What Expenses Qualify for the Research and Development Tax Credit?

If you're a business owner developing new products, improving processes, or investing in innovation, there's good news: you may be eligible for the Research and Development Tax Credit—a powerful tax incentive designed to reward innovation and lower your federal tax liability.

But while many companies have heard of this credit, few take full advantage of it. Why? Because there's still a lot of confusion about what actually qualifies as R&D expenses. The good news is that qualifying activities and costs are broader than most people think.

At Renaissance Advisory, we specialize in helping businesses uncover and maximize these types of tax benefits. In this blog, we’ll break down which expenses qualify for the research and development tax credit and how your business can benefit with the right guidance.

Understanding the R&D Tax Credit

The research and development tax credit, established in 1981 and now permanent in the tax code, is intended to encourage U.S.-based innovation. It allows businesses to claim a credit for a portion of the qualified research expenses (QREs) they incur while developing or improving products, processes, or software.

The R&D credit is available to a wide range of industries—not just technology or manufacturing. Construction, agriculture, food production, and even financial services can qualify under the right circumstances.

The key is understanding what constitutes qualified research activities (QRAs) and qualified research expenses.

Four-Part Test for Qualified Research Activities

Before we dive into specific expenses, it’s important to understand the IRS’s four-part test for what constitutes qualified research. To be eligible for the research and development tax credit, an activity must:

1. Be related to a permitted purpose – This includes creating or improving a product, process, software, or technique that results in improved functionality, performance, quality, or reliability.

2. Involve technological in nature – The activity must be based on principles of engineering, physics, biology, or computer science.

3. Eliminate uncertainty – You must try to eliminate uncertainty about the development or improvement of a product or process.

4. Involve a process of experimentation – This means evaluating different design alternatives, testing hypotheses, or simulating outcomes to achieve a desired result.

If your activity meets all four criteria, the associated expenses may qualify for the credit.

What Expenses Qualify?

Once you've identified qualifying R&D activities, the next step is determining which expenses can be included. The IRS recognizes four main categories of qualified research expenses:

1. Wages

Wages typically make up the largest share of qualified R&D costs. If employees are directly involved in R&D activities, their wages may qualify—even if R&D isn’t their full-time job.

The IRS divides eligible employees into three categories:

• Direct researchers: Employees who perform actual research activities.

• Direct supervisors: Those managing the R&D efforts.

• Direct support: Employees who provide support services related to R&D (e.g., data collection, testing setup).

It’s important to document how much of an employee’s time is spent on R&D-related tasks, which is where expert tax and advisory services like those from Renaissance Advisory can be invaluable.

2. Supplies

Supplies used during the R&D process also qualify. These are tangible, non-depreciable materials consumed in the research effort. Examples include:

• Raw materials for prototypes

• Chemicals used in testing

• Tools or instruments not capitalized

• Circuit boards or hardware used in development

However, capital equipment and general administrative supplies are not eligible.

3. Contract Research Expenses

If you outsource a portion of your R&D work, you can still claim a percentage of those expenses. The IRS allows you to claim 65% of contract research costs provided:

• The third party is performing R&D activities on your behalf.

• You retain rights to the results of the research.

• The contractor bears financial risk if the work isn’t successful.

Common examples include engaging software developers, engineering firms, or testing laboratories.

4. Computer Leasing or Cloud Services

If you're developing software or systems that require computing power or development environments, leased computers or cloud-based platforms may be eligible. For example:

• Cloud hosting used to test new applications

• Development environments rented from third-party providers

Documentation and allocation of usage toward R&D is key.

Common Misconceptions About Qualified Expenses

Many businesses miss out on the credit because they mistakenly believe their activities don’t qualify. Here are some common misconceptions:

• “We didn’t invent anything new.” You don’t need to invent a breakthrough product—improving an existing process can still qualify.

• “We’re not a tech company.” Innovation can occur in any industry.

• “It’s just trial and error.” That’s exactly what the IRS is looking for—evidence of a process of experimentation.

• “Our R&D failed.” Success isn’t a requirement. The attempt to innovate is what counts.

These are the types of insights Renaissance Advisory provides to ensure no opportunity is left on the table.

Documentation: The Key to a Successful Claim

To defend your R&D tax credit in the event of an audit, detailed documentation is essential. This includes:

• Employee time tracking

• Project descriptions

• Expense breakdowns

• Contracts with third parties

• Design schematics, test results, or progress reports

Without solid documentation, even eligible expenses could be disallowed. That’s why partnering with a team that provides expert tax and advisory services, like Renaissance Advisory, is so valuable.

How Renaissance Advisory Helps

At Renaissance Advisory, we specialize in helping businesses across a wide variety of industries identify, document, and claim the research and development tax credit. Our team of experts ensures you're maximizing your benefit while staying fully compliant with IRS regulations.

Here’s how we can help:

• Conduct a feasibility assessment

• Identify qualifying activities and expenses

• Assist with technical documentation

• Coordinate with your CPA or internal accounting team

• Help claim retroactive credits for previous tax years

We work on a contingency basis—meaning we only get paid when you do.

Final Thoughts

Innovation is one of the most powerful growth drivers in business, and the research and development tax credit is designed to reward that effort. From employee wages to supplies and third-party contractors, the scope of qualifying expenses is broader than most realize.

Don’t leave money on the table.

With the right strategy and expert tax and advisory services, you can transform your R&D investments into real savings.

Let Renaissance Advisory help you unlock the full potential of your innovation efforts—starting today.

Need help understanding your eligibility or want to maximize your claim? Contact Renaissance Advisory for a free consultation today.