In addition to Silicon Valley, a new hotbed
for technology firms and industries has emerged in Los
Angeles. Entrepreneurs and high-technology companies, both
large and small, are attracted by the weather, nightlife,
abundant transportation choices, and quantity of talent that
the emerging college educated population provides, with the
percentage of college-educated residents in the Los Angeles
area more than doubling in the past 40 years. From a tax
standpoint, the more time spent developing new products and
technical services, the greater the likelihood that companies
will qualify for the R & D tax credit.
The Research and Development Tax Credit, Federally enacted in 1981, allows a credit of up to 13% of eligible spend for new and improved products and processes. Qualified research must meet the following four criteria:
Eligible costs include employee wages, cost
of supplies, cost of testing, contract research expenses, and
costs associated with obtaining a patent.
The 2012 list of Inc.'s 500 Fastest Growing Companies has over
350 just from the Los Angeles metro-area, many of which are in
tech industries. In high-tech industries, venture capital
funding exceeded $950 million among the 5,400 firms with a Los
Angeles presence in 2011. More than a quarter of these
companies are tech start-ups, and the Venture Capital
Association lists the L.A. area as the fourth best city for
tech start-ups. The California Economic Development Department
(CA EDD) lists the 'professional scientific and technology' as
having the second highest LA County job creation percentage of
non-farming industries in 2011.
Other tech areas in Los Angeles where growth is predicted in upcoming years include:
With highly ranked engineering programs
including Harvey Mudd College, Caltech, UCLA, and USC,
technical talent is abundant in the Los Angeles to fill the
above-listed jobs. In recent years, the Los Angeles Unified
School District (LAUSD) seen a sharp increase in applications
to the district's 172 magnet programs, many of which are
focused in sciences and applied mathematics. Currently, over
50,000 students are enrolled in LAUSD public magnet schools,
with thousands more in private schools throughout the area.9
Many of these schools provide an interactive and collaborative
learning environment, showing a shift from 20th century
textbook-passive learning to research-driven, active learning
emphasized by 21st century teaching advocates. With these
specialized schools potentially serving as feeder schools to
the above mentioned colleges and universities, the quantity of
homegrown talent in technological fields will likely see a
significant increase in the next decade.
For over 20 years, companies in California have taken
advantage of the state's Research and Development Credit, one
of the most beneficial in the country. The non-refundable
credit is equal to 15% of the incremental qualified research
expenses incurred in the state over the calculated base
amount, plus 24% of the basic research payments over the base
amount paid to independent research institutions and
universities. Similar to the Federal credit, eligible costs
include wages, supplies, testing expenses, contractor research
expenses, and patent related expenses.
Qualified research for purposes of the California R&D Credit must meet the following: tests
In 2010, claimed California R & D credits totaled $1.6 billion. The California Legislative Analyst's Office provides the graph below illustrating the credit usage. After a sharp decline in credit claims post-2006 to about $1 billion coinciding with the economic downturn, claims quickly rebounded to its previously high level by 2010.
Many startups moving into the greater Los
Angeles area are primed for the both the Federal and
California tax credits, as a large percentage of them are in a
qualifying industry and meet the necessary criteria to receive
the available incentives.
Giant Presence in a Giant City
In late 2011, technology giant Google
opened a new 100,000 square foot office in Venice, which will
initially house 500 employees (including 375 engineers). Other
large companies with R&D operations in the L.A. area
include Boeing, Eaton, Lockheed Martin, Activision Blizzard.
and Easton-Bell Sports. The greater Los Angeles area is home
to over 40 Fortune 1000 companies, many of which are involved
research and experimentation activities. These national
companies, if profitable, are able to take the Federal R&D
credit for all of their US based operations in addition to the
California credit for activities in the state.
Conclusion
The Los Angeles tech industry is innovating at a rapid pace. Companies, large and small, are spending billions on research and development activities, making the both the Federal and California R&D credits lucrative to pursue. Companies in technological industries creating highly innovative products and processes should be working closely with their tax professionals to build in documentation processes to their current R&D activities. Tax advisers involved with firms in the region should monitor these developments and assist their clients in obtaining R&D tax credits. The abundance in talent available should ensure that innovation will be coming out of this area for years to come.
Jacob Goldman is the VP of Operations at R&D Tax Savers.
Raymond Kumar is a CPA and Tax Manager with R&D Tax Savers.
Charles G Goulding is a practicing attorney with experience in R&D tax credit projects for a host of industries.
