A Practical Guide to The Department of Treasury’s Amendment
By Peter J. Scalise, Prager Metis International LLC
The United States Research and Experimentation Tax Credit (hereinafter “RTC”) Program was added to the U.S. Internal Revenue Code (hereinafter “I.R.C.”) in 1981 to incentivize qualified research and development expenditures within the United States and its possessions (e.g., United States Virgin Islands, Puerto Rico, Guam, etc.). As a direct result of the overwhelming success of the program at the Federal-level, most states now offer a research tax incentive (e.g., credit or deduction) as well. These combined Federal and Multi-State research tax incentives exponentially help companies tax effect their actual expenditures to design and develop their next generation “best in class” products as well as their manufacturing process improvements.
Research Tax Incentives can apply to virtually any industry including, but certainly not limited to, Aerospace & Defense; Life Sciences (e.g., Pharmaceuticals, Bio-Technology, Medical Devices, etc.); Food Science & Bio-Flavoring; Financial Services (e.g., for both 3rd party sale, lease or license software and internal use software); Energy, Oil & Natural Gas; Metals & Mining; Semiconductors; Software & Electronics; Transportation (e.g., Airlines; Automotive; etc.); and Utilities.
While the RTC serves as a highly valuable tax incentive for business entities conducting qualified research activities it is imperative that the RTC be methodically documented on a contemporaneous basis both from a qualitative and quantitative perspective to ensure a sustainable result should an Internal Revenue Service (hereinafter “the Service”) examination come to fruition.
A paradigm shift recently occurred on June 2, 2014 when The Department of Treasury released both taxpayer favorable Temporary Treasury Regulations (T.D. 9666) and taxpayer favorable Proposed Treasury Regulations (REG-133495-13) in connection to the Alternative Simplified Credit (hereinafter “ASC”) methodology for purposes of the RTC that opens up a world of opportunity for many taxpayers who conduct qualified research and development. By way of background, the RTC is generally calculated under the Regular Methodology by multiplying the difference between the current year qualified research expenditures and the base amount by 20%. However, calculating the base amount is oftentimes both too arduous and highly impracticable because it requires businesses to identify, gather and document gross receipts and qualified research expenditures from years as early as 1984 to the present. In contrast, the ASC methodology allows taxpayers to calculate the RTC by only considering the qualified research expenditures from the prior three years. Previously, however, taxpayers were required to elect to claim the ASC methodology only on an originally filed tax return and taxpayers were therefore limited in how they could claim the RTC, if even at all.
The ASC methodology is an elective method for computing the RTC. A taxpayer that elects to utilize the ASC is allowed a credit equal to 14% of the amount by which its Qualified Research Expenditures (hereinafter “QREs”) for the taxable year exceed 50% of its average QREs for the three preceding taxable years. An electing taxpayer that does not have any QREs in one or more of the three preceding taxable years is allowed an ASC equal to 6% of its QREs for the taxable year.
An election to utilize the ASC remains in effect until it is revoked with the consent of the Service. It should be duly noted that the statute does not prescribe the time or manner of making or revoking the election. However, the Treasury Regulations clarify that the ASC methodology is elected by filing Form 6765, entitled “Credit for Increasing Research Activities”, and utilizing that methodology to calculate the RTC on a timely filed tax return. The election is revoked by properly computing the RTC utilizing a different method on Form 6765 that is filed for a taxable year.
In addition, pursuant to the Final Treasury Regulations released back in June of 2011, the manner of making a proper election and corresponding calculation of the ASC requires that Form 6765 be attached to a timely filed tax return (i.e., including extensions) for the taxable year to which the election applies. As discussed under Treas. Reg. § 301.9100-3, a taxpayer was not allowed to make an ASC election on an amended tax return.
The preamble to the June 2, 2014 release of the Temporary Treasury Regulations explains that the Service received a number of requests by lobbying groups to amend the June 2011 Final Treasury Regulations so as to allow taxpayers to make an ASC election on an amended tax return. Proponents of this change explained that the burden of substantiating expenditures including the associated costs of documenting a taxpayers fixed base period percentage (e.g., often times going as far back to 1984 and rebuilding through the current year under review such as 2013) under the regular credit methodology can be too arduous and highly impractical.
In response to these direct requests and issues, the June 2nd set of Temporary Treasury Regulations and Proposed Treasury Regulations remove the rule prohibiting taxpayers from making an ASC election on an amended tax return, and now permit taxpayers to make an ASC election for a taxable year on an amended return.
As a caveat, the Temporary Treasury Regulations also provide that a taxpayer that previously claimed a RTC on an original or amended tax return for a taxable year may not then go back and make an ASC election for that tax year on an amended tax return. The preamble specifically notes that permitting changes from the regular credit to the ASC on amended tax returns may result in more than one examination by the Service of a taxpayer’s RTC for that taxable year.
Scope & Application
These Treasury Regulations apply to elections with respect to taxable years ending on or after June 3, 2014 which is the date when these Treasury Regulations were published in the Federal Register. The Temporary Treasury Regulations expire on June 2, 2017.
However, a taxpayer may rely on these Treasury Regulations to make an ASC election under I.R.C. § 41(c)(5) for a taxable year ending prior to June 3, 2014, if the taxpayer makes the election before the period of limitations for assessment of tax has expired for that year. The Temporary Treasury Regulations leave in effect the earlier admonition that 9100 relief will not be granted to make an ASC election beyond the time permitted by these regulations.
Comments and requests for a public hearing with respect to the Proposed Treasury Regulations are due 90 days after June 3, 2014.
Peter J. Scalise
Prager Metis International LLC, Basking Ridge (NJ), Long Island (NY), Los Angeles (CA), New York (NY), White Plains (NY), USA
Peter J. Scalise serves as the Federal Tax Credits & Incentives Practice Leader for Prager Metis International LLC. Peter is a highly distinguished BIG 4 Alumni Tax Practice Leader and has approximately twenty years of progressive public accounting experience developing, managing and leading multi-million dollar tax advisory practices on both a regional and national level.
Peter is a highly acclaimed thought leader in the fields of accounting and taxation with deep subject matter expertise in connection to designing, implementing and defending sustainable methodologies for specialty tax incentives including, but not limited to, research tax incentives; orphan drug credits; therapeutic discovery credits; accounting methods and periods; energy tax incentives in connection to green building envelope efficiency and benchmarking, solar energy, bio energies, fuel cells, wind turbines, micro turbines, and geothermal systems; and comprehensive fixed asset analysis incorporating principles of construction tax planning, cost segregation analysis and the final treasury regulations governing tangible property.
Peter is a renowned keynote speaker and an extensively published author on specialty tax incentives, tax controversy matters, and legislative updates from Capitol Hill for NAREIT, AGRION, USGBC, AICPA, ASTP, NATP, ABA, AIA, and TEI. Peter serves as a member of the Tax Faculty for CPAacademy, iShade and TaxConnections University (“TCU”). Peter serves on both the Board of Directors and Board of Editors for The American Society of Tax Professionals (“ASTP”) and is the Founding President and Chairman of The Northeastern Region Tax Roundtable.
published: July 2014