In a speech on March 25, Treasury Secretary, Timothy F. Geithner, linked the passage of an enhanced and permanent research tax credit proposed by the Obama Administration to comprehensive tax reform. In his remarks, Secretary Geithner stated:
“This proposal should be part of a comprehensive reform of the corporate tax system to make American companies more competitive. Reform that eliminates loopholes and preferences, lowers the tax rate on investments in the United States, and replaces a complicated muck of temporary provisions, with a more powerful, but more targeted set of permanent incentives, like the R&E tax credit.”
Shortly before his speech, the Treasury Department’s Office of Tax Policy issued a new report on the research tax credit titled “Investing in U.S. Competitiveness: The Benefits of Enhancing the Research and Experimentation Tax Credit.” In its report, the Treasury Department said that in its current form, the Research and Experimental (R&E) credit provides the following benefits:
- A Cost-Effective Way to Encourage Research Spending: Treasury indicates that recent studies show that the credit produces approximately a dollar for dollar increase in current research spending and that this amount could be larger in the longer run.
- Nearly $9 Billion in Annual Tax Credits for Research: In Tax Year 2008, the most recent year for which corporate tax return data are available, 12,736 corporations claimed $8.3 billion in research credits and more than 64,000 individual taxpayers (includes S corporation shareholders and partners) claimed $463 million in research credits. (See Table 1 below for details of corporations claiming R&E Credit by industry for 2008).
- Support for High-Wage Jobs: Approximately 70% of research costs that qualify for the credit are labor costs. Therefore, the R&E tax credit provides valuable support for high-tech jobs. Much of the research that takes place in the United States is done by highly skilled employees, who earn higher than average wages. According to the National Science Foundation, in 2008 the average annual wage for individuals in science and technology occupations was about $74,950, compared to $42,270 for all occupations.
The Treasury report also outlined the Administration’s proposal to expand, simplify and make permanent the R&E credit. The administration’s proposal would:
- Leverage More Than $100 Billion in Domestic Private-Sector Research over the Next 10 Years: The Administration’s proposal to expand the credit and make it permanent will provide approximately $106 billion in credits from Fiscal Year 2012 through Fiscal Year 2021. Given that research shows the credit produces a dollar for dollar increase in research spending in the short run, the expectation is that a permanent credit would result in at least an equal increase in private-sector research spending over the next decade, all of which will occur in the United States. Research also suggests that the long-run impact of the credit could be even greater.
- Support Nearly 1 Million Research Workers in the U.S.: The Administration’s proposal for a permanent and enhanced R&E tax credit will provide an incentive for undertaking research activity in the United States. Companies receiving the credit employ nearly 1 million domestic workers conducting research.
- Increase the Total Amount of the Credit by 20%: The Administration’s proposal to increase the rate of the alternative simplified R&E tax credit from 14% to 17% will enhance the incentive to increase research activity.
- Increase Use of the Simpler Version of the Credit: Expanding the alternative simplified credit will make it more appealing and encourage more companies to choose the simpler version of the credit.
- Strengthen the Credit’s Incentive Effect: A permanent R&E tax credit would improve its incentive effect by providing businesses with certainty that they can make investments in long-term research projects and benefit from the credit over the course of the project. The report notes that the R&E credit has been extended on a temporary basis 14 times since its inception in 1981, often retroactively.
Table 1 below shows the amount of the R&E credit claimed by corporations in Tax Year 2008 by industry sector. It shows that corporations in the manufacturing sector accounted for about 43% of all corporations claiming the credit and for almost 69% of the total dollar amount of credits claimed.
In the manufacturing sector, computer and electronic product manufacturing, chemical manufacturing, and transportation equipment manufacturing accounted for 31.5%, 25.9% and 20.5%, respectively, of the total manufacturing credits claimed in 2008.
A) Corporations included in this count are C corporations, i.e., corporations subject to an entity level tax. Tax credits earned by corporations that are not subject to an entity level tax, such as S corporations, flow through to their shareholders and are claimed on the shareholder’s individual income tax return. The same is true for tax credits earned by partnerships, which flow through to the partners. >
The Treasury Report notes that uncertainty about the credit’s temporary nature, and the complexity of calculating it, have potentially limited the incentive effect of the R&E credit in the past. The Administration’s proposal seeks to address both of these areas.
The current R&E credit is scheduled to expire on December 31, 2011. Its fate and future lies somewhere within the current budget battle in Congress.
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