A Guide to California’s R&D Tax Credit

California R D Tax Credit

Why the California R&D Tax Credit Matters

The California R&D Tax Credit offers significant incentives for companies engaging in research and development within California. Here’s a quick snapshot for those wanting a fast answer:

  • Credit Rate: 15% for qualified expenses exceeding a base amount.
  • Basic Research Payments: 24% rate.
  • Carryforward: Indefinite until exhausted.
  • Eligibility: Research must take place in California.

This tax credit aligns closely with the federal research credit but includes some key modifications to benefit California-based companies. Enacted to stimulate innovation and technological advancement, the federal credit was first introduced in 1981 and has since become a cornerstone for businesses eager to reduce their tax liabilities while driving forward new developments.

In California, qualifying research activities must meet a four-part test, and the credit is applied specifically to in-house research and external basic research payments.

I’m Philip Wentworth, Jr., co-founder of Rockerbox. With over two decades of experience in navigating tax credit programs like the California R&D Tax Credit, I’ve helped countless businesses enhance their cash flow significantly. Now, let’s dive deeper into the specifics of how your business can benefit.

Details on California R&D Tax Credit - california r&d tax credit infographic pillar-4-steps

What is the California R&D Tax Credit?

The California R&D Tax Credit is a state-level incentive designed to encourage businesses to engage in research and development activities within California. This credit allows companies to receive a 15% tax credit for qualified in-house research expenses and 24% for basic research payments.


To qualify, research must be conducted within California and must include basic or applied research. This involves scientific inquiry, original investigation for the advancement of scientific or engineering knowledge, or improving the function of a business component.

Qualified In-House Research Expenses

Qualified in-house research expenses include:

  • Wages for employees directly involved in R&D activities.
  • Supplies used in the research process.
  • Contractor expenses for third-party R&D services (capped at 65% of the total payment).

Basic Research Payments

Basic research payments are payments made to qualified educational institutions, scientific research organizations, or grant organizations for basic research. These payments can qualify for a 24% credit.


The California R&D Tax Credit is non-refundable. This means that the credit can reduce your tax liability to zero, but it won’t result in a refund if the credit exceeds your tax liability. However, any unused credits can be carried forward indefinitely, providing future tax relief.

By leveraging Rockerbox’s proprietary technology, businesses can automate the process of claiming these tax credits, potentially improving cash flow by up to 40%.

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Next, we’ll explore how your business can qualify for the California R&D Tax Credit.

How to Qualify for the California R&D Tax Credit

To qualify for the California R&D Tax Credit, your business activities must meet specific criteria. These activities should involve qualified research activities (QRAs) that are technological in nature and aimed at improving or developing new business components. Here’s a breakdown of what you need to know:

Qualified Research Activities (QRAs)

QRAs must meet the following four-part test:

  1. Permitted Purpose: The activity must aim to create or improve a product, process, software, or technique. For example, if you’re developing a new software application or improving an existing manufacturing process, this qualifies.

  2. Technological in Nature: The activity must fundamentally rely on principles of physical or biological science, engineering, or computer science. This includes fields like biology, chemistry, and computer engineering.

  3. Eliminate Uncertainty: The activity should seek to discover information that eliminates uncertainty about the development or improvement of a product or process. For instance, testing different materials to find the best one for a new product.

  4. Process of Experimentation: The activity must involve a process of experimentation, such as testing, modeling, or systematic trial and error. This means you’re trying out different methods to achieve the desired outcome, like experimenting with new software algorithms.

Scientific Inquiry and Engineering Knowledge

Your research should involve scientific inquiry or engineering knowledge. This means your activities should be based on scientific principles or engineering methodologies. For example, conducting lab tests to discover new chemical compounds or using engineering techniques to design a more efficient machine.

Business Component Improvement

The aim of your research should be to improve a business component. This could be a product, process, software, or technique that you use in your business. For instance, if you’re improving the efficiency of your production line or developing a new product feature, these activities can qualify.

California-Based Research

To claim the California R&D Tax Credit, the research activities must be conducted within California. This means your experiments, testing, and development work should take place in the state. For example, if your company’s R&D team is based in California and conducts all their work there, you’re on the right track.

Examples of Qualifying Activities

Here are some examples of activities that qualify:

  • Developing new software applications
  • Improving manufacturing processes
  • Conducting lab tests for new product development
  • Experimenting with new materials for product improvement

Activities that do not qualify include social science research, quality control work, consumer research, and research funded by grants.

Understanding these criteria is crucial for ensuring your business activities qualify for the California R&D Tax Credit. By meeting these requirements, you can potentially reduce your tax liability and invest more in your company’s growth and innovation.

Next, we’ll dive into how to calculate the California R&D Tax Credit.

Calculating the California R&D Tax Credit

Calculating the California R&D Tax Credit might seem tricky, but breaking it down into simple steps can make it manageable.

15% of Qualified Expenses

First, you can claim 15% of your qualified in-house research expenses. These are costs directly related to your research activities in California. This includes wages for employees involved in R&D, supplies used in research, and certain contractor expenses.

Base Amount

To calculate your credit, you need to figure out your base amount. This is generally the average of your R&D expenses from the three tax years before your first tax year starting after December 31, 1983. If you weren’t in business during this period, your base amount is 50% of your current basic research payments. The amount on line 2 cannot exceed the amount on line 1 of the form.

24% of Basic Research Payments

In addition to the 15% credit, you can also claim 24% of your basic research payments. These are payments you make to universities or other qualified research organizations for conducting research on your behalf.

Alternative Incremental Credit

If the traditional method is too complex, you can opt for the Alternative Incremental Credit (AIC). This method involves calculating your R&D expenses for the last three years, finding the average, and then using 50% of this average as your base amount. You then subtract this base from your current year’s expenses and apply a 14% credit rate to the difference. This method is often simpler and can be more favorable for companies with increasing R&D spending.

Fixed-Base Percentage

The fixed-base percentage is a ratio that shows how much of your sales were used for R&D in the past. For existing companies, it’s the ratio of your aggregate qualified research expenses for at least three tax years from 1984 to 1988 to your aggregate gross receipts for those years. For start-ups, it’s a bit different: you use 3% for the first five years and then follow specific rules for years six through ten.

By understanding these components, you can accurately calculate your California R&D Tax Credit and ensure you’re maximizing your benefits. Leveraging Rockerbox’s proprietary technology can automate this process, improving your cash flow by up to 40%.

Next, we’ll explore how to claim the California R&D Tax Credit.

How to Claim the California R&D Tax Credit

Claiming the California R&D Tax Credit involves a few key steps. Here’s a simple guide to help you navigate the process:

File Your Income Tax Return

First, you need to file your income tax return. This is where you’ll report your research expenses and claim the credit.

Attach Form FTB 3523

Form FTB 3523, also known as the Research Credit, is essential. This form helps you compute and claim the credit for increasing research activities in your business. You can find detailed instructions for this form on the California Franchise Tax Board website.

  • Section A: Regular Credit
  • Section B: Alternative Incremental Credit
  • Section D: Pass-through entities like S corporations, estates, trusts, partnerships, and LLCs

Follow the Instructions

The instructions for Form FTB 3523 are crucial. They guide you on how to fill out the form correctly. Make sure to follow them closely to avoid any errors.

Credit Assignments

If you’re part of a pass-through entity, you can receive research credits from S corporations, estates, trusts, partnerships, and LLCs. These credits can be assigned to shareholders, beneficiaries, partners, or members.


If you can’t use the full credit in the current tax year, don’t worry. The unused credit can be carried over to future years until it is fully used. You must apply the carryover to the earliest possible tax year.

By following these steps, you can successfully claim the California R&D Tax Credit and potentially improve your business’s cash flow.

Next, we’ll discuss the documentation requirements for the California R&D Tax Credit.

Documentation Requirements for the California R&D Tax Credit

When claiming the California R&D Tax Credit, documentation is key. The California Franchise Tax Board (FTB) relies on various documents to substantiate your R&D tax credit claims. Let’s break down what you need:


Contracts with third parties can show the scope and nature of the research activities. These documents should detail the work performed and the costs incurred. For example, if you hired a software development firm to assist in a project, the contract should specify the deliverables and the associated costs.

General Ledgers

Your general ledgers provide a comprehensive record of all financial transactions. They help verify expenses related to R&D activities. Ensure your entries are detailed and categorized correctly to reflect qualifying research expenditures.

Field and Lab Summary Data

Field and lab summary data are crucial for demonstrating the actual research work conducted. This includes experimental results, test data, and progress reports. These documents help substantiate the technical nature of your R&D activities.

Human Resource Documents

Human resource documents like payroll records and job descriptions are essential. They show who worked on R&D projects and how much time they spent. Detailed job descriptions can clarify how each employee’s role contributes to the research activities.

Federal and State Tax Returns

Your federal and state tax returns are foundational documents. They help auditors cross-reference your R&D claims with your overall financial filings. Ensure these returns are accurate and align with the expenses reported for the R&D credit.

Research Activity Materials

Materials that explain your research activities, such as brochures, pamphlets, and press releases, provide context and evidence of your R&D work. These research activity materials can demonstrate the purpose and scope of your projects.

Meeting Minutes

Minutes or notes from budget, board of directors, managerial, or other meetings that discuss research activities are invaluable. These meeting minutes can show the decision-making process and support the strategic importance of your R&D projects.

Remember: Keeping detailed and organized records is not just about compliance. It also tells the story of your innovation. Proper documentation can make the difference between a smooth claim process and a challenging audit.

Next, we’ll address some frequently asked questions about the California R&D Tax Credit.

Frequently Asked Questions about the California R&D Tax Credit

Does California have an R&D tax credit?

Yes, California offers a Research and Development (R&D) Tax Credit similar to the federal version. The California R&D Tax Credit is designed to incentivize businesses to conduct research activities within the state. It allows businesses to claim 15% of qualified research expenses that exceed a base amount and 24% of basic research payments. Unlike the federal credit, California does not offer an Alternative Simplified Credit (ASC) method.

How to calculate California R&D credit?

Calculating the California R&D Tax Credit involves a few key steps:

  1. Identify Qualified Research Expenses (QREs): These include wages for employees directly involved in R&D, supplies used in research, and 65% of contract research expenses.

  2. Determine the Base Amount: This is typically based on a fixed-base percentage of the average annual gross receipts for the prior four years.

  3. Calculate the Credit:

  4. 15% of the QREs that exceed the base amount.
  5. 24% of basic research payments.

For example, if a company in San Francisco had $1,300,000 in QREs for 2021, the credit would be calculated as follows:
– 15% of $1,300,000 = $195,000 (if QREs exceed the base amount)
– If there were basic research payments, 24% of those payments would also be added to the credit.

What is the reduction of research expenses by research credit in California?

In California, the R&D tax credit reduces your tax liability on a dollar-for-dollar basis. This means if you owe $50,000 in taxes and qualify for a $20,000 R&D tax credit, your tax liability is reduced to $30,000. Unused credits can be carried forward indefinitely, unlike federal credits, which have a 20-year carryforward period.

Important Note: S corporations in California can only claim 1/3 of the credit against the 1.5% entity-level tax (3.5% for financial S corporations).

Leveraging Rockerbox’s proprietary technology can automate these tax credit programs, potentially improving your cash flow by up to 40%.

Next, we’ll dive into the conclusion, summarizing how Rockerbox can assist your business in navigating and maximizing these opportunities.


Navigating the complexities of the California R&D tax credit can be daunting, but that’s where we come in. At Rockerbox, we leverage our proprietary technology to automate tax credit programs, making the process smoother and more efficient for your business.

By using our advanced tools and expert knowledge, we help you identify and claim all eligible R&D tax credits. This can significantly improve your cash flow—by up to 40%.

Imagine reinvesting that extra capital back into your business, driving innovation, and fueling growth. Our team of engineers and finance professionals, with over 20 years of experience, stays engaged with you throughout the year. We help you document your R&D activities as they happen, ensuring you meet all necessary requirements and are well-prepared for any audits.

In summary, Rockerbox is your reliable partner in maximizing your R&D tax credits. Whether you need help with documentation, calculating your credits, or defending your claim, we are here to support you every step of the way.

Ready to get started? Get in touch with us now for a free assessment and see how much you can save with the California R&D tax credit.