The R&D Tax Credit Aspects of SaaS Start-Ups

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        Over the last few years, cloud computing has completely transformed the enterprise software market. The traditional business model for software deployment is rapidly losing ground to Software-as-a-Service (SaaS), which emerges as the new norm. As the enterprise SaaS market continues to mature, industry giants strive to reinvent themselves as cloud companies while high-growth start-ups take the lead and set the pace for innovation. The present article will discuss how SaaS companies throughout the country can take advantage of R&D tax credits to support their innovative efforts and increase their chances of success in an increasingly competitive environment.

The Research & Development Tax Credit

        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 bill
making the R&D Tax Credit permanent.  Beginning in 2016, the R&D credit can be used to offset Alternative Minimum Tax and startup businesses can utilize the credit against $250,000 per year in payroll taxes.

Start-Up R&D Tax Credit

        The new federal tax law is extremely beneficial for start-ups.  For the first time ever, a qualifying start-up can use the credit against $250,000 per year in payroll taxes beginning January 1, 2016.  Essentially, with the new start-up provision, companies can claim the credit even if they do not pay income tax and regardless of their profitability.

Tax Credit Example
        A company owes $300,000 in payroll taxes and they qualify for $100,000 in R&D Tax Credits. The R&D credit can now be applied to payroll taxes. Therefore, the amount of the payroll tax that has to be paid is reduced to $200,000. The most amount of money that can be deducted annually from the payroll R&D Tax Credit is $250,000. Therefore, if the company qualifies for $300,000 in R&D credits, the company would now only owe $50,000 in payroll taxes.

Illustration of Tax Credit Opportunities
        Crunchbase lists over 7,500 SaaS companies globally while AngelList has over 11,800 start-ups in the SaaS category. A great portion of these companies are located in the U.S. and can benefit from R&D tax credits. Figure 1 below illustrates the start-up tax savings available to U.S. SaaS start-ups at various company counts and technical employee levels (up to 7,500 SaaS start-ups).

Figure 1:

Understanding SaaS

        Cloud computing can be defined as "the practice of using a network of remote servers hosted on the Internet to store, manage, and process data, rather than a local server or a personal computer".  Cloud computing technology enables the consumption of computing resources as a utility over the Internet, in a new model that allows for on-demand, self-service provisioning, rapid elasticity, and broad network access in a measured, pay-per-use system.

        Among different cloud-based service categories, SaaS stands out for its growing pervasiveness. SaaS can be defined as a software distribution model in which a third-party provider owns, manages, and delivers applications remotely to customers over the Internet.  Also known as web-based, hosted, or on-demand software, SaaS applications run on the provider’s servers and are easily accessed via the Internet. Though conceived as multitenant systems, in which multiple users share the same infrastructure and code base, SaaS applications are easily customized to meet specific user needs. The SaaS model eliminates installation and maintenance concerns, freeing users from complex hardware and software management tasks.

        The emergence of SaaS is revolutionizing the software industry. According to the International Data Corporation, over the next five years, “cloud software will significantly outpace traditional software product delivery, growing nearly three times faster than the software market as a whole and becoming the significant growth driver to all functional software markets.” By 2020, service-enabled software will represent nearly 50 percent of all new business software purchased and cloud software will account for over 25 percent of all software sold.

        In fact, numerous experts have pointed out that cloud is rapidly becoming the default option for software deployment. According to research and advisory firm Gartner, there is an ongoing transition from the “cloud-first” mentality in software design and planning to a “cloud-only” stance. A recent study predicts that more than 30 percent of the 100 largest vendors' new software investments will shift from cloud-first to cloud-only by 2019.

        Gartner also forecasts that the public cloud services market will grow 18 percent in 2017, totaling $246.8 billion. SaaS is expected to be a major driver of growth, reaching $75.7 billion by 2020.  Better Buys’ 2016 Report on the State of SaaS underlines that 78 percent of businesses indicate that they plan to expand the number of SaaS platforms they use over the next three years, raising the average number of applications used from three to seven.

SaaS Industry Trends

        The SaaS market is entering a new, more mature phase, in which growing competitiveness will lead to more flexibility and enhanced user experience. The widespread adoption of SaaS comes hand in hand with higher expectations for service performance and availability, as well as with an increased demand for customized solutions. Overall, the massive flow of complex user data along with an unprecedented multiplication of digital channels call for constant improvements and adaptation. Below are some important trends for innovation in the SaaS market:

Industry Cloud
        SaaS start-ups have two different approaches to the business-to-business software market. Some of them focus on solutions that target the needs of a specific industry, such as education, real estate, and finance. This avenue is called vertical SaaS, or Industry Cloud. Other companies prefer a horizontal approach, focusing on a particular software category that addresses general business processes and can serve various industries (examples include CRM, HR, and accounting). Vertical SaaS has experienced faster growth than horizontal solutions, as demand for industry-specific features intensifies. Healthcare and energy have been major drivers of this trend. Chemicals, industrial products, and retail are promising areas for growth.

Artificial Intelligence
        Machine learning technology is expected to play an increasingly prominent role in the SaaS industry. Innovative SaaS companies are beginning to integrate an AI layer to their applications. Tools such as deep learning, predictive analytics, natural language processing, and smart data discovery promise to revolutionize SaaS user experience, leading to continuous improvements. Experts also forecast the emergence of AI as a Service platforms, which could eventually extend machine learning capabilities to different types of apps through a cloud-based system.

        An interesting example of how to combine SaaS and AI is New York City-based, the creator of an artificially intelligent personal assistant that performs scheduling tasks. The innovative company points out that scheduling meetings is a time-consuming activity that takes its toll on productivity – in fact, setting up a single meeting requires, on average, 8 emails back and forth. Founded in 2014, has raised over $34 million in three funding rounds.

        Mobile applications have become essential for different business aspects, from mobilizing workforce and external marketing to fostering customer interactions and streamlining operations. As the mobile workforce reaches unprecedented levels, enterprise mobile solutions gain momentum as a major trend in the SaaS market. According to Strategy Analytics, “the need for flexibility, scale, and ease of deployment and use is driving adoption of SaaS to support mobile enterprise strategies. (…) This is a particularly attractive proposition for small and midsized businesses.”

        While traditional SaaS is browser-based, mobile SaaS revolves around apps. A particularly important aspect of this distinction is the app’s ability to provide offline support on mobile devices that are not necessarily connected to the Internet. A growing number of innovative companies are developing SaaS solutions with custom apps that target specific needs.  An interesting example is Pleasanton, California-based ServiceMax, provider of cloud-based, mobile-ready software solutions for field service management. The company’s tools for logistics, work order management, communication, and analytics are accessible through mobile devices. In November 2016, GE Digital acquired ServiceMax for $915 million. The two companies have engaged in research aimed at incorporating Internet of Things capabilities into enterprise mobile SaaS solutions.

API-based SaaS
        Defined as a set of routines, protocols, and tools for building software, the application program interface (API) is increasingly central to the SaaS market. A growing number of companies are developing APIs that are easier to use and thus more accessible to non-tech customers. Going even further, some pioneering companies are adopting an API-first strategy. Instead of using a graphical user interface (GUI), these companies provide interaction through a web-based API that allows users to access data over the Internet. This new generation of companies often charge by the number of requests made to the API and the amount of data that is delivered through the API.  

        Founded in 2014, San Francisco, California-based Clearbit is an interesting example of API-based SaaS. The company specializes in business intelligence APIs that search the web and other sources for publicly available information on people and businesses. With clients that include Asana, Braintree, Slack, and AdRoll, Clearbit has also created a Gmail add-in named Connect, which consists of a sidebar that provides information on the email’s recipients. The widget can also provide users with a person’s email address, needing only the company’s domain and the recipient’s name or title.  

        By implementing SaaS security applications, companies can save money and streamline operations. Cloud-based services allow users to delegate their security needs to specialized third-party providers, thereby eliminating a considerable amount of on-premises software and hardware and reducing the need for qualified in-house workers with advanced expertise in IT security. Forklift upgrades and new implementations also cease to be an issue, which brings much needed relief for many organizations. While some SaaS companies target niche security services to complement existing infrastructures, others take over end-to-end management.  

        New York City-based Avanan works as a cloud access security broker (CASB). It enables companies to implement the same sort of security policies they use internally (such as authorization, device profiling, encryption, etc.) to their cloud resources. While first generation CASBs were deployed on premises, pioneering companies such as Avanan have developed a streamlined, easy-to-use, completely out-of-band SaaS platform that requires no proxy and can be deployed in just a few minutes.

        Another example is Boston-based EiQ Networks, which uses a hybrid SaaS model to provide proactive, around-the-clock monitoring and assessment of network security. EiQ works as an extension of the customer’s existing IT team, offering cloud-based services such as vulnerability assessment, patch management, and forensic analysis. 

Integration Platform as a Service (IPaaS)
        SaaS Integration Platforms help users overcome complex integration challenges while also allowing them to extract greater value from SaaS applications. They consist of a set of cloud-based tools that enable software engineers to deploy, manage, and integrate different on-premise and cloud-based processes, services, applications, and data.  IPaaS aims to go beyond standalone software functionalities by creating comprehensive platforms that fulfill all organizational needs. By integrating different applications, they streamline process flows, enhance productivity, and improve data management efficiency, avoiding duplication and increasing synchronization.  

        Headquartered in Minneapolis, Minnesota, DSYNC has built an innovative IPaaS system to transform and synchronize data between multiple applications. Founded in 2015, the company enables users to integrate applications, services, and APIs. The system offers data connection in near real-time along with a unique dashboard for mapping, applying filters, and setting desired parameters between website, inventory, point of sale, and financial software.

New York City SaaS Start-Ups

        New York City has established itself as a hub for SaaS start-ups. A recent study by Primary Venture Partners reveals that SaaS activities have constantly risen in NYC, both in number of funding rounds and dollars invested between 2009 and 2014. The report underlines NYC’s increasingly relevant role in the SaaS market, particularly when it comes to domain-specific, vertical solutions targeted at sectors such as real estate, finance, healthcare and pharmaceutical, insurance, advertising, retail, etc.

        NYC has a unique combination of characteristics that make it an ideal ecosystem for the SaaS entrepreneur. While it is home to over half a million small businesses, it also has an unparalleled concentration of industry giants - 19 percent of all S&P 500 companies are headquartered in the tri-state area (data from 2014). As pointed out by Primary Venture, the density of potential customers as well as an inflow of talented and well-trained technology graduates from all over the globe “drives innovation, facilitates business model experimentation, and makes early customer acquisition especially efficient.”

        Online community Built in NYC lists numerous SaaS start-ups that use cloud technology to “influence just about everything.”  Examples of innovative NYC-based SaaS companies include:  

Catchpoint Systems: Founded in 2008, Catchpoint Systems offers digital performance analytics through an innovative end-user experience monitoring platform used by more than 350 companies in 30 countries. Aiming to enable a smarter, faster way to preempt issues and optimize service delivery, Catchpoint offers multiple solutions, including integrated, synthetic, and real user monitoring, real-time analytics, and real user measurement.

Namely: With offices in New York, San Francisco, Austin, and Atlanta, Namely is an example of a horizontal SaaS provider. Founded in 2012, the company provides cloud-based HR software that helps businesses handle functions such as employee management, performance reviews, payroll, benefits, workflow and approvals.

Handshake Corp.: Focused on wholesale buying and selling, Handshake is a cloud-based software that allows sales reps to replace paper catalogs and order forms with mobile devices. The company offers features such as instant syncing, barcode scanning, and quick access to inventory and customer data.
Greenhouse Software: Founded in 2012, Greenhouse provides recruiting software designed to help businesses streamline and optimize hiring efforts. Their HR-SaaS allows users to create job campaigns, plan interviews, and make data-driven hiring decisions.  

Flatiron Health: An example of vertical SaaS, Flatiron Health specializes in oncology software. Their cloud-based platform connects cancer centers across the U.S. with the objective of centralizing information to improve treatments and accelerate research. Founded in 2012, the company has over 400,000 patient visits logged into the platform per month.

Betterment: Aiming to provide a smarter way to invest, Betterment builds algorithms for wealth management. Its platform is designed for optimal returns at every level of risk. The company was founded in 2008 and has raised over $205 million in 6 funding rounds since then.

Datadog: With a client base that includes Netflix, Airbnb, Twilio, Spotify, and Warner Bros, Datadog is a SaaS-monitoring platform that helps companies centralize important metrics from apps, tools, and services. Datadog was founded in 2010 and has since helped customers avoid downtime, fix performance problems, and streamline development and cycles.

Moat: Founded in 2010, Moat measures real-time attention analytics over 19 billion times per day. Their SaaS analytics solution covers multiple devices and platforms, from desktop to mobile, from content to video. Moat provides actionable metrics including ad viewability, human vs. non-human traffic, and ad attention. Clients include Unilever, The New York Times, Twitter, Facebook, among many others.

Teckst: Founded in 2014, this telecommunications start-up has created a cloud-based texting platform that helps customer service teams communicate with clients. The easy-to-use, customizable solution can be integrated with different CRM software, no developers required.

Custora: This predictive marketing platform allows online retailers to gather valuable customer data for optimized advertising efforts. Custora’s cloud-based software analyzes data to predict how customers will behave in the future. Founded in 2011, the company has worked with major clients including but not limited to Crocs, Guess, and Loft.

Routehappy: Founded in 2013, this New York-based start-up targets the airline industry. Its SaaS platform intends to improve the customer booking experience by providing data such as scores and “happiness factors.”

Dataminr: This cloud-based platform uses proprietary algorithms to gather real-time data from Twitter and other public datasets in order to detect actionable signals of interest to finance, public sector, news, corporate security and crisis management clients. By instantly analyzing publicly available data, Dataminr delivers the earliest alerts for real-world events.

Boston-based SaaS Innovators

        Boston-based SaaS start-ups are helping reshape the infrastructure of business operations across various industries. These innovative companies offer cloud-based solutions that are not only scalable and easy to implement, but also cost-effective and customizable. The following examples, originally featured in Built in Boston, shed light on the diversity of innovative SaaS-related activities in Boston.

EverTrue: Founded 2010, EverTrue aims to bring the technological advances of the for-profit sector to the mission-driven nonprofit world. The company has created a cloud-based platform that combines institutional data with social insights to optimize constituent engagement and maximize giving potential. EverTrue has over 300 customers with solutions that include alumni relations, annual giving, prospect research, and gift officers.

InsightSquared: Founded in 2010, InsightSquared delivers sales performance analytics for SaaS business of all sizes. With hundreds of pre-built reports for every major sales metric, the company helps users optimize sales performance. Its visual, maintenance-free reports and dashboards work as a real-time, custom lens into sales performance. InsightSquared has over twenty thousand active users. It has been named a “Top-Rated BI” software provider by TrustRadius and G2Crowd.

Localytics: This cloud-based mobile engagement platform for mobile and web apps uses advanced data analytics to create unique marketing experiences. Its solutions include more relevant and effective push notifications as well as timely and targeted in-app messages. Localytics client base includes Microsoft, ESPN, Tumblr, among many others.

Yesware: Founded in 2010, Yesware is a sales acceleration platform that enables salespeople to connect with prospects, track engagement, and close deals. The innovative solution delivers prescriptive analytics and advice based on recent sales activities as well as an array of tools, such as email automation, phone dialer, sales prospecting, etc. By injecting data insights and sales communication tools into its customers’ existing email workspace, Yesware enhances productivity and empowers sales teams to make smarter decisions, faster.

Codeship: This innovative start-up focuses on facilitating software development by optimizing testing and release processes. It works as a hosted continuous delivery platform that helps release software quickly, automatically, and multiple times a day, thus shortening the development cycle and reducing the risk of bugs.

Toast: Founded in 2011, Toast is an all-in-one point-of-sale and restaurant management platform. The cloud-based system presents advanced functionalities such as tableside ordering, quick menu modifications, real-time enterprise reporting, online ordering, and labor management.

Carbonite: This cyber security SaaS start-up offers cloud and data protection that includes advanced backup, rapid recovery, and anywhere access for small and midsize businesses or individuals.

Kensho Technologies: Founded out of MIT and Harvard in 2013, Kensho deploys scalable machine intelligence and analytics systems across the most critical government and commercial institutions in the world to solve some of the hardest analytical problems of our time. Backed by investors as diverse as Google Ventures, Goldman Sachs, and In-Q-Tel (the venture capital arm of the CIA), this start-up has received numerous awards. Named a Technology Pioneer by the World Economic Forum, Kensho was listed among the 100 most promising artificial intelligence companies globally.

Nanigans: This advertising automation SaaS platform empowers in-house marketing teams to grow the revenue impact of their digital advertising. Founded in 2010, Nanigans helps manage over $600 million in annualized ad spend, with functionalities that include multichannel programmatic media buying, predictive revenue optimization, and real-time business intelligence across today’s most valuable digital channels.

Baltimore and Washington, D.C.

        Baltimore and Washington, D.C. are also home to numerous SaaS start-ups that can benefit from R&D tax credits to support their innovative efforts. The following paragraphs present a few examples:

FiscalNote: Creator of a Government Relationship Management Platform, Washington, D.C.-based FiscalNote enables government affairs professionals and executives to maximize their influence on legislation and regulatory policy through automation, optimization, and the delivery of analytical insights. Founded in 2013, the company uses proprietary analytics and breakthrough machine-learning techniques to deliver contextual insights and outreach tools that support an enterprise-based approach to modern government affairs. FiscalNote has raised more than $30 million from prominent early-stage investors.

Contactually: Based in Washington, D.C., this relationship marketing platform helps companies and individuals keep and generate business from their network. Contactually was founded in 2011 with the objective of providing smarter tools for staying in touch with key contacts. The platform is available as both a web and mobile-app. Its intuitive dashboard concentrates outreach tasks while its customizable programs allow for automatic sequences of actions according to contact “buckets”.

EverFi: This award-winning, proprietary SaaS platform provides a highly engaging experience for students, and features the latest in technology and instructional design. Founded in 2008, Washington, D.C.-based EverFi is the nation’s largest network for online education in off-curriculum, as well as highly valuable content areas such as financial literacy, student loan management, digital literacy, STEM Readiness, health and wellness, and other key life skills for the 21st century student. The company currently works with more than 12,000 schools, colleges, and universities in all 50 states and Canada.

AgSquared: This cloud-based platform for farm planning and management helps farmers create yearly farm plans and turn such plans into day-to-day practices through the course of the farming season. AgSquared gathers data on farm operations to allow users to build a complete picture of different metrics including productivity, profitability, and sustainability. Founded in 2009, the Washington, D.C.-based company focuses on small farms, which are too small to benefit from existing precision agriculture technologies.

Aquicore: Founded in 2013, Aquicore provides an energy analytics and automation software platform for energy efficiency management. Targeting commercial and high-end residential spaces, the cloud-based solution helps building owners, managers, engineers, and sustainability teams operate more efficiently, save money, and reduce waste. Headquartered in D.C., Aquicore also has offices in San Francisco.

410Labs: This Baltimore-based start-up is the creator of Mailstrom, an-email management SaaS solution. Founded in 2010, 410Labs aims to help people communicate and access information in new and better ways. The innovative Mailstrom is a power tool that amplifies human intelligence. Capable of working with Gmail, Google Apps Email, Outlook, Apple, AOL, Exchange IMAP, and any other email service that supports IMAP, Mailstrom identifies bundles of related mail, and makes it easy for users to act on them as a group.

ZeroFOX: Founded in 2013, cyber security start-up ZeroFOX offers protection against the dynamic risks of social media and digital channels. The Baltimore-based company has developed a SaaS platform that processes millions of posts and accounts across the social landscape (including Facebook, LinkedIn, Twitter, Instagram, etc.). It combines data science and machine learning to expose social media threats, explore attacker tactics, and help drive technological innovations and best practices to remediate threats.


        SaaS solutions represent a significant technological transition as well as a shift in business models. The flexibility of cloud computing has opened the way for the development of creative SaaS solutions that target an increasing range of industries. As the number of SaaS companies reaches unprecedented levels, innovation becomes the cornerstone of competitiveness. R&D tax credits are available to support innovative SaaS start-ups in the development of new and improved cloud-based solutions.

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