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R&D Credit Open to More Companies Under Modified IRS Regulations
By Saqib Dhanani, J. D., Jim Foster, J. D., and Lyndsie Lowry, J. D., Paradigm Partners, Houston, TX
Service (IRS) published a policy change that drastically improves the landscape of the tax credit for busi- nesses performing research and de- velopment (R & D). The change will benefit busines -
O
ses performing R & D to the tune of millions of dollars through the prom- ulgation of temporary regulation TD 9666 as a modification to the Section 41 R & D tax credit. In this policy memorandum, effective immediately, the IRS addressed an issue that has hindered the ability of businesses to claim the R & D tax credit on amend- ed returns since the introduction of the Alternative Simplified Credit (ASC) in 2007. Under this new regu- lation, businesses can now claim the R & D credit using the ASC method on any amended return, as long as the taxpayer did not make an elec- tion to use any other method of calcu- lating the R & D credit on an original or previously amended return for
n June 3, 2014, the United States Treasury Department and the Internal Revenue
that year. With the aging of already
decades-old tax regulations, it has be- come ever more difficult for business- es to claim R & D credit on amended returns. It should be noted that R & D credit on these returns is technical- ly called the “credit for increasing re- search activities.” To quantify the in-
been available on amended returns until now. Previously, the IRS only al-
lowed regular credit to be used on an amended return if the taxpayer had never filed for the R & D credit be- fore. Under the regular credit meth - od, businesses are categorized as ei- ther 1980s base companies or startup
For companies that have the records to calculate a regular credit base, they now have the opportunity to evaluate both methods and maximize their benefit on any return that can be amended.
crease in activities, the year in ques- tion must be compared to a baseline. For unfiled returns, businesses have the benefit of two calculation meth- ods (the regular credit method and the ASC approach) and can adopt the calculation method that yields the best results. Due to differences in the calculations, many businesses may only benefit from a credit calculated using a particular method. However, a choice of calculation method has not
base companies. If a company is a 1980s base company, the relevant pe- riod for the baseline is 1984 through 1988. If a company doesn’t meet the definition of a 1980s base company, it is treated as a startup base company, where the first year of R & D can be as early as 1994. Therefore, for these startup companies, the relevant peri- od for a baseline calculation can be as early as 1998. In the case of a 1980s base com-
pany, regular credit requires the tax- payer to provide information about its R & D activities and sales information from three decades earlier ago which, even if the firm existed that long ago, can be a challenge to compile such in- formation. Even for a startup compa- ny, the required information may be more than 15 years old. This is a stark contrast to the IRS’ records retention recommendation of six to seven years. While this regular method may be more beneficial in some instances, the calculation can be quite burdensome. The ASC method is much simpler than calculating a base percentage us- ing the regular credit calculation method, and the ASC method fre- quently yields a larger credit. The ASC calculation looks at the
three years preceding the year being considered for R & D credit. Given that tax returns can be amended to three years following the original fil- ing, under the new regulation the old- est information the ASC calculation could require for an amended return is seven years. This figure is much more in line with business record re- tention policies and IRS record reten- tion recommendations.
Practical Impact The inability of businesses to
use ASC on amended returns had, to an extent, diminished the effective- ness of the R & D credit. The credit has always been touted as a tool for creating jobs by fostering an environ- ment where business owners are en- couraged to reinvest in their own companies using the tax savings gen- erated by the credit. However, due to the difficulty in claiming the credit on amended returns, many compa- nies shied away from pursuing cred-
its if they required an amendment to their tax returns. For example, many companies
conduct R & D for many years before attempting to claim the R&D credit, only to be disappointed when they learn that they cannot amend their returns for previous years using the ASC method. Other companies may decide not to take a credit because they believe they will not have tax- able income for several years, but then outperform expectations and are left with a large tax bill. Some companies even attempt to pursue the R&D credit for prior years but are unable to complete the calcula- tion due to the fact that business records necessary for the baseline calculation no longer exist. Further- more, some businesses decide not to take the R&D credit if they believe that the current year tax benefit alone is not worth the effort. The impact of the policy change
by the Treasury Department and the IRS is immediate. For companies that have the records to calculate a regular credit base, they now have the oppor- tunity to evaluate both methods and maximize their benefit on any return that can be amended. Other compa- nies who have been unable to take the R & D tax credit in past years using the regular credit calculation will now be able to amend their returns using the ASC approach to claim those cred- its and reduce their taxable income. The ability of business owners to rein- vest these savings into their compa- nies will result in a boon nationwide for businesses engaged in R & D. As Dean Zerbe, former senior counsel to the US Senate Finance Committee ex- plains: “This seemingly arcane change will mean many more dollars in the wallets of innovative small and medi- um businesses — money that will be used to create new jobs, expand busi- nesses and keep doors open.” An additional implication of this
new regulation is that it demonstrates a renewed commitment to making the R & D credit more accessible to busi- nesses, and bodes well for renewal ef- forts for the R & D credit. In the past, the R & D credit has been consistently renewed for two-year periods, leaving business owners to collectively hold their breaths every two years as they wait for confirmation of another re- newal. This year, however, multiple bills in the US Congress are intended to expand the availability of the credit for startup businesses as well as pro- posals to make the credit permanent. With the addition of TD 9666, there strong signs that the US Congress in- tends to keep the R & D credit alive
and well. Contact: Paradigm Partners,
1500 South Dairy Ashford Rd., Ste. 240, Houston, TX 77077 % 281-558- 7100 Web:
www.ParadigmLP.com. r
July, 2014
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