By Margaret Krajcer, JD

U.S. businesses that develop new or improved products are often eligible to claim the Federal Research and Development (R&D) tax credit. This credit offsets income tax and, for certain eligible taxpayers, can also offset alternative minimum tax and payroll tax. For Pennsylvania businesses, there may be additional opportunity to claim the Pennsylvania R&D state credit specifically aimed to promote business growth and foster development within the state. Eligible state taxpayers can use the credit to offset the corporate net income tax and the Pennsylvania personal income tax.

Similarities and Differences

The Pennsylvania R&D credit is similar to the federal credit in a few key ways. Both rely upon similar definitions for qualified research expenses, and both rely upon the concept of a “base amount” to calculate the credit. Like the federal credit, the Pennsylvania credit currently has no sunset date, making it a permanent incentive.

However, there are some notable differences. For instance, Pennsylvania places a cap of $55 million per year on statewide credits, with $11 million set aside for qualified small businesses. If total requests exceed this allotted amount, the credits are prorated among eligible taxpayers. Additionally, unused Pennsylvania research credits can be carried forward for 15 years, but the federal credit allows for a one-year carryback and a 20-year carryforward. Another difference is that state taxpayers must apply for the Pennsylvania R&D credit by Sept. 15 for expenses incurred in the taxable year that ended in the prior calendar year. There is no similar application process to claim the federal credit.

Pennsylvania makes up for some of these restrictions by providing taxpayers who are unable to use their allotted credits to offset tax liability with a unique option to sell them. The federal R&D credit offers no such benefit. In fact, Pennsylvania is one of only a few states to offer sellable credits.

Filing an R&D Credit Application

• A taxpayer must first determine if it meets the Pennsylvania R&D credit eligibility requirements:
  • Entity must be subject to the corporate net income tax or personal income tax.
  • Research expenses incurred must be for qualified research and development within Pennsylvania.
  • Must be in compliance with state tax laws and regulations.
  • There must be at least two years of R&D expenditures.
• The taxpayer must undergo an application submission process. In 2018, the former paper application process (REV-545) was replaced with an online application system and the Department of Revenue has stopped accepting applications in any other format.
• To apply online, a taxpayer must create a Department of Revenue electronic signature, then log into the site using the e-signature. The taxpayer will select “File Application” under the application menu. Screen prompts offer basic instructions as well as terms and conditions.
• Requested data includes basic information to identify the business as well as information regarding the R&D expenditures by location and prior years’ expenditures. These expenditures are processed via a credit calculation page. Once the substantive information is filled out, an entity officer must fill out the signature and verification page, which requests information on the entity officer and the application preparer.
• All applicants will be checked for entity compliance and ownership compliance. There is a special section requiring all businesses (or persons with 20% or greater ownership) to be listed on the application.
• After all information is entered, a summary will be presented prior to the final submission. After submission, users will receive an identification number that must be included on the following documents: copy of Federal Form 6765, a completed page 2 of REV-54 for each year listed with expenditures, and a written explanation of the difference between this year’s expenditures and prior filing of REV-545. When filing as a small business, the taxpayer must also include a copy of the balance sheet showing assets of less than $5 million at the beginning of the year. Applicants must fax this information by Sept. 15.

Typically, by mid-December, the state will mail the taxpayer a notification letter regarding the status of the claim.

Selling R&D Tax Credits

The process to sell or assign tax credits to others is fairly simple. First, the taxpayer must have filed their state tax returns and have submitted and been officially awarded the credit they wish to sell.

Next, the taxpayer must file an application with the Pennsylvania Department of Community and Economic Development (DCED) that provides information on the seller and the buyer, as well as more details on the credit being transferred. It’s important to note that credits can only be sold once.

Once the application is received, the DCED will typically complete the R&D tax credit assignment approval process within 90 days; however, any delinquent tax filings, outstanding tax liabilities, or other compliance issues will affect the approval or rejection process.

Editor's Note: Since the original posting of this article on August 16, 2021, the Pennsylvania R&D tax credit filing deadline was extended from September 15, 2021, to December 1, 2021.

Margaret Krajcer, JD, is vice president and general counsel of Tax Credits Group, a Cleveland-based firm specializing in federal and state R&D tax credits. She can be reached at maggie@taxcreditsgroup.com.

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