©2010 larsonallen llp 1 tax incentives for manufacturers simulation association december 6, 2011...
TRANSCRIPT
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Tax Incentives for Manufacturers
Simulation Association
December 6, 2011
Steve Roark, CPAMarni Spence, CPA
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Overview
• The Tax Formula• The Research Tax Credit • Cost Segregation &
Depreciation• IC-DISC
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The Basic Tax Formula
Key to Savings
Key to Savings
Gross Receipts (Income) 2,000,000$ Less
Deductions (1,500,000) (reduce taxable income)
(e.g., Depreciation, COGS, Payroll, etc.)
Total Taxable Income 500,000
Income Tax Rate 35%Tax Due 175,000
Tax Credits 150,000($ for $ savings)Tax Check to IRS 25,000$
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The Research Tax Credit
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The Research Tax Credit
• Background– Qualified Business Components– R&D versus R&E– General Process
• Contracting Considerations– Rights, Risk, Funding and Contracts
• R&E Timeline• Documentation• Credit Calculation
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Overview of the Research Credit
• Created in 1981– Temporary part of the tax code – available through
12/31/2011– Recent guidance has given much better definition of
what qualifies and what a valid claim must contain– Benefit highly lucrative if claimed correctly
• Business Component – New or Improved Product or Process– New to client (not necessarily the world)– Process Improvement and/or Redesign may qualify
Buzzwords: Patent, Patent Pending, New, Improved, Engineer, Coder, Design, Test, Prototype, Alpha/Beta, Upgrade
Buzzwords: Patent, Patent Pending, New, Improved, Engineer, Coder, Design, Test, Prototype, Alpha/Beta, Upgrade
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The Picture
IRC §174Direct CostsIn-Direct CostsOverhead / G&AReimbursable CostsNo Exclusions
IRC §41 = R&EWagesSuppliesContract Research
Experimental or laboratory sense = discover info that eliminates “product” development/improvement uncertainty
• Hands on, direct support & direct supervision allowed
• Patent = safe harbor• New to client (not to world)• Pilot Model, Process,
Formula, Invention, or Technique
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Contracting Decision Tree
Contract Awarded/Grant Received
Part/ComponentFixed Price
Payment Contingent on Successful R&E?
Do you have Rights to Use R&E results?
No, Disallowed
(Yes)
Allowable
No, Disallowed
Cost Plus orTime & Materials
CLINs
Separately Considered
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Market Research
&/or Reverse Engineering
Timeline Perspective
Process of Experimentation
to Eliminate Uncertainty
Final Analysis of Information to
Make a Production Decision
Commercial Production Approval
New Problem Identified during
Production
DisallowedActivities
DisallowedActivities
Allowable ActivitiesTesting &
Analysis of Test Results
May Potentially LeadBack to R&E
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Industry Specific R&D Timeline
ECP
DisallowedActivities
DisallowedActivities
Allowable Activities
May Potentially LeadBack to R&E
Pre-Contract Award Work
Market Research
Vendor Research
State of Technology/Training
Reverse Engineering
Design
Prototypes/Mock-ups and Models
Fixtures
Testing Program Mgt
- CMM Safety
- Functional / Flight Test FAA Certification Training
- Destructive Test Part 21 - Dem/Val Technical Writing
- HALT Overseas R&E
Production
PreProduction Planning
Creation of new production Machinery/Processes
Tooling up for Production Debugging
Qualification Testing Trouble Shooting
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Credit Claim – a 3 Step Process
Quantify expenses related
to qualified activities
Document qualified activities
Identify qualifying research activities
Documentation creates NEXUS or a tie between activities and expensesDocumentation creates NEXUS or a tie between activities and expenses
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Credit Calculation
2008 2009 2010 2011$0
$50,000
$100,000
$150,000
$200,000
Example of Base Period Hurdle
20%
Reg
ular
14%
Alte
rnat
ive
Credits Offset Tax Dollar-for-Dollar & Offset 2010 AMTCredits Offset Tax Dollar-for-Dollar & Offset 2010 AMT
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LarsonAllen Approach
• Phase I - Initial Assessment– Determine framework to establish Nexus between
qualifying activities and expenses– Estimate potential credits– Determine utilization of benefit– Go/no-go recommendation
• Phase II - Substantiation– Construct actual Nexus between qualifying activities and
expenses– Document activities & Finalize Credit Calculation– File on tax return – potentially 4 returns
GOAL: Minimize Impact on Client – Maximize Benefit – Create Audit SupportGOAL: Minimize Impact on Client – Maximize Benefit – Create Audit Support
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Cost Segregation
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Cost Segregation
• Why perform a cost segregation?– Maximize tax deferral
◊ Tax deferrals are accelerated into early years◊ $1 worth more today than 40 years from now
– Increase cash flow◊ Tax savings in early years generates additional cash flow to
reinvest
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Cost Segregation• Classify separate component lives
– 39/27.5 year property re-classed to 5, 7 or 15 year lives (see Rev. Proc. 87-56)
• Activities that benefit include:– New Construction– Purchase of an existing building– Additions– Renovations– Leasehold or tenant improvements
• Benefit – More depreciation in early years
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Cost Segregation• Example: ($3.9M building, renovation, etc.)
Sample Depreciation Property Break Out ~ 25%5-Year 7-Year 15-Year 39-Year Total
900,000 - 60,000 2,940,000 3,900,000
5-Year 7-Year 15-Year 39-Year Total Savings 35% Tax Savings1 50,000 540,000 0 31,500 37,692 609,192 559,192 195,717 2 100,000 144,000 0 2,850 75,385 222,235 122,235 42,782 3 100,000 86,400 0 2,565 75,385 164,350 64,350 22,523 4 100,000 51,840 0 2,310 75,385 129,535 29,535 10,337 5 100,000 51,840 0 2,079 75,385 129,304 29,304 10,256 6 100,000 25,920 0 1,869 75,385 103,174 3,174 1,111 7 100,000 0 1,770 75,385 77,155 (22,845) (7,996) 8 100,000 0 1,770 75,385 77,155 (22,845) (7,996)
16 100,000 0 885 75,385 76,270 (23,730) (8,306)
39 100,000 0 75,385 75,385 (24,615) (8,615) 40 50,000 0 37,692 37,692 (12,308) (4,308)
Total 3,900,000 900,000 0 60,000 2,940,000 3,900,000
Values Repeat for Year 9 - 15
Values Repeat for Years 17 - 38
Year of Asset's Life
Federal Depreciation
before Cost SegFederal Depreciation after Cost Seg
5-Year Depreciation Increase 804,616 35% Tax Rate (Total Savings first 5 years) 281,616 Present Value of Savings at 7% 190,239
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Depreciation Alternatives• Cost Segregation
– Applied to New Construction, Renovations, Additions, Leasehold or Tenant Improvements
– Breaks Out Items into Shorter Lives (5, 7, 15 year, etc.)– Can Perform After the Fact– Single Lump Sum Retro Catch Up Okay
• Bonus Depreciation – new only– 100% of purchase price, class life of 20 years or less, thru 12/31/11– Decreases to 50% in 2012– Unlimited Amount
• Section 179 – new and used– $500K max - Purchase Price/Lease of equipment/software– Phase out ($ for $ reduction over $2M)– $125K max tax years beginning in 2012 – Phase out lowers to $500K
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IC-DISC(Interest Charge - Domestic International Sales Corporation)
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IC-DISC
• Company sells goods• Pays a commission to the IC-
DISC and deducts the amount of the commission
• DISC can loan commission money back to exporter, or
• DISC pays a dividend to shareholders• Currently 15% tax rate
B
A
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IC-DISC Example
Without IC-DISC With IC-DISCCombined Exporter IC-DISC Total
Foreign Trading Gross Receipts 10,000,000 Foreign Trading Gross Receipts 10,000,000 Cost of Goods Sold (6,000,000) Cost of Goods Sold (6,000,000) Selling, General, and Admin (3,000,000) Selling, General, and Admin (3,000,000) Export Net Income 1,000,000 Export Net Income 1,000,000 1,000,000 Tax Rate 35% IC-DISC (Greater of):Tax Paid 350,000 1) 50% of Export Net Income 500,000
2) 4% of Export Gross Receipts 400,000 IC-DISC Commission 500,000 IC-DISC Deduction (500,000) Taxable Income 500,000 500,000 Tax Rate 35% 15%Tax Paid 175,000 75,000 250,000
IC-DISC Net Tax Savings: $350,000 - $250,000 = $100,000
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IC-DISC – Key Points• Export sales filed as commission income via
1120 IC-DISC• Reclassifies export sales from ordinary income
to qualified dividend– Reduces tax rate from 35% to 15%– $10M Exports generate minimum of $80K tax
savings, sometimes much more
• Paper corporation only– Customers need not know of existence
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Conclusion• Tax credits, deductions, bonus depreciation and
other tax planning mechanisms create significant incentives for businesses
• Recent Events:– Add urgency to acting now– Are Designed for Businesses to Create Cash Flow– Sustain Jobs and Incentivize Investment
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Discussion