Water Conservation R&D Tax Credit Benefits for Businesses

Water Conservation and R&D Tax Credit

Small businesses in the water conservation sector can leverage the Research and Development Tax Credit to recover costs for developing innovative solutions such as efficient irrigation systems or water recycling technologies. Eligible R&D expenses, including wages, supplies, and contractor fees, can yield significant tax savings. Additionally, startups can benefit from the R&D Payroll Tax Offset, which allows qualified companies to apply up to $500,000 in R&S credits against payroll taxes annually for five years. This helps offset personnel costs, freeing up capital for further research, hiring, and growth, while promoting sustainable water conservation efforts.

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Founded in 1984 by J.W. Norris under the name Reed & Co., Swanson Reed has grown to become one of the world’s largest firms specializing in Research and Development (R&D) tax credit consulting. We boast numerous publications. Our artificial intelligence software, TaxTrex, is a state-of-the-art AI language model capable of preparing R&D tax credit claims in just 90 minutes. Our R&D credit audit insurance policy, creditARMOR, is one of the most cost-effective audit management products on the market.

If you have questions or require further assistance, please call or email our CEO, Damian Smyth, at (000) 000-0000. Feel free to book a short conference call with one of our national R&D tax credit specialists at a time convenient for you.

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Case Study: Water Conservation

Business Scenario

This case study exemplifies the application of key legislative requirements for eligible R&D activities, applied to relevant activities in the water conservation sector.

Fresh Water Inc. is an established provider in the water sector, focused on water and energy conservation. In 2009, Fresh Water began developing its flagship control product, the WaterWally, conceived as a smart solution for effective remote water management.

The project has been ongoing for several years. For the 2015 fiscal year, their main goal for the project is to design and develop improvements to the intuitive and multifunctional water management system. The specific technical objectives of this project include:

Designing and developing a disinfection management system that destroys pathogens in the water flow;
Designing and developing a system capable of managing multiple water sources for non-potable applications;
Designing and developing a larger version of WaterWally that incorporates more pumps and meets various Occupational Health and Safety (OHS) requirements;
Improving the efficiency of the embedded software code (e.g., memory usage).

Fresh Water needed to determine the eligibility of its proposed R&D activities to know if they qualified for the Research and Experimentation Tax Credit. To be eligible, Fresh Water needed to be certain that its “qualified research” met four main criteria, known and developed by Congress as the Four-Part Test. Fresh Water conducted the following R&D activities.

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Fresh Water’s Eligible R&D Activities

Basic research to assess current knowledge gaps and determine feasibility (WaterWally basic research).

The basic research for WaterWally included researching and reviewing literature to discover how WaterWally would function in third-world and developing countries. The study identified a series of functions that would provide significant added benefit to those users in the area of water quality and safety. Fresh Water’s research on global water issues and climate change confirmed an urgent need to improve rainwater harvesting and reuse worldwide. To address this need, WaterWally needed to be able to handle a wider spectrum of water sources and take autonomous actions based on a variety of conditions. The parameters to be developed included:

pH, turbidity, and conductivity;
Analysis of previous design solutions and evaluation of major interferences to determine potential solutions;
Consultation with industry professionals and potential clients to determine the feasibility of the solution;
Consultation with key component suppliers to determine the factors they considered important in the design and to understand how the design should be structured accordingly.

Design and development of a series of prototypes to achieve technical objectives (WaterWally design, development, and testing).

Fresh Water’s hypothesis for this R&D activity was that the theorized designs and redesigns of WaterWally could be physically implemented in a specific physical space and tested for functionality. R&D activities to test this hypothesis included:

Physical implementation of new functions to ensure physical compatibility with existing computer firmware and other components;
Recoding of embedded software to improve efficiency within space constraints;
Continuous maintenance and long-term reliability testing at existing test sites.

Trials and data analysis to obtain reproducible results to a satisfactory standard and to test the hypothesis (design of a large-scale WaterWally).

The hypothesis for this phase stated that Fresh Water could design the components and layout of a large-scale WaterWally for larger projects, incorporating design changes due to different requirements. R&D activities in this phase included:

Sketching with the goal of reducing production costs (important for end users) and shortening the overall length of the WaterWally;
2D technical drawings for:
- Process evaluation
- Cross-section analysis
3D CAD modeling. Key factors examined were:
- The physical relationships between the various components and the control electronics.
- The dimensions and placement of optional modules and control electronics

Continuous analysis of customer or user feedback to improve prototype design (WaterWally feedback).

WaterWally feedback was necessary to assess the performance capabilities of the new design in the field and improve any defects in the design. The feedback included analysis of test results, which could serve as a starting point for developing new hypotheses, and the application of small modifications such as tweaks or minor changes to allow further testing of the new solution.

Live Webinar: R&D Tax Credit in the Water Conservation and Renewable Energy Sector

Duration: 60 Minutes

Learning objectives include:

An overview of R&D Tax Credits
Identifying Qualifying Research Activities
Defining the 4-Part Test
How to substantiate activities through documentation
Identifying Qualifying Research Expenses

Cost: FREE

Knowledge Level: Basic*

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Definition of Qualified Research

Qualified research consists of research activities with the intent to develop new or improved business components. A business component is defined as any product, process, technique, invention, formula, or software that the taxpayer intends to hold for sale, lease, license, or actual use in the taxpayer’s trade or business.

The Four-Part Test

Activities that are eligible for the R&D Credit are described in the “Four-Part Test,” which must be met for the activity to qualify as R&D.

Permitted Purpose: The purpose of the activity or project must be to create new (or improve existing) functionality, performance, reliability, or quality of a business component.
Elimination of Uncertainty: The taxpayer must intend to discover information that would eliminate uncertainty regarding the development or improvement of the business component. Uncertainty exists if the information available to the taxpayer does not establish the capability of development or improvement, the method of development or improvement, or the appropriateness of the business component’s design.
Process of Experimentation: The taxpayer must undertake a systematic process designed to evaluate one or more alternatives to achieve a result where the capability or method to achieve that result, or the appropriate design of that result, is uncertain at the beginning of the taxpayer’s research activities.
Technological Nature: The process of experimentation used to discover information must be fundamentally based on principles of the hard sciences such as physical or biological sciences, chemistry, engineering, or computer science.

What specific records and documentation has Fresh Water kept?

Similarly to any tax credit or deduction, Fresh Water needed to keep business records outlining what they did in their R&D activities, including experimental activities and documents to demonstrate that the work proceeded in a systematic manner. Fresh Water kept the following documentation:

Literature review
Meeting notes
Sketches/drawings
Photos
Screenshots
Test protocols
Test results and analysis
Customer feedback
Field test results
Patent application number

Having these records on file, Fresh Water confirmed that they were “audit ready” — meaning that if they were subject to an audit, they could present the documentation to show the progression of their R&D work.