Your startup’s biggest investor might be the one you’ve been ignoring: the IRS.

Federal tax credits can put hundreds of thousands of dollars back into your business — even if you’re not yet profitable. For early-stage companies, that could mean extra hires, faster product launches, or months of extended runway.

Yet roughly 70% of eligible startups never claim these credits. Most either don’t realize they qualify or assume the rules are too complex to navigate. The truth? The IRS designed many of these incentives with startups in mind.

And thanks to recent tax law changes under the One Big Beautiful Bill Act (OBBBA, signed July 4, 2025), domestic R&D costs can now be fully expensed immediately — reversing the old five-year amortization rule and applying retroactively. That makes R&D incentives more powerful than ever.

This guide focuses on credits that matter most to startups, but if you want to explore incentives available to all small businesses, check out our complete guide to maximizing small business tax credits.

Quick-Glance: 2025 Startup Tax Credits

Why Startup Tax Credits Matter More Than Ever

Running a startup means every dollar counts toward extending your runway and scaling fast. Tax credits aren’t just accounting line items — they’re direct cash savings that reduce your tax bill dollar-for-dollar, and in some cases, put money back in your account even if you don’t owe income tax.

Unlike deductions, which only lower your taxable income, credits cut what you owe the IRS directly. For a cash-strapped startup, that difference can mean months of extra runway or the ability to hire that crucial engineer you’ve been putting off.

We’ve seen founders miss out on six-figure savings simply because their accountant treated them like a traditional small business instead of spotting startup-specific opportunities. This guide will help make sure you’re not one of them.

The R&D Tax Credit: Your Biggest Opportunity

What It Is and Why It Matters

The Research and Development (R&D) Tax Credit is the most valuable federal tax incentive for most tech-focused startups. It rewards companies that invest in creating or improving products, processes, or software — even if those projects never make it to market.

Two key benefits in 2025:

• The credit itself has no dollar cap when offsetting income taxes.

• The payroll tax offset allows non-profitable startups to apply up to $500,000 of their R&D credit against payroll taxes each year providing real cash flow relief.

For early-stage companies with high development costs and little to no taxable income, that payroll offset can be a lifeline.

2025 Law Change: Immediate Expensing Restored

Under the OBBBA, domestic R&D costs can now be fully deducted in the year they’re incurred — reversing the five-year amortization rule that’s been in place since 2022.

This means you can deduct your full qualified R&D costs immediately and still claim the R&D credit for the same expenses.

Retroactive relief: The new rule applies back to tax years 2022, 2023, and 2024. Small taxpayers that amortized R&D expenses in those years may be able to file amended returns to deduct the full amount and potentially generate refunds or take a catch-up deduction in 2025 and 2026. The IRS generally allows amendments within three years of the original filing date, so don’t wait.

Example: If your startup had $300,000 in qualified domestic R&D costs in 2023, you can amend your return to deduct the full $300K that year instead of spreading it over five years — and still keep your original R&D credit. Note: the payroll tax offset election must be made on an original return — amended returns cannot be used to make the election.

Do You Qualify? (Probably Yes)

You don’t need a lab coat or a PhD to qualify. The IRS defines R&D broadly, and many software, hardware, and process-improvement projects count. If your work meets the Four-Part Test, you’re in the running:

1. Technical uncertainty – You’re trying to solve a problem without an obvious solution.

2. Process of experimentation – You test different approaches instead of applying known solutions.

3. Technological in nature – Your work relies on engineering, computer science, or other hard sciences.

4. Business component purpose – You’re developing something intended for use in your business.

Plain English summary: If you’re building or improving something and figuring it out as you go, your project likely qualifies.

2025 Reporting Requirements: New Form 6765 

The IRS has made a significant shift toward requiring more detailed documentation upfront. Starting with 2024 returns filed in 2025, the new Form 6765 introduces enhanced reporting requirements. While some of these new sections are optional for the 2024 tax year, they become mandatory for many taxpayers for tax years starting on or after January 1, 2025.

You will generally need to provide detailed, project-level documentation if your company is not a qualified small business electing the payroll credit, or if your total Qualified Research Expenses (QREs) exceed $1.5 million and your gross receipts are over $50 million.

To meet these new standards and prepare for future filings, your documentation should be robust. You'll need to track:

• The specific business components being developed

• The technical challenges you’re addressing

• The experiments you performed

• Employee time by project

• Contractor costs for qualified work

• Cloud computing expenses for development environments

The previous approach of just summarizing expenses at a high level is no longer sufficient. It's now critical to connect your costs to specific projects and document the technical work being done, as the IRS is shifting the burden of proof to the taxpayer at the time of filing.

Do I Need an R&D Study?

With the new, stricter Form 6765 reporting rules, basic tracking is often not enough. An R&D study is an audit-ready report that documents your projects, expenses, and technical analysis to fully support your credit claim.

For startups, an R&D study can prove each project meets the IRS Four-Part Test; ensure compliance with the expanded Form 6765 requirements; reduce audit risk by providing complete, defensible documentation.

While you can track some data in-house, working with a specialist to complete an R&D study can protect your savings and make compliance far easier.

The Payroll Tax Credit Advantage

If you qualify as a “small business” for R&D purposes, you can apply up to $500,000 of your R&D credit each year against the employer portion of Social Security ($250K)  and Medicare ($250K) payroll taxes — in addition to any income tax savings.

Meet the 5-5-5 rule:

• $500,000 maximum per year can offset payroll taxes.

• $5 million or less in gross receipts for the current tax year.

• Gross receipts in no more than 5 tax years total (including the current year).

Note that payroll tax credit eligibility lasts only 5 years — after that, the payroll tax offset option expires even if you still have qualifying expenses.

When and how to apply: You make the payroll offset election on your annual income tax return (Form 6765). You cannot make an election on amended tax return. Then apply the elected amount against payroll taxes by reporting it on Form 941 (Employer’s Quarterly Federal Tax Return) for the first quarter after the income tax return is filed.

If you use a payroll company, coordinate with them well before the quarter’s Form 941 deadline so they can apply the credit correctly. For startups using a PEO (Professional Employer Organization), you can still qualify for the payroll offset — but the PEO must apply the credit on your behalf since they are the employer of record for payroll tax purposes. Make sure your PEO is aware of the election and has the IRS allocation process in place.

You claim the offset quarterly through payroll tax filings, so the cash flow benefit shows up during the year, not just at tax time.

Founder’s R&D Credit Checklist for 2025

1. Confirm eligibility – Compare current projects to the IRS Four-Part Test: technical uncertainty, experimentation, technological basis, and business purpose. Common qualifiers include software development, product design, and process improvements.

2. Know the new expensing rules – Under the One Big Beautiful Bill Act (P.L. 119-21), domestic R&D costs can be fully deducted in the year incurred, retroactive to 2022–2024. The IRS will issue guidance on amending prior returns; coordinate with your tax advisor on timing.

3. Look for retroactive refunds – If you amortized R&D costs in 2022–2024, calculate potential refunds and file amendments within the three-year statute of limitations.

4. Document as you go – Keep contemporaneous records: project goals, technical challenges, experimentation steps, time tracking (employees/contractors), and related cloud or hosting costs. Extra detail is essential if QREs exceed $1.5M and trigger expanded Form 6765 reporting.

5. Decide how to use the credit –

   • Income tax offset – No fixed max for profitable startups.

   • Payroll tax offset – Up to $500K/year, claimed quarterly, if current-year receipts ≤ $5M and business history ≤ 5 tax years.

   • Retroactive expensing relief – Available regardless of receipts, but some small-business provisions (e.g., $31M average receipts test) have different limits.

Work Opportunity Tax Credit (WOTC): Hiring Incentives

What It Is

The Work Opportunity Tax Credit rewards businesses for hiring from groups that face significant employment barriers. For startups focused on building diverse, mission-driven teams, it offers a way to support inclusive hiring while generating meaningful tax savings.

Max Value: $2,400–$9,600 per qualifying hire

Credit Type: General business credit (offsets income tax). Note: For-profit companies use the WOTC to offset income tax. Eligible tax-exempt organizations may claim the credit against payroll taxes for hiring qualified veterans.

Who Qualifies

You may qualify when hiring employees from any of these target groups:

• Veterans – including disabled veterans and those who received unemployment compensation

• Ex-felons – hired within one year of conviction or release

• SNAP recipients – individuals receiving food stamp benefits

• TANF recipients – receiving Temporary Assistance for Needy Families

• SSI recipients – receiving Supplemental Security Income

• Long-term unemployed – unemployed 27+ weeks and receiving unemployment benefits

• Summer youth employees – ages 16–17 living in empowerment zones

How Much You Can Claim

The credit amount depends on the employee’s target group, wages, and hours worked.

• Most target groups: Based on the first $6,000 in wages paid during the employee’s first year:

  • 25% of qualified wages (up to $1,500) if the employee works at least 120 but less than 400 hours.

  • 40% of qualified wages (up to $2,400) if the employee works 400 hours or more.

• Certain veterans: Calculated on a higher wage base and can be as high as $9,600 per hire.

Minimum hours: The employee must work at least 120 hours before you can claim any credit.

How to Claim WOTC

Advance planning is key — you must start the process before or on the day the job offer is made:

1. Pre-screen – Have applicants complete IRS Form 8850 on or before the job offer date.

2. Certify – Submit Form 8850 to your state workforce agency within 28 days of the employee’s start date.

3. Document – Keep records of hours worked and wages paid.

4. File – Claim the credit using Form 5884 when filing your annual tax return.

Note that as a general business credit, any unused WOTC can be carried back one year and forward up to 20 years to offset future income taxes.

Deadlines

WOTC is currently available for employees who begin work through December 31, 2025. If Congress does not extend it, hires after that date won’t qualify.

Small Employer Pension Plan Startup Credit

Building Benefits While Saving on Taxes

If you're planning to offer retirement benefits to attract and retain talent, the Small Employer Pension Plan Startup Credit can offset the costs of establishing a 401(k), SEP, or SIMPLE IRA plan.

Max Value: Up to $5,000 per year for three years for plan startup costs, plus additional credits for auto-enrollment and employer contributions.

Credit Type: General business credit (offsets income tax).

How the Small Employer Pension Plan Startup Credit Works:

• If you have 1–50 employees, you can claim 100% of your qualified startup costs, up to $5,000 per year, for three years.

• If you have 51–100 employees, you can claim 50% of those costs, also up to $5,000 per year for three years.

Qualified startup costs include setting up the plan, covering administrative expenses, and providing employee education about the plan.

The SECURE 2.0 Act added two valuable enhancements:

• Auto-enrollment credit – $500 per year for three years if you add automatic enrollment features to your plan.

• Employer contribution credit – A percentage of employer contributions (up to $1,000 per employee) for the first five years, available to employers with 100 or fewer employees and phased out for those with 51–100 employees.

How to Claim

To claim the credit, you’ll file Form 8881 with your annual tax return.

Founder’s Tip: You don’t have to start your retirement plan on January 1 to get the full credit for that year. As long as the plan is set up before your tax filing deadline (including extensions), you can still take the credit. This applies to most plans like 401(k)s and SEP IRAs. For SIMPLE IRA plans, however, the deadline to set up a new plan is typically October 1 of the tax year.

Employer-Provided Childcare Credit

This credit rewards businesses that invest in helping employees access childcare — whether by building or operating an onsite facility or contracting with a qualified provider. It can be a strong recruiting and retention tool, especially for working parents on your team.

Max Value: Up to $150,000 per year
Credit Type: General business credit (offsets income tax)

The credit covers:

• 25% of qualified childcare facility expenditures (construction, operation, or contract costs)

• 10% of qualified resource and referral expenses to help employees find childcare

To claim it, you’ll need to coordinate with your provider or facility before year-end and file the appropriate IRS form with your annual tax return.

Paid Family & Medical Leave Credit

This credit encourages employers to offer paid leave for family and medical reasons under a written policy. It can be a way to strengthen your benefits package while reducing the net cost of leave.

Max Value: 12.5%–25% of wages paid to qualifying employees during leave

Credit Type: General business credit (offsets income tax)

The percentage depends on how much of the employee’s regular wages you pay during leave:

• 12.5% credit if you pay exactly 50% of wages

• Credit increases by 0.25% for each percentage point above 50%, up to a maximum of 25% if you pay full wages

To qualify, the leave must meet FMLA standards, and your policy must provide at least two weeks of paid leave to full-time employees (prorated for part-time). The credit is currently available for wages paid through tax year 2028.

Additional Credits Worth Considering

The credits above are the biggest wins for most startups, but there are other business credits worth knowing about:

Clean Energy and Electric Vehicle Credits – If your startup develops clean energy technology or uses electric vehicles for business, you may qualify for:

• Clean energy production credits for renewable energy projects

• Commercial clean vehicle credits for EV purchases

• Energy-efficient building deductions for qualifying office upgrades

State-Specific R&D Credits – Many states offer their own R&D credits, which can be claimed in addition to the federal credit. California, New York, and Massachusetts are among the most generous for tech-focused startups.

Common Mistakes That Cost Startups Money

• Waiting too long to track – Documentation is easier (and more accurate) if you start on day one. Waiting until you’re “more established” often means losing credit eligibility because the details can’t be reconstructed.
  
  

• Treating all CPAs the same – Many generalist accountants miss startup-specific opportunities like pre-revenue R&D activities or the payroll tax election. Work with someone who understands venture-funded companies and equity compensation. 

For instance, many CPAs may not realize that a startup's pre-revenue product development activities often qualify for R&D credits, or they miss the payroll tax election that provides immediate cash flow benefits. Town's comprehensive tax resources help bridge this knowledge gap for both business owners and their advisors.

• Poor documentation – The IRS may ask for detailed support, especially under the new Form 6765 rules. Project notes, GitHub commits, time tracking, and testing records all strengthen your claim.
  
  

• Missing deadlines – Some credits have strict timelines, like WOTC’s 28-day window to submit pre-screening forms after a hire. Miss the deadline, lose the credit — even if the hire qualifies.

2025 Planning Strategies

Maximize Your R&D Credit

With the new Form 6765 requirements in effect and OBBBA restoring immediate expensing for domestic R&D, now is the time to implement tracking systems that make your credit claim bulletproof. At a minimum, put these in place:

• Use project management software to categorize R&D vs. non-R&D activities

• Track employee time spent on qualifying projects

• Document technical uncertainties and experimental approaches

• Keep records of cloud computing costs for development environments

If you amortized R&D costs in 2022–2024, talk to a tax advisor about filing amended returns before the three-year statute of limitations expires.

Be Strategic Hiring with WOTC

Make WOTC screening part of your hiring process so you never miss the 28-day deadline:

• Include pre-screening questions in your job application.

• Train HR or hiring managers on the certification process.

• Partner with veteran organizations or workforce development programs to source qualified candidates.

• For credits set to expire in 2025, complete qualifying activities before year-end to secure eligibility under current law.

Plan Around Year-End Deadlines

Before year-end, review your eligibility for all credits and confirm you have complete documentation. Also keep these timing rules in mind:

• Consider accelerating certain R&D projects into the current tax year to increase your credit if your company is profitable.

• 401(k) and SEP IRA plans can be established by your tax filing deadline (including extensions) and still qualify for the full year’s credit.

• SIMPLE IRA plans must be established by October 1 of the tax year.

For comprehensive year-end tax strategies beyond credits, explore Town's tax planning guides that cover deductions, business structure optimization, and deadline management.

Looking Ahead: Legislative Changes

The most important change for startups — immediate expensing of domestic R&D costs — is no longer just a proposal. The OBBBA, signed on July 4, 2025, repealed the five-year amortization requirement and restored full, same-year deductions. This change applies retroactively to tax years 2022, 2023, and 2024, creating a rare opportunity to amend returns and potentially generate refunds.

Beyond R&D, Congress continues to debate extensions and enhancements for credits like WOTC and the Employer-Provided Childcare Credit, both of which are currently set to expire after December 31, 2025. Other credits, such as the Paid Family & Medical Leave credit, have been extended longer, currently through 2028. Keeping an eye on these developments — and planning in case they lapse — will help you avoid scrambling to capture last-minute opportunities.

Getting Professional Help

Startup tax credits come with complex rules, strict deadlines, and increasingly detailed documentation requirements. A tax professional who understands the startup landscape can help you:

• Identify every credit your company qualifies for.

• Set up tracking and documentation systems that meet IRS standards.

• Navigate the expanded Form 6765 and other new reporting requirements.

• Plan credit timing and usage across multiple tax years for maximum benefit.

• Represent you in the event of an IRS inquiry.

The right advisor will know how to apply these credits in a startup context — from pre-revenue R&D projects to payroll tax elections — and can help you avoid common pitfalls that cost founders money. The Town team works with growth-stage companies every day, so they understand both the technical rules and the realities of scaling a business.

Your Next Steps

Don’t let another tax year pass without claiming the credits your startup has earned. Here’s how to get moving now:

• Audit your current activities – Review whether your development work, hiring practices, or benefits plans qualify for available credits.

• Implement tracking systems – Start documenting qualifying activities with the level of detail the IRS now requires.

• Review past years – You may be able to amend prior returns to claim missed credits, especially with the retroactive R&D expensing rules.

• Plan strategically – Factor credit opportunities into your hiring, R&D spending, and benefits decisions before year-end.

These aren’t theoretical tax benefits — they’re real dollars that can extend your runway, fund key hires, or accelerate product development. In the competitive startup landscape, every financial advantage matters.

For personalized guidance, work with tax professionals who specialize in startup and growth-stage companies. The complexity of these credits and their documentation requirements makes expert help an investment that typically pays for itself many times over.

Disclaimer: This content is for educational purposes only and does not constitute personalized tax advice. Tax laws are complex and subject to change. Individual circumstances vary, and strategies that work for one business or individual may not be appropriate for another. Always consult a qualified tax professional before making decisions based on this information.