Business-Accelerators
Broadly speaking, a "business
incubator" is a company whose purpose is to assist start-up
companies in their development process by providing basic services
such as management training and office space. In contrast, a
"business accelerator" compresses the development time scale and
aims to turn business ideas into prototypes that are market-ready
in a matter of months. In addition, the "accelerator"
provides initial funding in return for an equity stake in the new
business, a model not dissimilar from the popular primetime show
"Shark Tank."
For example, Y Combinator ("YC") is one of the leading business
accelerators in the world. YC interviews and selects two
batches of companies every year, and provides a three (3) month
training program and seed money in exchange for 7% percent equity
in the start-up company.
Overall, the goal of a business accelerator like YC is to provide
initial funding quickly when dollars are at a premium during a
company's infancy. This investment is intended to result in
an "exit", i.e. an independent, self-sustaining company that will
provide YC with a return on its investment based on YC's retained
equity percentage.
For a start-up company, a business accelerator can be invaluable
because it provides the necessary funds to get the company "off
the ground." Typically, the largest cost for a start-up is
payroll; the people with the best ideas will look for the best
compensation. As such, the key personnel, and the dollars
necessary to keep them around, may be the most expensive, and,
simultaneously, the most important aspect of the early days of a
start-up company.
The Advantages of the R&D Tax
Credit for "Business Accelerators"
Applying for a business accelerator
program is a major decision for a company in its infancy,
regardless of the industry. When evaluating growth stimuli,
a start-up should be aware of the advantages of working with a
business accelerator.
For example, the most apparent benefit of the business accelerator
type of program is the built-in networking opportunities with
mentors, advisors, and alumni, companies who have gone through the
process previously. Often, being able to access the wealth of
knowledge and experience that these companies have generated
allows the fledgling company to not have to "re-invent the wheel"
on basic functions and instead focus on developing unique aspects
of its own business.
Additionally, peer companies in the same accelerators provide
motivation and morale boosting since everyone is working hard to
achieve goals. This environment provides healthy competition
and allows the developing businesses to visualize high and low
points encountered by themselves and others throughout the
process.
Further, certain accelerator programs are extremely selective,
admitting a minimal percentage of total applicants. When
outside investors see a well-recognized accelerator as a line-item
on the business' resume, it distinguishes that start-up from
others in the industry. The current "Top Ten" domestic
business accelerator programs are illustrated in Table 1.
The R&D Tax Credit
Originally enacted in 1981, the
federal Research and Development (R&D) Tax Credit allows a
credit of up to 13 percent of eligible spending for new and
improved products and processes. Qualified research must meet the
following four criteria:
New or improved products,
processes, or software
Technological in nature
Elimination of uncertainty
Process of experimentation
Eligible costs include employee wages, cost of supplies, cost of
testing, contract research expenses, and costs associated with
developing a patent. On December 18, 2015, President Obama
signed the Protecting Americans from Tax Hikes (PATH) Act making
the R&D Tax Credit permanent. Furthermore, in this
latest iteration of the R&D Tax Credit, Congress continued the
legislative trend to incentivize American businesses, particularly
tech oriented start-ups.
Specifically, the new provisions of the PATH Act provide start-up
companies with the ability to take a payroll tax credit, even
without incurring actual tax liability. Beginning in 2016,
the R&D credit can be used to offset Alternative Minimum tax
and start-up businesses can utilize the credit against payroll
taxes.
Advantages of the R&D Credit
for Start-ups
The new payroll tax credit aspect of
the R&D Credit will significantly benefit many start-ups and
small to mid-sized businesses. Specifically, the R&D
Credit has now been expanded to apply credits in excess of income
taxes to FICA tax liability. Notably, even if a company was
unprofitable and had no tax liability, the credit can be taken
against payroll taxes for start-up businesses with less than
$5,000,000 in gross receipts. This offset is capped at
$250,000 per year, over a five year period.
As such, the R&D Tax Credit now allows this payroll tax to be
taken directly against FICA taxes, and does not require general
income tax liability for the company to utilize the credit
amounts. The company will realize significant tax benefits
regardless of not generating a profit. Most importantly,
this credit directly affects the payroll amounts incurred by the
start-up. Typically, the largest cost for a start-up is
payroll; the people with the best ideas will look for the best
compensation. As such, the key personnel, and the dollars
necessary to keep them around, are usually the most expensive line
item in a start-up's P&L accounting balances.
Conclusion
Start-up companies have a tenuous
grasp on existence at their outset and must consider all options
available to them to remain in operation. While business
accelerators are, and will continue to be, excellent opportunities
for start-ups to take advantage of, a shrewd business operator,
imbued with entrepreneurial spirit, should also take advantage of
the R&D Tax Credit benefits designed for start-ups.
The payroll R&D Tax Credit is a permanent credit allowing for
internal management of financial resources and increase in capital
flow. Essentially, the credit serves the financial function,
and, arguably, the primary benefit, offered by a business
accelerator, but does not infringe on the start-up's
autonomy. An extra $250,000 in annual tax benefits would be
readily welcomed by any start-up.
