22
STAR*TECH JOURNAL/MARCH 1983
AN R&D TAX CREDIT FOR YOUR
ELECTRONIC COIN-OP BUSINESS?
By Mark E. Battersby
Research and experimentation in your coin-op
amusement business?
Thousands of operators, technicians and service
firms are missing a fantastic opportunity to have
Uncle Sam pick up 25 percent of the expenses of
such things as developing new products and pro-
cesses - or 25 percent of the cost of the computer
programs needed to run or expand your operations.
One of the aims of the Economic Recovery Act
of 1981, a provision untouched by more recent tax
law changes, was to stimulate businesses to invest
more capital into research and experimentation
projects. In furtherance of that goal, Congress
enacted a new tax credit designed to promote
greater research and development spending and
even amended the charitable contribution rules in
an effort to encourage more donations of scientific
equipment to colleges and universities.
Congress obviously felt that R & Din both the
private and public sectors would help bolster the
economic growth of the country, simulate produc-
tivity and strengthen competition in the world
marketplace. However, while the law may have
been intended primarily for large manufacturers,
there is no reason why the average coin-op
amusement machine owner or service firm cannot
employ the same rules in order to reap tremendous
tax benefits from their own operation.
Consider those expenses encountered by so
many service businesses as they discover existing
"canned" computer software just doesn't meet
their needs. Under the present tax rules, the costs
of developing computer software, generally defined
as new or significantly improved programs or
routines for computers, are eligible for the R&D
tax credit. And what a tax credit it is!
The tax law now provides a tax credit for
incremental research expenses paid or incurred
after June 30, 1981 and before January 1, 1986.
The credit equals a whopping 25 percent of the
increase in qualified research expenses for the tax
year that exceed the average qualified research
expenses in a particular "base period".
The base period is the last three years preceding
the tax year in which the credit is being claimed.
However, being relatively new, the base period for
1982 is 1980 and 1981 ; for tax year 1983, 1980,
1981 and 1982 are the base years.
In figuring the credit for the first tax year
ending after June 30, 1982, a taxpayer must take
into account only a portion of the qualified research
expenses for the base period. To compute this
portion, the operator uses a fraction, the numerator
of which is the number of months in the tax year
after June 30, 1981, and the denominator of which
is the number of months in the tax year. The
research expenses for the base period are multiplied
by this fraction. The resulting figure is the amount
of base period expenses to be used when computing
the tax credit.
For instance, suppose the Doe Electronics, a
company engaged in the development and manu-
facture of coin-op games, is a calendar-year
taxpayer. In 1980, it had $10,000 of qualified
research expenses; from January l, 1981, through
June 30, 1981 it had $6,000 of qualified research
expenses; and from July l, 1981, through
December 31, 1981, it had $7,000 of qualified
expenses. The base period for the 1981 tax year
was 1980 as we mentioned. However, because the
1981 research credits can be computed only using
the qualified research expenses incurred for the
last six months of the 1981 tax year, the base
period expenses are 6/12 of $10,000, or $5 ,000.
The 1981 tax credit would be figured on $2,000
($7,000 - $5,000).
If our Doe Electronics had $15,000 in qualified
research expenses in 1982, it would figure its 1982
tax credit using the qualified expenses from 1980
and 1981, its base period. The base period expense
this situation would be $11,500, the average of the
research expenses in 1980 ($10,000) and 1981
($13,000). The 1982 tax credit will be computed
on $3,500 ($15 ,000 - $11,500).
Only those research expenses incurred by an
on-going business may be applied to the tax credit.
Individuals and organizations that are not engaged
in a trade or business are not allowed a credit for
any expenses they incur for research and experi-
mentation. Fortunately, an on-going business may
still claim the credit even if it has made an election
to currently deduct the costs of research and
experimental activities.
Naturally not all research qualifies for this 25
percent tax credit. Only research and experimen-
tation performed by an operator or service firm
that may be deducted or amortized under our tax
rules will qualify. Generally, this means only
research and development in the experimental or
laboratory sense ( such as physics or biochemistry),
or in the fields of engineering or technology. The
development of an experimental or pilot model,
plant process, formula, invention or similar property
as well as the improvement of such types of
property already in existence, is included.
Although developing computer software clearly
qualifies, there are a number of activities that are
ineligible for this tax credit. Among these ineligible
activities are:
Clearly most small operators are not going to
attempt to develop their own sophisticated
computer software nor are they likely to hire new
employees, incur supply expenses or anything else
that might qualify as R&D costs. What most do is
go to the experts.
A contract research expense is an amount paid
for the performance of research to an unrelated
party for the benefit of the operator. Only the
taxpayer paying for the research may claim the tax
credit, however, and only 65 percent of the amounts
paid for the contracted services are eligible for the
credit.
Prepaid expenses come under a special rule
that provides that only the portion of prepaid
expense relating to research performed during the
tax year may be included for credit purposes.
Jones Games, Inc., a calendar-year electronics
systems service firm specializing in video games,
retains a programming firm at the end of 1982 to
design a game program in the following year. The
full contract price of$15,000 is paid at the time the
agreement is entered into, but no part of the
purchase price may be used toward the credit in
1982. Instead, $9,750 (65% of the $15,000
contract price) is eligible for the credit in 1983
when the programming is actually performed.
The new research credit, computed on Form
6765 , provides a dollar-for-dollar reduction in the
operator's tax liability. Naturally, the credit taken
in any year cannot exceed tax liability for that year
although any portion of the research credit that
cannot be used may be carried back for three years
and carried forward for 15 years and subtracted
from tax in those years.
To actually figure the credit for increasing
research activities, Form 6765 is attached to the
• Market and consumer research.
annual income tax return. Subchapter ' S' corpora-
tions, estates, trusts and partnerships must also
• Advertising or promotion expenses.
attach Schedule K to their returns to show how the
• Management studies and efficiency surveys. credit was divided among their shareholders,
• Acquisition of another person's patent, ' beneficiaries or partners.
model, product or process.
As already mentioned, the amount of the credit
• Research funded by another person or any : which an operator is allowed for a tax year is 25
governmental entity by means of a grant or : percent of the amount that the qualified research
contract.
expenses for the year exceed the average qualified
Only certain types of research will qualify for research expenses for an earlier base period. Of
the new credit: in-house research, contract research course if the qualified research expenses for the
and basic research conducted by certain entities. year do not increase over the average qualified
Within these types, there are basically four categories research expenses during the base period, no credit
will be allowable.
of expenses to which the new tax credit will apply,
the first three of which refer to in-house research
It should be apparent by now that although
activities:
Congress may have had large scientific or techno-
( 1) wages for employees involved in the research logical research and experimentation in mind
activity;
when they created the 25 percent R & D tax credit,
(2) cost of supplies used in research;
its benefits haven't been denied to the average
(3) payments to others for leasing personal coin-op amusement game owner or service firm.
property or payments to others for the rights to u£e Whether a small service firm developing or having
developed custom computer software or a multi-
personal property in research; and
( 4) 65 percent of costs of contracting with national amusement games manufacturer developing
a new product, the government will pick up a large
another party to conduct research on the taxpayer's
part of the tab thanks to this tax credit.
behalf.
Amounts paid for the use of computer property
which are eligible for the credit also include certain
computer user charges for the use of a computer in
the conduct of qualified research. However, com-
puter user charges paid for using a computer to
prepare a payroll, to record and collect routine
data or to aid in market research or production
quality control, etc., are not eligible expenditures
for the research credit computation.
Developing either a product or software in-
house or contracting with an outside expert to
accomplish the same goal just may qualify you or
your operation for this unique tax credit in addition
to the normal tax writeoffs for business expenses
and computer software. It would pay you to check
with your own tax adviser to see just how this new
tax incentive can benefit your own coin-op
amusement business.