In a surprising, and long overdue modification to the Section 41 Research & Development tax credit, Treasury announced TD 9666 allowing taxpayer’s the opportunity to use the Alternative Simplified Credit ("ASC") calculation methodology on amended returns in cases where the credit was not previously claimed on a return. Prior to this announcement, the taxpayer’s were only allowed to apply the ASC method to a taxpayer’s timely filed (including extensions) original return for the taxable year to which the election applies.
The R&D Tax Credit was first enacted in 1981 in an effort to promote innovation and advancement and to keep technology and development related jobs in the United States. The tax credit is for taxpayers of any size that seek out to improve the functionality, performance, reliability or quality of any products, processes, techniques, formulas, or software. The credit is calculated using two methods:
- Regular Calculation methodology
- ASC calculation method
The regular credit methodology has often times been referred to as the "Old and Cold" method and is much criticized for it’s complexity by industry professional and taxpayers. This method can require taxpayer’s to go as far back as 1984 in order to substantiate their claims.
Responding to requests from taxpayers, the IRS issued temporary regulations on the election and calculation of the ASC under section 41(c)(5), which became effective for tax years ending after 2006. Taxpayers using the ASC method to calculate their credit did so by identifying their qualifying research expenditures ("QREs") in the current tax year and comparing them to the average QREs in the previous three tax years. This method quickly became the preferred method for many taxpayers due to the availability of documentation. In June 2011, The Treasury Department and the IRS issued final regulations (TD 9528) relating to the election and calculation of the credit using the ASC method. These final regulations provided guidance to taxpayers on the ASC election and stipulated that taxpayer’s could only make the election on timely filed (including extensions) original returns for the taxable year to which the election applies. Taxpayers looking to amend previous filed or older returns were required to do so using the regular credit methodology which was often times very burdensome, and thus, a hindrance to many that had never made or missed taking the ASC election.
After the implementation of TD 9528, the IRS and Treasury received additional requests to allow for the election of the ASC method on amended returns. The requests were primarily surrounding the difficulty and cost of substantiating the base period using the regular credit methodology. In response to those requests, the Treasury Department and the IRS released TD 9666, removing the rule in §1.41-9(b)(2) that prohibits a taxpayer from making an ASC election for a tax year on an amended return for a year that did not previous include an R&D Credit. Taxpayers that previously claimed, on an original or extended return, a Section 41 credit for increasing research activities are still precluded from changing their method from the Regular Calculation Method to the ASC election for that tax year on an amended return. Additionally, taxpayers that are part of a controlled group cannot make an ASC election on an amended return if any members of that controlled group filed for the credit on an originally filed, including extensions, timely filed tax return using a method other than the ASC.
TD 9666 is an important and exciting development for taxpayers that have not taken advantage of the credit. Cost and documentation requirements often deter taxpayer’s from pursuing a R&D Credit claim. These new regulations remove some of the hurdles of taking the credit by providing taxpayers with options for making the claim on amended returns. R&D Credits often times provide a strong return on investment. These new regulations can further increase that return by allowing for taxpayers to engage in a multi-year R&D Tax Credit study where one may have not been possible before.
A software developer with $300,000 in qualifying spending in the current tax year would have $20,000 in federal R&D Tax Credits. The Company was founded in 1980 and had both qualified spending and gross receipts during the 1984-1988 period. Previously, an ASC election could only be made in the current tax year. The Company did not retain any documentation from the 1984-1988 period and therefore, claiming an R&D Credit for the other open tax years would have been difficult, if not impossible. TD 9666 will make it possible for the Company to go back and elect the ASC method on their amended returns generating credits in years where there would not have been any otherwise. As such, the potential benefit of doing a R&D study can potentially go from $20,000 for one year to over $70,000 for all open tax years including the current year.
If you are currently doing research and development or have been in the past five years, you may be a good candidate to secure these tax credits. Call us today or visit KBKG.com/research-tax-credits to see if you are eligible.