Episode 317

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The federal government and 36 of 50 states in the U.S. have research and development tax credits that many agency owners incorrectly believe our agencies are not eligible to receive. In reality, many AMI agencies take full advantage of these credits, sometimes earning back in excess of $100,000 a year. Needless to say, it’s important for your agency to explore whether or not you are eligible for these benefits because the impact on your bottom line could be a huge win.

Mike D’Alessandro owns a company called Research Tax Credits. For 14 years he has been specializing in research and development (R&D) tax options. These benefits are designed to stimulate the economy by creating competitive tax advantages for small business owners, including advertising and marketing agencies.

In this episode of Build a Better Agency, Mike and I take a deep dive into the R&D tax credits that many agencies mistakenly believe they are not eligible for. We look at the history and eligibility of these credits, how they are determined, and what parts of agency work would be covered. We talk about whether these credits carry forward and if you can retroactively apply. We also discuss if these credits can increase the likelihood of an audit and the process for applying.

A big thank you to our podcast’s presenting sponsor, White Label IQ. They’re an amazing resource for agencies who want to outsource their design, dev, or PPC work at wholesale prices. Check out their special offer (10 free hours!) for podcast listeners here.

R&D tax credits

What You Will Learn in This Episode:

  • The history of the R&D tax credit
  • What does it mean to be eligible for an R&D tax credit?
  • What is a wage-driven credit?
  • The parts of the marketing business that is included under this credit
  • Does the federal credit carry forward?
  • Why wouldn’t someone utilize this credit?
  • Can you retroactively apply for these credits?
  • Does applying for this credit increase the likelihood of an audit?
  • The application process
“R&D tax credits were created to stimulate business, to stimulate the economy, and really to create competitive advantages for small business owners.” - Mike D’Alessandro Click To Tweet “It blows people’s minds that the same dollar that you take as an expense is a dollar that you can take as a credit.” - Mike D’Alessandro Click To Tweet “There are two tax codes in this country: there’s the tax code that is written for the uninformed, and there’s a tax credit written for the informed.” - Mike D’Alessandro Click To Tweet “Our biggest competition is the fact that people don’t know about this tax credit.” - Mike D’Alessandro Click To Tweet “The process is education, identification, qualification, quantification, and the writing of a technical report.” - Mike D’Alessandro Click To Tweet “If you’re doing this on your own, you’re losing enterprise value.” - Mike D’Alessandro Click To Tweet

Ways to contact Mike D’Alessandro:

Tools & Resources:

Speaker 1:

If you’re going to take the risk of running an agency, shouldn’t you get the benefits, too? Welcome to Agency Management Institute’s Build a Better Agency Podcast, presented by White Label IQ. Tune in every week for insights on how small to midsize agencies are surviving and thriving in today’s market. We’ll show you how to make more money and keep more of what you make. We want to help you build an agency that is sustainable, scalable, and if you want down the road, sellable. With 25 plus years of experience, as both an agency owner and agency consultant, please welcome your host, Drew McLellan.

Drew McLellan:

Hey, everybody, Drew McLellan here, and guess what? I am bringing you another episode of Build a Better Agency. I know, I suspect that doesn’t surprise you at all. I am always grateful to be here and always glad to spend some time with you. I think this episode is going to absolutely capture your attention. And, I am betting that many, many, many of you are googling things while I’m talking to the guest to see how you could take advantage of what we’re going to talk about. So, I’m anxious to get to that conversation, but first I want to tell you a little bit about a workshop that we have coming up. And the reason why I’m telling you about this workshop is because it’s money-related, and this episode is all about the money.

And so, on December 9th and 10th, we will be in Orlando, Florida, teaching the Money Matters Workshop for two days. All we do is talk about money. We talk about agency math. We talk about the metrics that tell you things like, “Am I overstaffed? Are my people productive enough? Am I utilizing my team properly? Do I have too many non-billable people,” all kinds of things like that, that are actually metrics-driven realities. There’s nothing subjective about them, but for many agency owners, if you don’t know this math and you don’t know all of those metrics, you kind of operate the agency by the seat of your pants. I know I certainly did, many, many years ago before I learned this. And, learning all of these things, the agency math, the tax strategies, the pricing strategies, all of it completely changed the way I ran my agency. And so when we were building out this workshop, I was very mindful of the things that I didn’t know, and that really changed the trajectory of my agency once I did know.

So for two days, all we do is talk about money. How to make more money, how to keep more of the money you make. And so, again, that’s December 9th and 10th in Orlando, Florida. Would love to have you join us, and it’s completely and beautifully connected to today’s topic. So let me tell you a little bit about my guest and what we’re going to talk about. So, Mike D’Alessandro owns a company called Research Tax Credits, and there’s this thing in the US but actually, there’s also in many other countries like Ireland and Canada and other places. So, if you are not an American, do not despair and don’t leave. Don’t change the dial as they used to say. Stay with us because odds are, there is something in your country that is very similar, but for those of you that are based in the US, don’t move a muscle because you want to hear this.

So the federal government and 36 of 50 states have something called either a Research and Development Credit, or a Research and Experimentation Credit. And many agencies believe, erroneously by the way, and many CPAs believe erroneously that agencies are not eligible for these tax credits, but I’m telling you that many AMI agencies take full advantage of these tax credits and get 40, 50, 70, a hundred thousand dollars of tax credits, both federal and state every year. And they do it by filing some paperwork. That’s really it. So, my guest is going to tell you all about the history of this and how you go about doing this, and why every one of you should be exploring and investigating whether or not your agency is eligible for these tax credits. This is free money, and I want to get right into it. And I want you to hear all about it because I think by the end of the episode, you are going to be dancing a jig. That’s my prediction, dancing a jig. So let’s get to it. Let me introduce Mike to you, and let’s start talking.

Mike, welcome to the podcast. Thanks for joining us.

Mike D’Alessandro:

Hey, thanks for the invite, Drew. I really appreciate it.

Drew McLellan:

So, give everybody a little bit, a sense of your background, your expertise, and then obviously we’re going to jump right into the whole R&D credit discussion.

Mike D’Alessandro:

Yeah, so I have a Master’s degree in finance and I actually have an undergraduate degree in clothing, textiles, and interior design from Kansas State University.

Drew McLellan:

Comes in handy. I’m sure.

Mike D’Alessandro:

Yeah, it does. I’ve been involved for probably two decades in the construction field. So my first job out of college was working for a heavy highway contractor. And, I really, I have an understanding of how to build things, how to construct things. I understand finance and accounting, computer science, and throughout the process, things have evolved into data analytics, search engine optimization, search engine marketing, in addition to manufacturing, and construction, and food sciences, and agricultural sciences. So a really diverse background, on the hard science side and on the finance and accounting side.

Drew McLellan:

So, but you have a depth of expertise, you’ve really sort of specialized in this whole R&D credit thing, correct?

Mike D’Alessandro:

Yeah. I’ve been doing it for 14 years. Seven years for three national providers and seven years at Research Tax Credits.

Drew McLellan:

Okay. So let’s talk about when we say R&D credits, what does that mean? And then we’re going to talk about how it’s relevant to the listeners and agency owners.

Mike D’Alessandro:

Yeah. Well, most folks, they say, “Well, we don’t do any of that, because-”

Drew McLellan:

Well, first, what is it?

Mike D’Alessandro:

Research. When you say Research Tax Credit, and most owners, even we’ve got a lot of digital marketing agency clients and they say, “Well, we don’t do any of that stuff. We don’t. We’re not developing a product.” You don’t have to be developing a product, an application, software as a service, a tool that someone would pay to use. And you really have to be providing work on a fixed fee basis, or where there is a hard cap where the scope is clearly defined, and you were at risk for cost overruns. And a lot of our digital marketing agency clients, that when you explain the definition of research, are you trying to get better, cheaper, faster, more efficient, higher yield, less waste? Are you designing policies, procedures, protocols, best practices? People say, “Well, we do that every day. If we didn’t do that in a year, we would be out of business.”

Drew McLellan:

Right. So let’s go back, though. What is the R&D credit? Where did it come from? What does it mean? What do I get? And then we’ll get to why agencies can use it.

Mike D’Alessandro:

So the research credit was really, I mean, if you go all the way back, it was created in 1981. And Congress was really intelligent back then, because they said, “How are we going to control the global economy?” And the answer to that is control patents. And how do you control patents? You offer this thing called the research credit. So they created the research credit. And then in the middle two thousands, it became part of the Jobs Creation Act. And then it was further expanded in ’18, further expanded again. And the PATH Act, which was Protecting Americans From Tax Hikes Act, that was signed in December of ’15 by President Obama, was what really opened up three, four, $5 billion a year to small businesses.

Drew McLellan:

And these are tax credits, which means if I owe $50,000 in taxes and I have a hundred thousand dollar of tax credit, that wipes out my tax bill?

Mike D’Alessandro:

That’s correct.

Drew McLellan:

Yeah.

Mike D’Alessandro:

Dollar-for-dollar federal tax credits. And without … The federal law is the Research & Experimentation Tax Credit, or it’s commonly called R&D. There are also 36 states that offer … And now, the states call it Research & Development Tax Credit.

Drew McLellan:

Of course, nobody can get on the same page, right?

Mike D’Alessandro:

So, federal R&D … Yeah. State R&D, it is across the board. Everybody says R&D Tax Credit. Research & Development, Research & Experimentation. But, these credits are really, they are designed to stimulate business, to stimulate the economy. And since the PATH Act, really to create competitive advantages for small business owners, that create 80% of all new jobs in this country. So, it’s really something that Congress wants us to have, that the IRS wants us to have, because Congress has enacted this.

Drew McLellan:

Okay. So, you’re right. When you say research and development or research and experimentation, I’m sure a lot of agencies go, ” Well, I don’t have scientists on my staff. I don’t do research. I don’t. I’m not making new things,” but the reality is, correct me if I’m wrong. But the reality is for a lot of agencies, it’s the experimentation. The, “I’m trying something. I’m tweaking it. I’m optimizing. I’m trying to make it better.” There is no guarantee in the results that allows for agencies to qualify for this tax credit. Is that accurate?

Mike D’Alessandro:

Drew, that’s exactly right. Think of it like this. You’re rewarded for gaining new information, new knowledge, and trying new things that are new to you. Now, these are the new rules that are written into the spirit and the intent of the credit. So if it’s new to you, and you’re exactly right, if you’re trying different things, if you’re creating processes, if you’re trying to get better at what you’re doing. We have one tech-based client. They built out this thing called the Humdrum Library. It’s a library of all the best practices, policies, procedures, protocols, how to attack a problem. So, and they constantly update this library. And, every year when we help them with their credit, there might be 40 plus documents that have been edited in 2021. That all counts as improving your process. There might be newly created documents that count as new. Completely new processes that have been developed. So all of this activity counts. Researching new things, learning about new things. It’s rewarding things that are new to you.

Drew McLellan:

And this is in essence, if I understand it correctly, this is, I think what you called, it was a wage-driven credit. So what an agency does is they document how much of their people’s time is spent on these sort of activities, and then a dollar amount is assigned to that time. And that’s how the credit is established. Is that right?

Mike D’Alessandro:

That’s correct. So this is a wage-driven credit, and then, we have clients that do two separate things. There could be a wage. The wage-driven credit can be an activities-based approach or a project-based approach. So what you do, and let me take a step back here. And, the United States tax code, the base code is 74,000 pages, right?

Drew McLellan:

Light reading.

Mike D’Alessandro:

Right. If you ever can’t … The cure for insomnia is to go to the IRS’ website and read some of this.

Drew McLellan:

Yeah, right.

Mike D’Alessandro:

If you can’t sleep, if you don’t fall asleep after four pages of reading, you’ve got serious problems. But, the 74,000 base pages of the tax code, no one could possibly know it all. CPAs can’t know at all. When we give guidance, direction, and assistance to probably about four dozen CPA firms around the country, and they outsource the work to us because they can’t possibly know at all. They also don’t … You have to fuse tax engineering, accounting, and legal all into one. It’s very rare that a smaller, even the mid-sized CPA firm will have this expertise. So it’s a wage driven credit. There’s a lot of complexity, what’s you’re required to do. And it blows people’s minds that the same dollar that you take as an expense is a dollar that you can take as a credit. 54,000 base pages of the US tax code. There’s two pages you can do this in. If you invest in solar technologies and the research credit. So, it’s a legal double-dip. The same expense dollars in expense. The same expense dollar is also a credit dollar. So this is what makes this so lucrative.

And yes, it’s a wage-driven credit. So what we’re permitted to do is based on people’s job duties, job details, job description, project work, project involvement, administrative oversight, support, supervision, technical support, management support. We’re allowed to make reasonable estimates of someone’s time and how much they participate in these projects. And, we can base it on a time sheet, which would be a project-based approach or an activities-based approach on what this person does, day in and day out. And both methodologies are correct, both methodologies are acceptable. So we’re permitted to make reasonable allocations of someone’s time, and take the same expense dollar as an expense and take it as a credit. And, it could be anywhere between seven to 10% at the federal level. It could be anywhere from three to 10% on a state level.

Drew McLellan:

Seven to 10% or three to 7% of what?

Mike D’Alessandro:

Of the expense dollar.

Drew McLellan:

Okay. Okay.

Mike D’Alessandro:

Okay? So it can be significant. And you have to remember, this becomes a permanent part of your tax planning strategy. This is something you do every year. It’s not a once-and-done thing. It’s done every year. And it’s, again, it’s a permanent part of your tax planning strategy to really minimize the amount of tax liability that you’re paying. I say it all the time, there’s two tax codes in this country. There’s a tax code that’s written for the uninformed and there’s a tax code written for the informed. And we work with the informed. It’s just how it is. Unfortunately, there is a lot of complexity.

Drew McLellan:

So, we keep talking about digital agencies, but for a traditional agency that, I mean, everybody does digital stuff these days. Does this extend beyond things that are done online? I’m assuming it does.

Mike D’Alessandro:

Here’s the catch with the credit. It has to be in the hard sciences. So biology, chemistry, physics, if you’re in architecture, computer science. So where our marketing agencies fall under this, sales and marketing activities is specifically excluded from the credit. I want to make that perfectly clear. But what is included with our digital marketing agencies are data, analytics, search engine reports.

Drew McLellan:

Which every agency does, right? Yeah. Yeah.

Mike D’Alessandro:

Search engine optimization.

Drew McLellan:

Digital advertising, right? Or no?

Mike D’Alessandro:

What works, what doesn’t work? What are the keywords? Look, we have one client that has grown in five years to north of a hundred million dollars in sales. And they meet with Google in New York City with their data and analytics folks for two hours a week, every week, because they want to find out what they’re doing, how they, how are you getting a million people to your website a day? How are you getting them to spend two to $5 million a week, right? It’s all done by search engine optimization, search engine marketing, data and analytics, keyword, getting the people to the website, which is great, but getting them to find the things that they need, which is even better. And, the icing on the cake is getting them to pull out their digital wallet, order it, pay for it, and generate revenue.

Drew McLellan:

Yeah, yeah. Yeah. So really there’s probably not an agency in the US that’s not doing some of this. I mean, it’s pretty hard for an agency to have no online or digital activity for their clients.

Mike D’Alessandro:

That’s correct.

Drew McLellan:

Yeah. So, let’s say I get a credit. I’m just making up a number of $50,000 and I have a great tax accountant and I don’t know, $50,000. Am I SOL, or does that stay on my books? And …

Mike D’Alessandro:

That’s a great question. The federal credit carries forward for 20 years.

Drew McLellan:

Holy buckets.

Mike D’Alessandro:

Yeah, most of the states will carry forward anywhere between seven to 15 years.

Drew McLellan:

Wow. Okay. Why, other than ignorance, that they don’t know that this is out there, why would anyone not do this?

Mike D’Alessandro:

Well, and look, everybody always says, what’s your biggest competitor? The fact that people don’t know about it. And I’ll give you an RSM McGladrey statistic. RSM McGladrey, one of the 10 largest accounting firms in North America. They wrote an article, 41% of all manufacturers don’t know about the credit. And look, we’re headquartered in Pennsylvania. Pennsylvania has the largest rural population of any state, almost 10 million people live out in rural Pennsylvania. When you go into some of these rural small towns, it’s a heck of a lot more than 41%, what RSM McGladrey is estimating. I mean, you would think of a manufacturer should know about this, but four out of 10, I can tell you, it’s probably more like six or seven out of 10. Don’t know about it.

And the other thing too is we educate a lot of certified public accountants. Well, we do a lot of continuing professional education. We do a web based, we do live seminars, back when we used to do live seminars.

Drew McLellan:

Right, right. We’re getting back to that.

Mike D’Alessandro:

We’re getting back to it, but it’s amazing. I could be at one of the Penn State University satellite campuses, and there could be 50 to a hundred CPAs there. And, we talk for 45 minutes about the credit. And then I, at the end of it, it’s usually five to 10 minutes for open question. And I will ask a question back to the audience. Now I want to talk about, questions that you have when your client says to you, “Drew, you’ve been my CPA for 15 years. How come this is the first time we’ve been talking about this research credit thing?”

Drew McLellan:

Right.

Mike D’Alessandro:

I tell you what, if you want to silence a room, that’s the question to ask right? That’s it.

Drew McLellan:

Right. Yeah, that’d be very uncomfortable. Yeah.

Mike D’Alessandro:

Everybody’s pulling in all this knowledge for 45 minutes, and then they go like this. Heads are all, I mean, 50 to 150 heads do down. And I tell them, look, “Companies like research tax credits. It’s not like there are 15 of them in your phone book, or, in your Yelp.” I mean, our nearest competitor was Boston. And then they were bought by another competitor who was headquartered out of Fort Worth Texas. And my former employer is in Indianapolis and there’s another guy in Florida. And, so there’s not a whole lot of what I call specialty tax advisories out there. So the problem with the accounting firms is, who do I go to? Because I can’t find anyone local. Right? Who do you trust?

Drew McLellan:

If they even know about it.

Mike D’Alessandro:

Right. So, and I always tell people, “If you’re mad at your accountant for not bringing you this idea, I don’t know if we could do work for you.” And most people are like, “What do you mean?” Well, you have unreasonable expectations. You’re expecting your CPA to know all 74,000 base pages of the US tax code. If your CPA knew all 74,000 pages, they wouldn’t be your CPA, You wouldn’t be able to afford them. But, in all seriousness, there’s complexity to this. There’s CPAs, they have knowledge of it, but who do you refer? Right? Who do you have evaluate this for your clients? Who do you bring in? Who do you trust? The last thing a certified public accountant wants to do is lose that valued client, that valued client annuity, that valued relationship.

Drew McLellan:

Yeah, right. So, I want to, I’m assuming that this is complicated to file for this and all of that. So I want to take a quick break and I want to come back and talk about, now that everyone’s like, “Oh my gosh, I qualify for this. And it sits on my books for 10 to 20 years. I want some more of this.” So, I want to talk about process. I also want to talk about, can I go backwards and claim previous years? So let’s take a quick break and then maybe we’ll start with the, “Can I go back and get money that I’ve already spent taxes on?” And then we’ll talk about the process. All right, quick break, and we’ll be right back.

I’m really sorry to