State and Federal R&D Tax Credits
While the federal R&D Tax Credit under IRC §41 rewards businesses for innovation, many states also offer their own R&D credit programs to attract research investments locally.
Each state has unique rules, credit percentages, and filing forms — but nearly all mirror the federal R&D credit framework.
This guide compares the State and Federal R&D Credits to help taxpayers understand how to claim both for 2025 and maximize overall tax savings.
Relevant Tax Codes and Forms
- Federal Credit: IRC §41 — Credit for Increasing Research Activities.
- General Business Credit: IRC §38 — Aggregates R&D with other tax credits.
- Common State Forms:
- California: Form FTB 3523
- Texas: Form 05-178
- Illinois: Form IL-477
- Massachusetts: Schedule RC
- Michigan: Form 5803
- Federal Form 6765: Required for the base R&D credit calculation.
Step 1: The Federal R&D Credit Framework
Under IRC §41, the federal R&D credit equals a percentage of Qualified Research Expenses (QREs) that exceed a base amount.
QREs include:
- Employee wages directly related to R&D.
- Supplies used in experimentation.
- 65% of contract research costs.
- Cloud computing and prototype testing.
Businesses claim the credit using Form 6765, and eligible startups may apply part of it toward payroll taxes using Form 8974.
Step 2: How State R&D Credits Mirror the Federal Model
Most states base their credits on federal definitions of qualified research under IRC §41(d).
However, each state sets its own credit rate, base calculation, and carryforward period.
This makes it possible to claim both federal and state R&D credits simultaneously for the same project — provided you meet each jurisdiction’s specific filing and documentation standards.
Step 3: State-by-State Comparison of R&D Credits (2025)
| State | Credit % | Carryforward | Unique Rule / Form |
|---|---|---|---|
| California (CA) | 15% of QREs (Form FTB 3523) | Indefinite | Excludes contract research outside CA. |
| Texas (TX) | 5% of QREs (Form 05-178) | 20 years | Cannot claim both franchise tax and sales tax exemptions simultaneously. |
| Illinois (IL) | 6.5% of excess QREs (Form IL-477) | 5 years | Mirrors federal but applies only to in-state research. |
| Massachusetts (MA) | 10% on incremental QREs + 15% for basic research | 15 years | Includes research payments to universities. |
| Michigan (MI) | 1.9% of in-state QREs (Form 5803) | 10 years | Must have Michigan business activity nexus. |
Example:
A company in California with $800,000 of qualifying research expenses could claim:
- Federal Credit (Regular Method): $100,000
- CA R&D Credit (15% of QREs): $120,000
Total Potential Benefit: $220,000 (combined federal + state)
Step 4: Key Differences Between Federal and State Credits
| Criteria | Federal (IRC §41) | State (Varies by Jurisdiction) |
|---|---|---|
| Governing Code | IRC §41 | State tax statutes |
| Qualified Research Definition | Standardized | Often mirrors federal rules |
| Eligible Location | U.S. only | In-state only |
| Credit Rate | 14–20% | 1–15% |
| Carryforward | 20 years | 5–20 years or indefinite |
| Refundability | Nonrefundable | Some states offer limited refundability |
| Filing Form | Form 6765 | State-specific forms |
Step 5: How to Coordinate Federal and State Credits
- Start with Federal QREs — calculate total qualified expenses.
- Segregate State-Eligible QREs — exclude out-of-state research.
- File Both Returns Simultaneously:
- Federal: Form 6765
- State: Relevant state credit form.
- Document Research Location and Payroll Allocation.
- Track Carryforwards separately for state and federal returns.
Tip: Many taxpayers overlook the requirement that state credits apply only to in-state research, even when projects are federally eligible.
Step 6: Documentation and Audit Considerations
- Maintain time sheets showing which employees worked in-state.
- Retain supplier invoices proving where research materials were used.
- Include contracts and project summaries if research was outsourced.
- Keep state-specific documentation for at least four years.
Each state’s department of revenue can audit independently of the IRS.
Conclusion
State-level R&D credits can significantly increase total tax savings when claimed in conjunction with the federal R&D credit under IRC §41.
By aligning in-state activities with federal definitions and filing both sets of forms correctly, businesses can maximize their benefit and maintain full compliance for the 2025 tax year.
Call to Action
For expert assistance coordinating State and Federal R&D Credits, contact Anshul Goyal, CPA EA FCA, a U.S.-licensed Certified Public Accountant, Enrolled Agent authorized to practice before the IRS, and a cross-border tax expert assisting American and Indian businesses with multi-state R&D credit filings.
Disclaimer
This article is for informational purposes only and does not constitute legal or tax advice. Always consult a CPA before filing multi-state R&D claims.
Top 5 FAQs
- Can I claim both state and federal R&D credits?
Yes, most states allow separate claims based on in-state activities. - Are the definitions of R&D the same for state and federal credits?
Generally yes, as most states follow IRC §41(d) definitions. - Do states limit R&D credits to local operations?
Yes, state credits apply only to in-state research. - How long can I carry forward unused state R&D credits?
Typically 5–20 years, depending on the state. - Are state R&D credits refundable?
Some states (e.g., MA) allow limited refundability or credit transfers.
About Our CPA
Anshul Goyal, CPA EA FCA is a Certified Public Accountant licensed in the United States, Enrolled Agent admitted to practice before the IRS, and a cross-border tax expert helping American and Indian businesses claim federal and state R&D credits, manage audits, and maintain compliance.