Tax Credit?
The R&D tax credit is a federal tax incentive designed to encourage businesses to invest in innovation in the United States.
Qualifying research may involve developing or improving:
- Products
- Software
- Manufacturing processes
- Engineering designs
- Formulas
- Techniques
- Production methods
Unlike a deduction, a tax credit generally reduces tax liability directly. Certain eligible small businesses may also be able to apply research credits against qualifying payroll taxes.
Who Qualifies for the R&D Tax Credit?
Research activities generally must satisfy the IRS four-part test:
Permitted Purpose
The research is intended to improve the function, performance, reliability, or quality of a product, process, software program, technique, formula, or other business component.
Technological in Nature
The research relies on engineering, computer science, physical science, or biological science.
Technical Uncertainty
The business faces uncertainty about whether or how it can achieve the desired result.
Process of Experimentation
The company evaluates alternatives through testing, modeling, simulation, prototyping, engineering analysis, or systematic trial and error.
The project does not have to succeed. Failed prototypes and unsuccessful experiments may still contain qualifying R&D activities.
What Expenses May Qualify?
Qualified Research Expenses (QREs) can potentially include:
- Employee wages for employees performing, supervising, or directly supporting qualified research
- Supplies used or consumed during qualified research
- Certain contractor expenses related to qualified research
- Certain computer and cloud-computing costs used for qualifying research activities
Not every expense associated with product development automatically qualifies. Businesses should be able to connect the expense to an underlying qualified research activity.
What Industries Can Qualify?
R&D tax credits are not limited to technology companies.
Businesses that may have qualifying activities include:
- Software and technology
- Manufacturing
- Engineering
- Architecture and construction
- Food and beverage
- Life sciences
- Medical technology
- Product development
Eligibility ultimately depends on what the company is doing, not simply its industry.
Can Startups Use the R&D Credit Against Payroll Taxes?
Certain Qualified Small Businesses (QSBs) may elect to apply up to $500,000 of research credit annually against qualifying payroll taxes, subject to federal eligibility requirements.
This can make the R&D credit particularly valuable for startups that are investing heavily in development but have not yet generated significant taxable income.
How Do You Claim the R&D Tax Credit?
The federal research credit is generally calculated and reported on IRS Form 6765, Credit for Increasing Research Activities.
A proper R&D tax credit analysis generally involves:
Identifying qualifying projects and activities
Determining qualified research expenses
Reviewing payroll, accounting, and contractor records
Calculating the available credit
Preparing supporting documentation
Completing the applicable federal and state tax filings
For tax years beginning after 2025, certain taxpayers also face expanded Form 6765 business-component reporting requirements.
What Documentation Is Needed?
Documentation is one of the most important parts of an R&D tax credit claim.
Supporting records may include:
- Payroll records
- Project-management records
- Engineering or technical documentation
- Software-development records
- Prototype and testing records
- Contractor agreements
- General ledger information
- Design revisions
- Emails and project communications
The goal is to establish a reasonable connection between the research activity, technical uncertainty, employees or contractors performing the work, and expenses being claimed.
Does California Have an R&D Tax Credit?
Yes. California has its own research credit for certain qualified research conducted within the state.
Businesses operating in California or multiple states should consider both federal and applicable state R&D tax incentives because state rules and calculations can differ from federal requirements.
Common R&D Tax Credit Mistakes
Common problems include claiming all engineering or software wages, using unsupported employee percentages, including routine production activities, claiming foreign research, failing to review contractor agreements, and maintaining insufficient documentation.
An R&D credit study should not simply produce the largest possible number.
The goal should be identifying the maximum defensible credit supported by the company's actual activities and records.
R&D Tax Credit Services from Valoria Consulting
Valoria Consulting provides R&D tax credit consulting and tax advisory services to businesses evaluating federal and state research incentives.
Our team can assist with:
- R&D tax credit eligibility analysis
- Qualified Research Expense review
- Federal R&D credit calculations
- Form 6765 support
- California and multistate R&D credits
- Documentation and audit-readiness review
- Prior-year R&D credit opportunities
- R&D-related tax planning
Related reading
- R&D Tax Planning for 2025 and 2026: What Changed
- Your CPA Said You Weren't Eligible for the R&D Tax Credit. Are You Sure?
- What Is Cost Segregation? A Guide for Property Owners
- Ten Signs You're Paying More Taxes Than You Need To
This article is for general informational purposes and does not constitute tax, accounting, or legal advice.
Find Out if Your Business Qualifies
If your company develops software, products, manufacturing processes, engineering solutions, formulations, or other technical improvements, you may qualify for federal or state R&D tax credits. Schedule an R&D Tax Credit Consultation with Valoria Consulting to evaluate your activities, potential qualifying expenses, and available tax credit opportunities.