Innovation in Every Bottle: R&D Tax Opportunities for Winemakers

Summary: R&D tax credits are more lucrative than ever before and can help shareholders in the wine industry increase cashflow to fund innovation. In order to reap the benefits from these efforts, taxpayers must be meticulous in determining and documenting genuinely qualified activities.

A research and development (R&D) tax credit can be a tremendous benefit to companies performing innovation in the United States. Federal and state R&D credits provide a dollar-for-dollar offset against taxes owed or paid, enabling companies to reinvest in innovation.

Generally speaking, most companies that engage in activities to invent or improve a product, process, software, technique, or formula (i.e., wine formulation, fermentation method) may be eligible for the R&D credit. While R&D is most common in software, pharmaceuticals, and industrial manufacturing, businesses in less apparent industries like winemaking can also potentially qualify.

What is the R&D Tax Credit?

Section 41 of the Internal Revenue Code (IRC) established the R&D tax credit in 1981 as a tax incentive for U.S. businesses, regardless of size or industry, that incur expenses related to developing or improving products, processes, software, or techniques. R&D for the purposes of the tax credit must be grounded in a hard science, such as engineering, chemistry, or biological science, and research activities must be intended to develop or improve a business component’s function, performance, reliability, and/or quality.

To qualify for the credit, research activities must also involve technical uncertainty. In other words, companies conducting R&D are aiming to answer a technical question or solve a technical issue that is uncertain at the outset. For example, companies may be uncertain of the capability or method for determining what fermentation method yields optimal flavor profiles while maintaining stability.

Finally, research activities must include a process of experimentation to qualify. A process of experimentation for purposes of the R&D credit is similar to the scientific method in which developers, engineers, or other staff evaluate alternative methods or processes, develop, refine, test, or discard hypotheses, and conduct trial and error testing, modeling, simulations, or other methods to arrive at an answer.

How Can Winemakers Qualify for the R&D Tax Credit?

Many stakeholders in the wine industry can be eligible for the R&D tax credit. However, it can also depend on the nature of their business and how involved employees or contractors are in the actual winemaking process. Those who are more involved in the aspects of growing, harvesting, fermenting, bottling, and aging, such as estate winemakers, are more likely to qualify.

Examples of possible qualifying activities include:

• Conducting genetic testing on grapes to reduce susceptibility to pests and increase yield
• Performing iterative soil amendment experimentation or experimental irrigation modifications to improve vineyard quality
• Experimenting with alternative bottling methods to reduce breakage or waste, or to improve bottling speeds
• Conducting iterative experimentation to improve harvesting efficiency
• Performing experimental efforts to improve corking efficiency, label durability, or other manufacturing improvements
• Developing new flavor profiles or improving the shelf life of wines
• Inventing or improving barrel aging techniques or evaluating alternative materials for aging
• Innovating sustainable viticulture techniques and wine formulation processes (i.e., less use of pesticides, lower or alternate use of sulfite additives)

In each of the above scenarios, winemakers would need to face technical uncertainty related to improving or inventing a product, technique, or process. However, arriving at a conclusive answer by the end of a tax year is not required, nor is achieving a desired outcome. For example, systematically selecting disease-resistant grape varieties requires more than a single tax or fiscal year to observe conclusive results. Nonetheless, R&D performed as part of a multi-year effort can still qualify.

R&D efforts that result in failure may also qualify for the tax credit. For example, if winemakers dedicated several months to manufacturing experimentation that resulted in no net improvement in efficiency or throughput, such efforts could still potentially qualify. “Success” is not a requirement for R&D.

While understanding which activities and expenses could qualify for R&D is important, it is equally beneficial to understand what R&D does not include. For example, activities around marketing, consumer preferences and behavior, and aesthetics do not qualify as R&D. While these are certainly crucial aspects of running a business, they do not fall under the R&D umbrella as defined by the IRC. 

However, while conducting market research about a bold new label design for a merlot does not qualify, activities dedicated to achieving a certain flavor profile or mouthfeel could. Such activities must rely on principles of biology or chemistry and require iterative experimentation. 

Best Practices When Claiming the R&D Tax Credit

Winemakers interested in claiming the R&D tax credit should work with an experienced R&D credit advisor to discuss the nuances of what does and does not qualify specific to your business activities and expenses. The R&D tax credit also requires supporting documentation to substantiate the efforts, which the IRS may request to review in the case of an audit. Contemporaneous documentation proving qualification is the only evidence that will sustain a credit under audit, although claiming the credit will not increase a company’s risk of an audit.

Winemaking companies claiming the credit should keep well-organized documentation on-hand. Such documentation could include data demonstrating suboptimal harvesting efficiency with Technique X, compared to experimental outcomes with Technique Y, memos outlining scientific reasons why an alternative bottling method ought to improve efficiency, emails discussing technical uncertainties and proposed solutions, and slide decks showing a process of experimentation in which the team evaluated alternative approaches.

What is a Business Component?

An R&D tax credit requires the definition of one or more “business components.”

The IRC defines a business component as any product, process, computer software, technique, formula, or invention that is intended to be held for sale, lease, or license, or used by the taxpayer in its trade or business. In winemaking, this could be a novel technique for improving the throughput of a bottling operation or a process for maximizing viable grapes for each crop.

A revised 6765 form requires taxpayers to explicitly note whether their business component/s are considered a product, process, software, technique, formula, or invention.  

Final Thoughts: Why Winemakers Should Pursue an R&D Tax Credit

By leveraging the R&D tax credit, winemakers and shareholders can turn innovation into a strategic advantage, unlocking resources to refine processes, enhance quality, and stay competitive in an evolving industry.

Navigating an R&D tax credit may feel complex, but a seasoned R&D accounting team can help at every turn. The right advisor will walk through qualified vs. unqualified expenses and even coordinate with your current tax team to make the process as simple as possible.