Maryland R&D Tax Credit | Reduce your Tax Liability

May 17, 2024
Gideon Ward
Fact Checked

What are the state regulations regarding Maryland’s Research and Development Tax Credit, and how can businesses maximize it? We’ll discuss pertinent details companies should know about eligibility and how to claim and calculate this tax credit. This will give Maryland businesses an idea of what they should do to comply with the state’s rules on this tax claim.

What are Maryland R&D Tax Credits?

A business entity with qualified research expenses incurred in Maryland may qualify for two separate income tax credits, the Basic R&D Tax Credit and the Growth R&D Tax Credit. This tax credit equals ten percent of eligible R&D expenses incurred over the Maryland Base Amount during the taxable year.

If the total credits applied exceed the statutory caps, the business’s R&D tax credit is prorated. The statutory cap is $12 million, with a small business set aside $3.5 million. A single applicant may not receive a tax credit exceeding $250,000. Maryland follows the federal definition of qualified R&D and QREs, as defined by § 41(b) of the Internal Revenue Code in Maryland.

Types of Maryland R&D Tax Credits

Maryland offers two types of income tax credits: the Basic R&D Tax Credit and the Growth Tax Credit. The Basic R&D Tax Credit equals three percent of QREs that do not exceed the Maryland Base Amount. The basic tax credit is prorated if the total credits applied for exceed $5.5 million.

Meanwhile, the growth credit is granted for 10% of the amount by which the Maryland-qualified R&D expenses paid or incurred by the taxpayer during the tax year exceed the Maryland base amount for the taxpayer. The growth tax credit is prorated if the total credits applied exceed $6.5 million.

Does Maryland have an R&D credit?

Yes, the state of Maryland offers two types of R&D tax credits: the basic credits and the growth tax credit.

Eligibility Criteria for Maryland Businesses

 

Eligibility Criteria for tax credits

In general, taxpayers are eligible for the R&D Tax Credit if they have QREs as defined by IRC §41 in Maryland during the tax period. Taxpayers can claim the R&D Tax Credit as a tax offset. The credit is nonrefundable, but small businesses may be eligible for a credit refund. Maryland returns can only be amended for current-year credits, as the credit applications are due annually.

This tax credit is available to C-Corporations, S-Corporations, LLCs, and partnerships, provided that their R&D activities take place in Maryland. The Maryland Department of Commerce follows the federal definition of qualified R&D and qualified R&D expenses.

Four-Part Test for Qualifying Activities

Before a company declares an activity for its Maryland income tax return, it should determine if its activity can be included in its tax credit certificate. This four-part test can help businesses decide which activities count for R&D tax credits.

Technological in Nature

To qualify for research credits, the activity should fundamentally rely on principles of physical sciences, biological sciences, computer science, or engineering and scientific methods. This requires the use of technology or engineering in a field of science.

Moreover, it aims to develop or improve a product, process, or software’s functionality, performance, reliability, or quality. Examples include developing new materials, improving manufacturing processes, or enhancing software functionality.

Permitted Purposes

The activity must relate to a new or improved business component’s function, performance, reliability, quality, or composition. It should intend to develop a new or improved product, process, or software. Moreover, it ensures that the research is not conducted for non-commercial purposes, such as social science or arts-related endeavors.

Elimination of Uncertainty

The activity must be intended to discover information to eliminate uncertainty concerning a particular method or capability for developing or improving a product or process. Uncertainty exists if the capability, method, or design of the product, process, or software is uncertain or not readily known.

Process of Experimentation

The activity must constitute the process of experimentation involving simulation, evaluation of alternatives, confirmation of hypotheses through trial and error, testing and modeling, or refining or discarding of hypotheses. It should involve a systematic process designed to evaluate one or more alternatives and include testing hypotheses, modeling, prototyping, and iterative analysis. It also needs to identify uncertainties and test potential solutions to resolve them.

Carrying Forward & Refunding the Maryland R&D Tax Credit

R&D tax credits certified after December 15, 2012, are refundable for “small businesses” to the extent that they exceed the income tax liability for that taxable year. If tax credits exceed the income tax for a taxable year, they may be carried forward for the next seven years or until used.

Maryland Qualifying Research Expenditures

Not all expenses incurred can be declared for one’s income tax liability. Companies should note the only qualified research expenses for the Maryland Research and Development tax credit program.

Generally, the R&D tax credit covers two categories of qualified research expenses: in-house and contract research expenses. In-house research expenses include wages paid to employees for any qualifying activities performed, supplies purchased to conduct qualified research, and contract research expenses paid to conduct qualified research.

To clarify, only wages, including all taxable wages reported on an employee’s W-2 Form, can be declared qualifying research expenditures. In addition, it should be highlighted that only employees involved in qualified research activities or directly supporting these initiatives are qualified.

Any tangible property bought to conduct qualified research can be considered a supply for this tax credit. For example, a Maryland firm working to improve a product’s quality may declare the materials used for that project as supply expenses.

Contract research expenses are when a business performs qualified research on behalf of the taxpayer. In this case, 65% of the amount paid to the non-employee can be considered a qualified expense.

How to Claim Maryland R&D Tax Credits

 

A desk with documents with TAX written on it, a calculator displaying numbers symbolizing tax calculations and project management.

Applicants are required to apply using an online system. Maryland has a yearly cap on the amount of R&D credits available to applicants. Maryland’s Commerce Department will prorate the R&D credits pro rata in the following circumstances:

  • the total amount of Basic Credits applied for exceeds $5.5 million or
  • the total amount of Growth Credits applied exceeds $6.5 million.

Each taxpayer will receive an R&D credit Certification Letter with the approved credit amount by February 15 of the following year.

Calculating the Maryland R&D Tax Credits

To calculate one’s tax credits in Maryland, a company must follow these steps:

  1. Determine the business’s Maryland gross receipts for the tax year for which they are claiming the credit and the preceding four years or for those years that the business had gross receipts.
  2. Compute the average gross receipts based on the number of years the business existed. If the business is a partial or short-year taxpayer, multiply the average by the portion of the year for which the business entity is claiming the credit.
  3. Determine the business’s Maryland-qualified research and development expenses for the tax year they claim credit and the preceding four years, if any.
  4. Compute the average of the expenses for these years based on the number of years the business existed. If the business is a partial or short-year taxpayer, multiply the average by the portion of the year for which the business entity is claiming the credit.
  5. Calculate the base percentage by dividing the average (or adjusted average) Maryland-qualified research and development expenses by the average (or adjusted average) Maryland gross receipts for the applicable years.
  6. Calculate the Maryland base amount by multiplying the base percentage by the average Maryland gross receipts. If the business entity is a partial-year or short-year taxpayer, determine the Maryland adjusted base amount by multiplying the base percentage by the adjusted average Maryland gross receipts.
  7. Compute the R&D tax credit by subtracting the Maryland Base Amount from the Maryland-qualified R&D expenses and taking 10% of this amount.

There are two credits available:

  1. Basic R&D Credit: the basic credit is calculated as 3% of QREs that do not exceed the Maryland base amount, and
  2. Growth R&D Credit: The growth credit is calculated as 10% of QREs, which is more than the Maryland base amount.

The base amount is determined by dividing the aggregate QREs by the aggregate MD gross receipts for the four years before the credit year.

Maximizing the Benefits of the Maryland R&D Tax Credit

 

Benefits of the R&D Tax Credit

Companies that intend to make the most of this tax credit should take note of the following:

  1. Identify all qualifying research activities and expenses: Companies should determine which activities count as research and development expenses.
  2. Maintain documentation: Submitting official documents and records is vital to support one’s claim.
  3. Integrate the credit into long-term R&D planning for Maryland operations: The R&D tax credit is a tax benefit companies can claim for years, and they should consider this as they plan their income tax return filed.
  4. Reinvest tax savings into further R&D efforts: Companies should allocate the funds obtained from this tax credit to R&D activities so they can increase their tax claims in the future.
  5. The treatment of R&D tax credits when purchasing a firm that has claimed them should be considered when preparing for tax claims.

Next Steps

Companies intending to maximize the R&D tax credit should seek the assistance of professionals well-versed in the Maryland Department of Commerce. These experts can help companies navigate the state’s rules and regulations and maximize their tax credits in the long term. Contact us and get in touch with the relevant professionals today!

FAQs

What is the basic R&D tax credit in Maryland?

The Basic R&D Tax Credit equals three percent of QREs that do not exceed the Maryland Base Amount. The basic tax credit is prorated if the total credits applied for exceed $5.5 million.

What is the Maryland Innovation tax credit?

This program provides qualified investors a refundable income tax credit in a Qualified Maryland Technology Company (QMTC).

What qualifies for the R&D tax credit?

Companies that pass the four-part test can claim the R&D tax credit for their activities.

How many states have R&D tax credits?

R&D tax credit is a federal benefit, so it’s available in all states. However, some states offer additional incentives.

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