Texas Senate Bill 2206: The Future of Texas Innovation

The landscape surrounding Texas’s economic force remains steadfast in growth and opportunity, maintaining a 4.1% unemployment rate in April 2024, attaining a $2.6 trillion dollar economy in 2023, and achieving a new historic high with the largest labor force ever in the state’s history in April 2024.1 As such, innovation remains the backbone of this significant economic growth, allowing business to expand manufacturing and development capabilities, take on new opportunities for expansion and growth, and even hire new employees and grow the services of the business. The Texas state research and development (R&D) credit plays a pivotal role in fostering economic growth and technological innovation. For small to medium-sized enterprises (SMEs) across Texas, these credits are not just financial incentives; they are lifelines that enable companies to invest in new technologies, improve processes, and stay competitive in an ever-evolving market. However, various issues regarding the R&D tax policy and legislation have led to concerns as to whether the state could be falling behind in terms of innovation and research.  

A recently uncertain legislative environment surrounding the Texas state R&D credit has since been resolved with the signing of Texas Senate Bill 2206 (“SB 2206”), which extends the state’s R&D tax credit beyond its 2026 expiration date and introduces new opportunities to improve the state’s innovation and economic capabilities. The bill’s passage avoids significant repercussions on businesses and the state economy; without these credits, many SMEs may struggle to fund their R&D initiatives, leading to a slowdown in innovation and economic growth. The potential loss of these incentives could also deter new businesses from setting up operations in Texas, ultimately impacting the state’s competitiveness on a national and global scale. The signing of SB 2206 ensures continued growth and investment in the state’s economy while also ensuring that Texas remains competitive with other states in terms of innovation and viability for high-value research projects. 

The Texas State R&D Credit: An Overview 

Under the previous framework, Texas offered a dual incentive structure for research and development: a franchise tax credit and a “sales and use” tax exemption for qualifying R&D purchases; however, this tax system was widely viewed as underperforming and overly complex. Businesses often found the credit difficult to navigate due to significant  administrative burdens and lack of alignment with federal standards. The credit was also nonrefundable, meaning companies with little or no franchise tax liability—such as early-stage startups or capital-intensive manufacturers—could not fully benefit from it. As a result, many eligible businesses either underutilized the credit or avoided it altogether. 

Moreover, Texas lagged significantly behind other states in R&D investment, ranking 33rd nationally in R&D spending relative to gross state product.2 This underperformance was attributed in part to the inefficiency of the existing tax policy, which failed to keep pace with more competitive incentives offered by other states like California and Michigan. Manufacturers, in particular, were disadvantaged by the lack of a streamlined, impactful credit structure, especially given their high R&D-to-output ratios and capital-intensive operations. These shortcomings prompted calls for reform, culminating in the passage of Senate Bill 2206 to modernize and strengthen the state’s R&D incentive landscape. 

SB 2206: Significant Changes to the Texas State R&D Credit 

Signed into law by Texas Governor Greg Abbott on June 17th, 2025 (effective January 1st, 2026),  SB 2206 establishes a new franchise tax credit for in-state qualified R&D, aligning state calculations with the federal R&D tax credit calculations based on the IRS Form 6765 federal R&D credit, and realigns state sales-tax rules, repealing existing property exemptions tied to R&D and replacing them with a franchise credit.3 SB 2206 reforms Texas’s tax incentives for R&D in order to streamline the credit administration process for taxpayers and the Texas Comptroller and also enhances collaboration with academic institutions.   

The following list provides some of the additional key benefits and provisions of SB 2206 geared towards small-to-medium sized businesses and manufactures as well as software companies. 

Key Benefits for Small & Medium Manufacturers & Software Companies

1. Attractive Tax Credit Structure

• 8.722 % credit rate on R&D spending exceeding 50 % of average base past expenses. 

• 10.903 % credit rate for R&D conducted in partnership with Texas colleges or universities.

2. No R&D History? No Problem.

• Firms with no qualifying R&D in the prior three years still receive a starter credit—4.361 %, or 5.451 % with higher-ed partnerships. 

3. Refundable Credits for Emerging and Veteran-Owned Businesses

• New companies (including veteran-owned) and low revenue firms can get refund payments even if they owe no franchise tax. 

4. Carryforwards & Caps

• Credits can be carried forward up to 20 years, but each year’s credit is capped at 50% of your franchise tax liability before other credits. 

Other Components of SB 2206 

1. Texas Breaks from Outdated Federal Conformity Rules

Historically, the Texas R&D credit referenced the Internal Revenue Code (IRC) as in effect on January 1, 2007 (or selectively through December 31, 2011); however, SB 2206 eliminates this outdated conformity, instead fully aligning  with the federal R&D credit rules in effect at the time of filing, including those outlined in current versions of IRS Form 6765. 

What this means: 

• Simplified compliance for businesses already claiming the federal R&D credit. 

• More consistent treatment of eligible expenses across state and federal returns. 

• Greater predictability and alignment with modern federal definitions. 

2. Statistical Sampling & GAAP-Based Documentation Now Recognized

SB 2206 modernizes R&D credit substantiation by authorizing the use of statistical sampling methodologies and providing alternative compliance pathways for companies maintaining generally accepted accounting principles (GAAP) records. This flexible substantiation framework lowers compliance costs, increases defensibility, and is especially helpful for companies that don’t track every R&D dollar line-by-line. 

Why this matters: 

• Statistical sampling allows companies to reasonably estimate qualifying R&D costs across large datasets, departments, or divisions—reducing administrative burden without sacrificing accuracy. 

• Entities that maintain financials under GAAP may rely on internal controls, accounting records, and financial documentation as alternative evidence of R&D investment—provided they are consistent with federal audit standards. 

3. Federal Audit Results & Amended Returns Now Admissible

In another alignment with federal standards, SB 2206 authorizes the use of federal audit determinations and amended federal returns to verify and adjust qualifying R&D expenses on Texas franchise tax filings. 

What’s allowed: 

• Businesses may apply findings from federal IRS audits to substantiate or revise Texas R&D credit claims. 

• If a taxpayer files an amended federal return (e.g., to claim or revise an R&D credit), the corresponding changes may be reflected in their Texas return—subject to Comptroller approval. 

Why this matters: 

• Reduces duplication of effort by recognizing IRS examinations and adjustments. 

• Provides an additional layer of documentation if Texas conducts its own review or audit. 

• Encourages consistency between state and federal R&D credit positions. 

Strategic Value for Texas Firms 

• Stay Competitive 

Texas currently ranks 33rd in R&D investment as a share of GDP.4 With SB 2206, the state aims to match or exceed other innovation-focused regions. 

• Encourage University Partnerships 

Businesses that collaborate with local higher-ed institutions earn a near-11 % tax credit—great for joint projects, technical consulting, or prototyping. 

• Support Innovation Hubs 

Manufacturers working on new products, process improvements, or R&D-heavy software tools can significantly mitigate tax burdens with the new credit. 

• Reduced Administrative Burden 

SB 2206 streamlines the credit administration process for taxpayers and businesses by adhering to the federal R&D credit. 

• Increased Competition 

SB 2206 allows SMEs and other businesses to be competitive with R&D efforts in other states, ensuring Texas businesses can aggressively compete for innovation jobs and high-value research projects.  

Budgetary Impact & Prosperity Metrics 

• Estimated revenue cost: ~$248 million (2026–27) rising to ~$1.09 billion (2028–29). 

• Projected benefits: ~113,000 new jobs and ~$8.5 billion in wages by 2035 and a net income gain of ~$58.8 billion over 20 years. 

• A study by Rice University’s Baker Institute finds that extending and enhancing the R&D tax credit in Texas would create more than ~113,000 jobs and generate ~$13.8 billion in additional Gross State Product (GSP) over the first decade.5 

Bottom Line 

SB 2206, signed into law on June 17th, 2025 and applicable to tax years beginning January 1st, 2026,is a forward-looking shift that gives Texas-based innovators the tools to compete nationally. With new flexibility in documentation, alignment with current federal rules, and an emphasis on collaboration and compliance efficiency, this bill empowers small and medium Texas manufacturers and tech firms to innovate, grow, and thrive.  

SB 2206 brings sweeping changes to Texas’s approach to incentivizing research and development, including the following:  

• Replaces the existing R&D franchise tax credit with a new, more generous version that aligns with federal standards, simplifying compliance and administration. 

• Eliminates the sales and use tax exemption for depreciable tangible personal property used in R&D, consolidating incentives into a single, streamlined credit. 

• Increases the franchise tax credit rate from 5% to 8.722% for new and increasing qualified research expenses (QREs) in Texas, and up to 10.903% for research conducted through Texas-based higher education institutions. 

• Expands eligibility by allowing certain small and veteran-owned businesses to claim a refundable credit, even if they owe no franchise tax. 

• Adopts rolling conformity with federal R&D credit rules, including acceptance of IRS Form 6765 and ASC 730 financial statement R&D as valid documentation. 

• Permits statistical sampling for determining QREs, reducing audit burdens. 

For businesses, this means a more competitive and accessible R&D incentive that better supports innovation and economic growth. While the removal of the sales tax exemption may impact some companies, the enhanced credit is expected to deliver a stronger return on investment.  Businesses should also begin itemizing R&D expenses tied to Texas-based activities and Form 6765 filings. Businesses can also maximize their R&D credit rate by exploring and evaluating joint ventures with Texas universities. Consulting an experienced and trustworthy tax advisor is also critical for businesses navigating the Texas R&D credit, as they can help you understand eligible expenses, credit limits, and filing strategies. 

Let us know if you’d like a checklist, templates, or a walkthrough of how to claim the credit under the new rules. 

 

References 

1. Association of Equipment Manufacturers, Texas Looks to Stay Competitive with Updated R&D Tax Structure (Mar. 27, 2025), https://www.aem.org/news/texas-looks-to-stay-competitive-with-updated-rd-tax-structure. 
2. Dallas Regional Chamber, Texas Extends, Strengthens R&D Tax Credit, Securing Innovation Advantage (June 18, 2025), https://www.dallaschamber.org/blog/texas-extends-strengthens-rd-tax-credit-securing-innovation-advantage/.
3. Emma Lawson, Analysis: Government-Funded R&D Leads to Long-Term Economic Growth, Texas A&M Stories (June 20, 2025), https://stories.tamu.edu/news/2025/06/20/analysis-government-funded-rd-leads-to-long-term-economic-growth/. 
4. Ernst & Young LLP, Texas Enacts Law to Replace Research and Development Franchise Tax Credit, Repeal Sales and Use Tax Exemption, EY Tax News (June 19, 2025), https://taxnews.ey.com/news/2025-1301-texas-enacts-law-to-replace-research-and-development-franchise-tax-credit-repeal-sales-and-use-tax-exemption. 
5. Nikki E. Dobay et al., Texas Legislature Takes Steps to Extend and Expand Research and Development Credit, Nat’l L. Rev. (Apr. 11, 2025), https://natlawreview.com/article/texas-legislature-takes-steps-extend-and-expand-research-and-development-credit. 
6. Office of the Governor of Texas, Texas Economic Snapshot, https://gov.texas.gov/business/page/texas-economic-snapshot. 
7. Tex. S.B. 2206, 89th Leg., Reg. Sess. (2025), https://capitol.texas.gov/BillLookup/History.aspx?LegSess=89R&Bill=SB2206. 
8. Karoline Leonard, Texas Senate Finance Committee Advances R&D Tax Credit Extension, Improvement, TEX. ASS’N OF MFRS. (Apr. 10, 2025), https://manufacturetexas.org/news/texas-senate-finance-committee-advances-rd-tax-credit-extension-improvement/.