Many of the activities that manufacturing companies participate in may qualify them for tax credits and deductions. Your business may not be eligible for every credit and deduction discussed below, but chances are you might be missing out on some opportunities applicable to your business.
Considering the ongoing impact of the pandemic and recent legislation, taking a step back to review and plan is more important than ever since you could potentially identify manufacturing tax strategies that will save you money. This article will discuss five credits and deductions for manufacturing company owners to potentially take advantage of.
TAX INCENTIVES FOR MANUFACTURING COMPANIES
EMPLOYEE RETENTION CREDIT
Manufacturing companies operating in any calendar quarter of 2020 or 2021 may claim this credit if they meet one of the following:
- Fully or partially suspended business operations due to governmental orders limiting commerce, travel, or group meetings due to COVID-19, or
- the business experienced a significant drop in gross revenue for any calendar quarter in 2020 or 2021 compared to 2019. For 2020, the revenue reduction requirement was 50%, for 2021 the requirement is a 20% reduction.
For 2020, the credit is 50% of all qualified wages you paid employees between March 12, 2020, and December 31, 2020. The wage limit is $10,000 per employee for all quarters. The maximum ERC for all of 2020 would be $5,000 per employee.
For 2021, the credit is 70% of all qualified wages you pay employees from January 1, 2021, through December 31, 2021. The wage limit is $10,000 per employee per quarter, per quarter for the first three quarters of 2021. A maximum credit of $21,000 per employee for 2021 is available for businesses that qualify.
Note: Employee Retention Credit Ending Early
The Infrastructure Investment and Jobs Act signed into law on November 15th, 2021 eliminates the Employee Retention Credit (ERC) for 4th quarter of 2021. It was originally scheduled to continue through the end of 2021. Businesses that were eligible to claim the ERC for any of the first three quarters of 2021, but have not already filed to take the credit, are still eligible to claim the credit on an amended return.
RESEARCH & DEVELOPMENT (R&D) TAX CREDIT
This federal tax credit was introduced in 1981. The credit is an incentive for operating businesses to invest in research and development activities. In the manufacturing industry, these costs are most often used to increase growth and competitiveness. The maximum credit allowed is 13% of eligible expenses spent on new and improved products and processes.
The costs must meet the following categories of new or improved to the company. These include technological in nature, elimination of uncertainty, and must go through a process of experimentation. The most common activities that manufacturing companies participate in that may be eligible for the credit are:
- Sales time – quoting, job requirements
- Design meetings – staff working together towards innovation
- Product design – blank layouts, toolmaking, documentation, quality checks, trial runs
- Engineering
- Shipping
Note: Manufacturing activities that improve an existing product or process may qualify for this tax credit.
QUALIFIED BUSINESS INCOME TAX DEDUCTION
Tax reform created a new deduction for pass-through business owners. It is called the Qualified Business Income Deduction, also called a Section 199A deduction or QBI deduction. According to the IRS, “QBI is the net amount of qualified items of income, gain, deduction and loss from any qualified trade or business. Only items included in taxable income are counted.”
This deduction, in certain situations, may provide up to 20 percent tax deduction on qualified business income for eligible partnerships, S corporations, and sole proprietorships. For taxpayers with taxable income exceeding $329,800 for a married couple filing a joint return, or $164,900 for all other taxpayers, the deduction is subject to limitations. These limitations include:
- Whether the business is classified as a service trade or business
- Taxpayer’s taxable income
- The amount of W-2 Wages of the business
- Unadjusted basis immediately after acquisition (UBIA) of qualified property held by the trade or business
SECTION 179 DEPRECIATION DEDUCTION
This deduction is eligible for manufacturing companies that directly or indirectly own a newly constructed building or improved an existing building. To claim the deduction, the new building or improvements must invest in one of the three energy-efficient categories:
- Lighting – construction or improvements to building lights for energy efficiency
- HVAC – relating to energy-efficient systems
- Building Envelope – energy-efficient construction or improvements to walls, floors, roofs, fenestrations, and doors
The calculation of the deduction is based on the square footage of a new building or improvements. The deduction provides a $1.80 per square foot of the energy-efficient space. Each category above can obtain a $0.60 deduction. To qualify for this deduction, a building must be certified by a qualified third party and compared to ASHRAE Standards.
BONUS DEPRECIATION TAX DEDUCTION
Bonus depreciation allows manufacturing companies to fully expense certain capital expenditures instead of depreciating them over several years. Examples of eligible expenses are:
- Office furniture
- Equipment
- Machinery
- Computers
- Software
These expenditures may be fully expensed starting with business assets placed in service after September 27, 2017. Bonus depreciation will begin phasing out for assets placed into service after December 31, 2022.
Note: From years 2023 – 2027, the deduction will reduce until no longer available.
QUESTIONS?
Tax planning for manufacturing companies throughout the year is essential to reduce the tax owed on your tax return. Schedule a consultation with a Smith Schafer Manufacturing Expert to determine tax-saving opportunities for your company. We work with approximately 100 Minnesota manufacturing companies helping them grow with accounting, tax, and consulting solutions.
