Are R&D Tax Credits Available in California?

Yes. The state of California provides the Research and Development (R&D) Tax Credit very similar to the federal version including the definition of qualifying research. Below are some of the differences between the federal and California R&D Tax Credits. Only qualified research expenses (QREs) incurred in California are eligible for the California research credit.

There are two methods with which the California research credit may be calculated: Regular Credit method and Alternative Incremental Credit method.

The Regular Method credit is equal to the sum of the following:

  • 15% of QREs that exceed a base amount, which is calculated by applying a fixed-base percentage to the average annual gross receipts for the four prior years, plus
  • 24% of basic research payments

Under the Alternative Incremental Credit method, the credit is calculated by taking the sum of the following. Note that an election to use this method applies to all tax years following the election.

  • 1.49% of QREs in excess of a base amount computed using a fixed-base percentage of 1%, but not in excess of a base amount computed using a fixed-base percentage of 1.5%;
  • 1.98% of QREs in excess of a base amount computed using a fixed-base percentage of 1.5%, but not in excess of a base amount computed using a fixed-base percentage of 2%; and
  • 2.48% of QREs in excess of a base amount computed using a fixed-base percentage of 2%.

Unused California research credits must be applied to the earliest tax year possible and then may be carried forward indefinitely, as opposed to federal credits which must be carried back one year and carried forward twenty.

California R&D Tax Credit Case Study

A San Francisco Company develops software used by its clients. It had never before claimed the R&D credit for the development activities of its software programmers. This project involved a four-year study with a three-year look back.

The Company qualified for the federal R&D Tax Credit of $330,000 and an additional $247,500 in California state R&D Tax Credit. 

FEDERAL
CALIFORNIA
Year
Total QREs
Credit
Total QREs
Credit
2021
$1,300,000
$130,000
$1,300,000
$97,500
2020
$900,000
$90,000
$900,000
$67,500
2019
$650,000
$65,000
$650,000
$48,750
2018
$450,000
$45,000
$450,000
$33,750
Total $3,300,000 $330,000 $3,300,000 $247,500

Get More Information About the R&D Tax Credit

The R&D Tax Credit, first enacted in 1981, has been one of the most valuable credits leveraged by companies. Every year, the R&D credit yields billions of dollars in federal and state benefits to companies engaged in qualifying research. This credit provides much-needed cash to hire additional employees, increase R&D, expand facilities, and more. Thousands of companies take advantage of the credit across several industries. » Learn More

Four-Part Test

Qualified research activities are defined by the four-part test outlined below

Technological in Nature
Activities must fundamentally rely on the principles of physical or biological science, engineering, or computer science.

Permitted Purpose
Activities must be performed in an attempt to improve the functionality, performance, reliability, or quality of a new or existing business component.

Eliminate Uncertainty
Activities intended to discover information that could eliminate technical uncertainty concerning the development or improvement of a product.

Experimentation
All activities must include a process of experimentation including testing, modeling, simulating, and systematic trial and error.

Research and Development Tax Insights

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