In the case of Research, Inc. v. United States of America, the court held Research, Inc. was not entitled to additional R&D tax credits for its tax year ending September 20, 1985, due to failure to accurately reflect its base period qualified research expenses. A taxpayer must be able to prove its base period qualified research expenses amount to meet its burden of proving its qualification for the R&D tax credit.
Research, Inc. is in the business of designing, manufacturing, and selling control instrumentation and heating devices. The company manufactures and sells a standard line of products and several special systems projects built to meet the specialized needs of customers. Research, Inc. filed an amended return for its 1985 taxable year to claim additional R&D tax credits related to the development of special systems projects. Prior to 1985, the company only included research and development related to standard products in its R&D tax credit calculation.
Research, Inc. did not adjust its base period expenses when filing the amended return for taxable year 1985. It only included the additional category of R&D expenses in its recalculation of the 1985 qualified research expenses. The information needed to recalculate the base period qualified research expenses had largely been destroyed by the company. The government took the position that since the taxpayer cannot accurately qualify and support with documentation the base period amounts expended, the taxpayer cannot qualify for the tax credit. The court asserted the taxpayer bears the burden of proving its qualification for the research credit. In this situation, the taxpayer must be able to prove the correct amount of its base period research expenses.
Companies need to accurately calculate base period qualified research expenses and maintain consistency in the types of expenses included in the current year versus the base period to meet their burden of proof in claiming the credit. This is particularly important for companies relying on information from the 1980s to calculate a fixed base percentage using the regular credit calculation. Lack of documentation may create the need to focus on the alternative simplified calculation since it relies on more recent years for the base period. Furthermore, companies seeking to include a new category of qualified expenses in the current year should evaluate and modify the base period qualified research expenses as applicable.
Earnd can help you qualify and support credit calculations as your company pursues R&D tax credits.