Many times companies will simply include all the wages, supplies and contract expenses of their designated R&D Department(s) into their R&D Credit calculation and “be done” with it. And though this might be a good way to estimate or guess the credit possibility from a high-level perspective, it is not a good way to make an accurate claim.

Were improper expenses included? Did substantially all the activities of individuals working in the R&D Department qualify for the Credit according to the tax law justifying such a claim?

Were all the qualifying activities included? Just because the department does not say “R&D” doesn’t mean that qualified activities exist? In order to qualify, the activities must meet the §41 requirements, not what people simply assume R&D to be. Furthermore, besides direct research qualifying, direct supervision and direct support of the research can qualify as well.

Maybe a product development process perspective would identify more or all the qualifying R&D areas. I have had a lot of success working with the IRS to agree to the proper credit amounts based on qualifying all the related activities of a company up to where the product meets its functional and economic requirements.

Furthermore, it is imperative that the company has and retains the technical support the contemporaneous documentation to support any research credit. In fact the documentation should be ready before any examination begins. Taxpayers obtain better results when the technical analysis is complete before the tax return is filed. Not all R&D Credit determinations are created equal – but a proper analysis with the applicable documentation can provide for an accurate and beneficial credit.

The U.S. Senate recessed for the extended July 4th holiday without acting on H.R. 4213, the American Jobs and Closing Tax Loopholes Act of 2010 (the extenders bill).  Among the bill’s numerous provisions are extensions through 2010 for the tax credit for increasing research activities; the new markets tax credit; accelerated depreciation for farming business machinery and equipment, qualified leasehold improvements, qualified restaurant buildings and improvements, qualified retail improvements, motorsports entertainment complexes, and business property on Indian reservations; the charitable tax deduction for corporate contributions of computer technology and equipment for educational purposes; ) expensing of environmental remediation expenditures; the tax deduction for income attributable to domestic production activities in Puerto Rico; the subpart F exemption (which excludes such income from the shareholder’s foreign personal holding company income) for active financing (insurance, banking, financing, or similar businesses) income earned on business operations overseas; and rules for adjusting the basis of stock of S corporations making charitable contributions of property. The bill also includes revenue raising provisions aimed at the taxation of carried interests.

The Patient Protection and Affordable Care Act of 2010 provided for a Qualifying Therapeutic Discovery Project tax credit, targeted to therapeutic discovery projects that show a reasonable potential to:

• Result in new therapies to treat areas of unmet medical need or prevent, detect or treat chronic or acute diseases and conditions,
• Reduce the long-term growth of health care costs in the United States, or
• Significantly advance the goal of curing cancer within 30 years.

There are some limitations, such as the credit is only available to taxpayers with no more than 250 employees.  To apply, applicants must complete Form 8942, Application for Certification of Qualified Investments Eligible for Credits and Grants Under the Qualifying Therapeutic Discovery Project Program, which was just released by the Internal Revenue Service.  Follow this link for additional information, and a link to the application form:  http://grants.nih.gov/grants/funding/QTDP_PIM/index.htm

The Research Credit, the Research and Experimentation (R&E) Credit, the Research and Development (R&D) Credit, and Credit for Increasing Research Activities are all different terms for the same Federal Tax Credit.   This Federal Credit is filed on Form 6765 – Credit for Increasing Research Activities.

Current Research Credit situation:        

The Research Credit currently expires after 12/31/2009.  So, no taxpayer can file for the Research Credit for a period beyond 12/31/2009.  Furthermore, no company can take the financial benefit (i.e. inclusion in tax provision) for any Research Credit beyond 12/31/2009.   If a company has a fiscal year ending in 2010, they can include the credit for the period within 2009 (and adjust their base accordingly).  But, they cannot qualify or include anything for 2010.

 Status on Extension:

The House passed the Extenders Bill of which the Research Credit is part of, called “the American Jobs and Closing Tax Loopholes Act of 2010” on May 28^th.  This Bill is currently being considered in the Senate, with a vote likely coming the week of June 14, 2010.   As part of the bill, the Research Credit would be extended exactly like it is currently in place for 2009 and the credit would be extended for just 12 months.

 Note: Upon Congress (both the House and the Senate) passing the Bill, the bill doesn’t become law until it is signed by the President of the United States.

For more information please see the previous blog titled “What happened to the extenders bill”.

In a new publication on its website, “Publication 4837 – Achieving Quality Examinations through Effective Planning, Execution and Resolution,” IRS has announced the implementation of the Quality Examination Process (QEP) – “a systematic approach for engaging and involving Large and Mid-Size Business (LMSB) taxpayers in the tax examination process, from the earliest planning stages through resolution of all issues.” It replaces IRS’s Audit Planning Process, and the LMSB Guide for Quality Examinations in Internal Revenue Manual § 4.46 is being updated to reflect this change.

 LMSB revenue agents will review the publication with taxpayers at the start of most new tax examinations. The publication outlines the LMSB examination process from start to finish, explaining that the new guidelines emphasize the importance of ongoing dialogue between the exam team and taxpayer throughout execution of the exam plan. IRS says timely, clear, and consistent communication between its examiners and the taxpayer during the process can directly influence the scope of the examination and the depth of the analysis for issues under audit.

Information on the new LMSB examination process can be found on the IRS website (http://www.irs.gov/businesses/article/0,,id=224139,00.html)

The Federal Government provides tax benefits to companies developing new products or methods to produce products.  One such benefit is a tax credit available to companies who are spending money on qualifying research expenses related to such innovation.  Section 41 of the Code provides a tax credit that is based on a taxpayer’s spending on “qualified research.”  This research must satisfy the §174 definition of “research and experimental” to be considered qualified research.  The research credit is more than “product” development costs in a traditional sense, and should be considered for other development costs (e.g., the costs of developing manufacturing processes).  However, §41(d) provides that qualified research includes research for the purpose of developing new or improved “business components” which includes products, processes, computer software, techniques, formulas, and inventions, whether held for sale or lease by the taxpayer or used in the taxpayer’s trade or business.  Successful development is not required. 

The credit is available for both in-house (wages and supplies) and contract costs – qualified research expenses (or “QREs”) incurred by the taxpayer in conducting qualified research.  The Code provides a detailed definition of qualified research; but, simply stated, it consists of research and development activities involving a process of experimentation designed to discover new information intended to develop a new or improved business component. Various exclusions are applicable as well. One of the most important aspects of claiming this credit is for the taxpayer to properly retain the documentation to support the qualified activities that occurred. This is a vital and extremely important step that must be done to sustain the credit. 

The research credit calculation is determined a couple of different ways with the current computational method being the taxpayer’s most beneficial choice, elected on a timely, originally filed tax return. The research credit is currently available only through to December 31, 2009. Some bills are in process to have the research credit extended a 14^th time in the past 28 years. The current thought is that this credit will be extended again.  Furthermore, President Obama proposed in the FY2011 budget to make the research credit permanent. 

It is important to work with the right professionals to guide you through the process of determining the appropriate amount of research tax credit to claim.  Much abuse of the credit has taken place over the recent years and has led to increased scrutiny by the IRS.  If calculated, documented, and claimed properly within the tax law, the research tax credit can be a very powerful tax tool for innovating companies.

On January 26, 2010, the Internal Revenue Service (“IRS”) released Announcement 2010-09. The announcement explains the content of a proposed schedule that certain business taxpayers will be required to file with their annual tax returns. The schedule will include disclosures regarding uncertain tax positions for which a tax reserve has been established under FIN 48 or other accounting standard.

According to the announcement, the required disclosures will include the following:

• The Internal Revenue Code sections potentially implicated by the position;
• A description of the taxable year or years to which the position relates;
• A statement that the position involves an item of income, gain, loss, deduction, or credit against tax;
• A statement that the position involves a permanent inclusion or exclusion of any item, the timing of that item, or both;
• A statement whether the position involves a determination of the value of any property or right;
• A statement whether the position involves a computation of basis;
• The entire amount of United States federal income tax that would be due if the position were disallowed in its entirety on audit. This amount is the maximum tax adjustment for the position reflecting all changes to items of income, gain, loss, deduction, or credit if the position is not sustained.

Uncertain tax positions will also include any position for which a taxpayer or related party has not recorded a tax reserve because:
1. the taxpayer expects to litigate the position, or
2. the taxpayer has determined that the Service has a general administrative practice not to examine the position.

The IRS intends that the new schedule will be filed by a business taxpayer with total assets in excess of $10 million if the taxpayer has one or more uncertain tax positions of the type required to be reported on the new schedule. This includes a taxpayer who prepares financial statements, or is included in the financial statements of a related entity that prepares financial statements, if that taxpayer or related entity determines its United States federal income tax reserves under FIN 48, or other accounting standards.

The IRS has invited the public to submit comments on the proposal described in this Announcement by March 29, 2010. The Service intends to mandate that the new schedule be filed for uncertain tax positions filed with returns filed after release of the schedule. There has been no indication as to when the schedule will be released.

The IRS recently released updated federal mileage rates that will apply to mileage incurred on or after January 1, 2010:

* 50 cents per mile for business miles
* 16.5 cents per mile for medical or moving purposes
* 14 cents per mile for service of charitable organizations

The standard mileage rate for business mileage actually went down, reflecting the fact that the cost of fuel overall has decreased. The charitable mileage rate is fixed by Congress and they just haven’t addressed changing it for years, so it stays the same as it has for quite some time now.

Please refer to our disclaimer

Recently enacted legislation allows all U.S. companies to carry back net operating losses incurred in either 2008 or 2009 to the previous five years. The carryback can offset 50% of the taxable income in the fifth carryback year, and 100% of taxable income in the first four carryback years.

On November 5, 2009, an unemployment insurance extension bill was approved by the House of Representatives that allows businesses with net operating losses (NOLs) for 2008 or 2009 to carry those losses back for up to five years. The bill also extends and modifies the first-time homebuyer credit that was established by the American Recovery and Reinvestment Act of 2009. The Senate earlier this week approved The Worker, Homeownership, and Business Assistance Act of 2009, and the bill now heads to the White House; President Obama is expected to sign it into law. The bill includes revenue offsets including a delay in the effective date of the worldwide interest allocation election, an increase in the corporate estimated tax payments for certain large taxpayers, and an increase in the penalty for failure to file a partnership or S corporation return, among other provisions.