OUR THOUGHTS ON:

Will The Research Tax Credit Survive?

Manufacturing

By Nishant Patel

The Research Tax Credit has been a long-standing provision in the Tax Code originally introduced by the Economic Recovery Act of 1981. Since then its survival has come into question on numerous occasions.  The credit has expired on eight different occasions and has been extended many times over.  The latest version of the research credit recently expired on December 31, 2011. However, if the future is any indication of the past, then we can expect once again to see the credit extended, or for that matter, become a permanent fixture in our Tax Code this time around.

As of the date of this discussion, there have not been any recent developments toward extending the research credit or making it permanent altogether. However, the Obama administration has proposed in its fiscal 2012 budget to not only enhance the credit but to make it permanent. Similarly, proposed legislation introduced during the latter part of 2011 supports making the credit permanent and increasing the qualifying percentage of research expenses that can be taken as a credit.

In essence, the research credit rewards U.S. companies for investing in qualified research activities such as product innovation or improvements and process improvements designed to achieve technological advancements.  Qualified research must generally meet a minimum threshold level of activities undertaken for the purpose of discovering information that is technological in nature and the application of which is intended to be useful in the development of a new or improved business component. At a minimum, taxpayers must be able to satisfy a four-prong test:

• Purpose – Must result in a new product, process, function or performance
• Elimination of Uncertainty – Activities must have been undertaken to eliminate uncertainty with respect to the development of a product or process
• Technological in Nature – Research must rely on fundamentals of proven and accepted sciences (i.e., engineering, biological, physical, computer sciences, etc.)
• Process of Experimentation – Activity must involve the development, testing and analysis of hypotheses

For taxpayers preparing their 2011 tax return, there are two methods for computing the research credit: the traditional method and the alternative simplified method. Generally speaking, the traditional method allows a 20% credit of the qualified research expenses that exceed a base amount of average qualified research expenses from 1984 to 1988.  The alternative simplified method provides a 14% credit of the qualified research expenses that exceed a base amount of average qualified research expenses over the prior three tax years.

A case can be made for using either method depending on the taxpayer’s unique set of circumstances. For example, a taxpayer may not be able to use the traditional method if documenting the historical base period (1984-1988) proves to be difficult due to the passage of time or internal record retention policies.  Furthermore, if qualified research activities have been fairly low in recent years, it may make sense to use the alternative simplified method.

Deciding which method to use requires a careful review of the expenses incurred related to the research and development project. A detailed analysis is required to determine which expenses qualify, and recordkeeping is imperative to support the credit claim. Schneider Downs has the expertise to help clients understand how to properly document and support the research tax credit. Contact a Schneider Downs Manufacturing team member for more information. 


© 2012 Schneider Downs. All rights-reserved. All content on this site is property of Schneider Downs unless otherwise noted and should not be used without written permission.

This advice is not intended or written to be used for, and it cannot be used for, the purpose of avoiding any federal tax penalties that may be imposed, or for promoting, marketing or recommending to another person, any tax related matter.

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Material discussed is meant for informational purposes only, and it is not to be construed as investment, tax, or legal advice. Please note that individual situations can vary. Therefore, this information should be relied upon when coordinated with individual professional advice.

© 2018 Schneider Downs. All rights-reserved. All content on this site is property of Schneider Downs unless otherwise noted and should not be used without written permission.

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