[IMGCAP(1)]The Treasury Department and the Internal Revenue Service released two regulations Tuesday, one temporary and one proposed, that revise research tax credit election rules and make it simpler for taxpayers to take advantage of the tax benefit offered by the credit.
Currently, taxpayers are allowed to compute the credit electing one of two distinct methods—the regular (or traditional) and the alternative simplified credit (ASC) methods.
Computing the research tax credit using the regular credit method could be time consuming, often requiring the additional effort of determining qualified research expenses and gross receipts for the historical 1984-1988 tax years (called the “fixed base period”) under the “existing company” rules if the taxpayer incurred qualified research expenses and gross receipts during at least three of these tax years.
If the taxpayer was not in existence or did not incur qualified research and gross receipts during three years of the fixed base period, it uses the “start-up company” rules which require following a nine year process of establishing its own five year base period of qualified research expenses and gross receipts, starting from a standard statutory rate of three percent. Comparatively, computing the research tax credit under the ASC method is much simpler: only qualified research expenses must be determined for the three tax years prior to the tax year for which the credit is computed.
Until now, an election to compute the research tax credit using the ASC method could only be made on a timely filed tax return, including any extensions to file. This election remained binding until revoked with the consent of the IRS. The Internal Revenue Code did not explicitly specify the time and manner for making this election when the IRS guidance provided that the ASC method election could be made for the current year and revoked for any subsequent years by filing Form 6765 with the tax return using a different computational method. Taxpayers were not allowed to elect the ASC method on amended tax returns.
Fortunately, under the new regulations, taxpayers are allowed to file amended returns where the research tax credit is computed using the ASC method, if no credit was previously claimed in those tax years. Further, the regulations provide that if a taxpayer, who is a member of a controlled group for the purpose of computing the research tax credit, is not allowed to elect the ASC method if any other member of the controlled group computed the research credit under the regular method on an original or amended return for that tax year.
The temporary and proposed regulations became effective on or after June 3, 2014 with the temporary regulations set to expire on June 2, 2017. These regulations are viewed as extremely favorable for all taxpayers, but especially for those that never claimed the research credit as the simplicity and consequent reduced accounting burden of computing the research credit under the ASC method is obvious: it eliminates what can be a long analysis of many prior years records going back up to 30 years (1984 to 2014).
The requirement of examining historical financial, tax and operational data, reviewing the history of prior business acquisitions and disposition, interviewing personnel who have knowledge of operations during the “base period” years can now be limited just to the three tax years prior to the tax year of the credit.
Notably, these temporary and proposed regulations are welcome news and well aligned with several legislative proposals, including the Tax Reform Act of 2014, introduced by Dave Camp, and the American Research and Competiveness Act of 2014 (H.R. 4438) sponsored by Kevin Brady and passed by the House on May 9, 2014. The regulations support the competitiveness of the US economy and create an additional incentive for technological change and innovation in many various industries.
Dr. Alexander Korniakov, PhD, CPA, is the senior vice president of research credit and other tax incentives at Fortisure Consulting LP, a consulting firm located at 1900 South Norfolk Street in San Mateo, Calif. Dr. Korniakov holds a master’s degree in Financial Engineering and a doctorate degree in Chemical Engineering, both from New York University School of Engineering. He is a licensed as a Certified Public Accountant.