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Case Study: Why one accounting firm decided to launch its own R&D Tax Credit services with RetroacDev

Conor Hobert | February 1, 2021

Summary

The Goal

Enable airCFO to become an ever-more indispensable business advisor to its clients by launching the #1 value-add tax service applicable to them: R&D Tax Credit services.

The Challenge

After struggling to identify the right R&D partner for their startup and small business clients, airCFO leveraged RetroacDev's R&D Tax Credit software to launch its own R&D Tax Credit services in 2020.


The Results

In its first year providing in-house R&D Tax Credit services, airCFO helped 15 clients claim tax credits in amounts ranging from $20,000 to $200,000.

By utilizing RetroacDev instead of outsourcing R&D, airCFO has been able to:

  1. Save clients from the hefty 20-30% fees that many R&D specialist firms charge.
  2. Identify each client's Qualifying R&D Activities.
  3. Determine how much Qualified Research Expenditure each client is eligible to claim.
  4. Substantially document Qualifying R&D Activities to protect clients in the event of a future IRS audit.
  5. Get clients about 10% of their engineering payroll returned to them in the form of a dollar-for-dollar reduction in taxes (or FICA payroll taxes).

Case Study

airCFO's startup-centric origin

Heading back to the Midwest after leaving his accounting role at San Francisco-based Apartment List in 2014, airCFO Founder & CEO Justin McLoughlin wasn’t exactly sure what he was going to do next.

Fortunately, it wasn’t long before his former employer came calling. “Apartment List was in a stage we now see with many of our startup clients at airCFO, where they need someone to handle things like bookkeeping, payroll, and reporting for investors, but they don’t have a full-time need. After I left, the company’s founders called me and basically asked if I could still handle those things for them, but in a part-time, remote role.”

Several referrals later and McLoughlin had built a full-time accounting business working with early-stage tech startups. Since those early days, airCFO has grown to over 20 mostly-remote employees with a client list that exceeds 125 startups, including a handful of international clients, and several that have exited to public companies (AutoList, acquired by CarGurus; Freckle by Renaissance; Weddington Way by The Gap).

Working with hundreds of startups over the past 7 years, from pre-seed through Series C stage, has enabled airCFO to refine its internal processes, compile a massive in-house knowledge-base that’s greatly benefitted both the firm and its clients, and continually grow its business through the addition of new services.

Bridging the gap from startup to scale-up

Like Apartment List in 2014, early-stage startups often find themselves in a position where they have finance and accounting needs, but not enough to justify a full-time hire. In an effort to make the most of their runway, founders may turn to part-time providers for each separate accounting function. 

“But managing four or five different providers for things like part-time CFO services, bookkeeping, payroll, and tax ends up being a legitimate pain point for founders” says McLoughlin. It’s a pain point he routinely hears in discovery calls with startup founders and it’s what his firm hones in on to separate itself from competition.

“It’s very rare to find one person who can handle all of those different functions for early-stage startups. You’re either paying someone who has a lot of experience, who could be your CFO to do things like bookkeeping, or vice versa. You’re really skimping on it and you’re paying a bookkeeper to do advanced modeling that a CFO should be doing.”

With airCFO, startups work with one provider and a team of up to four people, each specializing in a separate function. “It’s all related anyway,” McLoughlin explained, “You’re going to have to connect your payroll person with the person who handles your tax compliance.” airCFO provides all of these functions for their clients, so startup founders don’t have to play middleman and constantly connect one provider with another.

The team approach enables airCFO to scale with clients as small as one founder with some pre-seed (or family & friends) funding, all the way through Series C. As the pre-seed startup grows, its needs change, often growing. airCFO is able to scale its services with clients’ needs so that they don’t need to change accounting providers every year or two. It’s one less thing founders have to worry about.

In its early years, airCFO focused on the nuts and bolts of basic bookkeeping, accounting setup, and some of the things that come with that like payroll, accounts payable and accounts receivable. Around 2017, the firm launched a finance team and started moving beyond historical reporting, to looking forward and assisting with things like modeling, budgeting, and even supporting clients going through a transaction. 

“We felt we had a duty to offer R&D tax credit services.”

In 2020, airCFO launched tax services. The decision was a natural next step in the accounting firm’s mission to become an all-encompassing financial solutions provider for startups. As for whether or not the firm would launch R&D Tax Credit services at the same time, McLoughlin says it wasn’t even a discussion. 

“I felt like if we were going to provide tax services, we had to offer R&D tax credit services. I felt like we would be doing a disservice to clients by not staying up to date and educating ourselves and our clients on tax law that directly benefits them. I’d even go as far as to say we felt we had a duty to offer R&D tax credit services.”

Identifying the right R&D Tax Credit partner

It’s common for accounting firms of airCFO’s size to outsource their R&D tax credit work to specialist firms, but airCFO struggled to find the right partner for its clients. 

On one end of the market were R&D specialist firms who employ a complex and often time-consuming approach that wasn’t the right fit for many of airCFO’s smaller startup clients. These firms often charge a “success-based” fee, whereby they charge clients 20-30% of the tax credit amount. That pricing model didn’t sit well with airCFO.

On the other end of the market were smaller “mom and pop shop” tax firms, who take more of a back-of-the-napkin approach, often sending clients the IRS's 4-Part Test and asking them to provide an estimate for how much of each person’s time met those criteria. This route may have been less costly for clients, but for airCFO, not having an audit trail or a defensible story made them uneasy.

At the end of the day, McLoughlin felt like with airCFO’s intellectual curiosity and with RetroacDev’s software, they could fill the void for their clients better than any outside firm. 

The data-driven approach and the software platform behind it help airCFO solve both problems: providing thoroughly substantiated R&D credit studies, and doing it at a reasonable cost for clients.

Accountants need to be challenging themselves to keep that ‘advisor’ status

In the initial stages of the partnership, the team at RetroacDev helped airCFO better understand the tools their technology-industry clients were already using in their day-to-day engineering workflows, like GitHub, GitLab, and Jira. Such code management and issue-tracking platforms are nearly ubiquitous among early-stage tech startups.

“Most accountants don’t have any experience or understanding of GitHub but they need to challenge themselves to learn about clients’ systems so that they can stay relevant, add value, and keep that ‘advisor’ status.”

But it’s RetroacDev’s software that helps airCFO leverage data analytics to make sense of unstructured data contained within those client systems in order to provide R&D Tax Credit services. Specifically, RetroacDev’s software helps airCFO identify and document Qualified R&D Activities and calculate Qualified Research Expenses for its clients.

“Most accountants don’t have any experience or understanding of GitHub or the data contained within a Git repository, but they need to challenge themselves to learn about the tools their clients are using so that they can stay relevant, add value, and keep that ‘advisor’ status.”

When asked about airCFO’s experience launching a specialty tax service that’s traditionally outsourced to specialists and larger firms, McLoughlin explained that he views the challenge of R&D tax credits as an opportunity for accountants to roll up their sleeves, dig in, and separate themselves.

“I see the future accountant as a business advisor and this is a great area to advise people. Traditional accounting services have become increasingly commoditized by cloud-based accounting software and automation. We’re just not able to justify billing hours and hours of work for things like bookkeeping any more. It's much easier to provide those services than it used to be.”

That sentiment is shared by many thought leaders in accounting. Responding to a December 2020 Accounting Today survey about trends accountants should keep an eye on in 2021, Amy Pitter, the President and CEO of the Massachusetts Society of CPAs, said, “Specifically, I think the trend will be to use technology to automate routine functions and compliance functions and use that freed-up capacity to offer value-added advisory services.” 

Accountants seeking to offer new value-added services, and those who are willing to challenge themselves, as McLoughlin noted, will find an abundance of opportunity in the R&D Credit.

The credit can return up to about 10% of Qualified Research Expenditure (QRE) back to clients in the form of a dollar-for-dollar reduction in taxes. Even pre-profit companies can use the credit to offset the FICA portion of their payroll taxes up to $250,000 per year.

With engineering wages and contractor payments making up the majority of QRE for most companies (based on the most recent IRS data available, the two categories made up over 84% of QRE across all industries in 2014)- and also being two of the largest expenses for many early-stage companies- the benefit of claiming the tax credit can be immense.

Strengthening client relationships with R&D Credit services

As far as the claiming the R&D Tax Credit goes, it’s a no-brainer for most tech startups developing new products. In its first year performing R&D tax credit services, airCFO helped 15 clients claim tax credits in amounts ranging from $20,000 to $200,000.

“This is definitely a huge opportunity for us and for other firms who want to expand their service line and add more value.”

The most obvious benefit is the cash infusion to lengthen the company’s runway, but that’s not what McLoughlin feels is the best selling point. “When you’re talking about a tax credit that could equal $100,000 or more for many of these early-stage startups, that amount can literally pay for another software engineer or product manager to help the team meet its goals.” In most cases, the R&D credit alone is worth far more than all the fees airCFO charges its clients annually to manage the entire account.

For airCFO, providing R&D Study services makes a lot of sense. “There’s obviously the revenue opportunity, but it also makes the client relationship stickier. And it makes sense for accounting firms to roll up a bunch of these services. A standalone R&D firm is going to have to work with the client’s accountant anyway. They’re going to need to access payroll information. We have access to all of that information already.”

For accountants considering bringing R&D Study services in house using RetroacDev, McLoughlin says “I don’t think it would be too hard to establish yourself as a very legitimate, credible firm if you get started now. This is definitely a huge opportunity for us and for other firms who want to expand their service line and add more value.”

As for airCFO’s relationship with RetroacDev, McLoughlin concluded by saying “The team at RetroacDev have been great partners. We’re both startups, so we both have a lot of things to work through and having a responsive and flexible partner is key. They’ve been able to customize the software to meet our requirements with a quick turnaround time. Like a lot of things at airCFO, we are bootstrapping the R&D service so the software is cost effective, and that allows us to keep our costs low to our clients.”

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