The IRS has taken a hit this year as it relates to research and development tax credits. These credits have been included as part of the tax code since 1981 and have allowed companies to save millions of dollars per year.
As one of the most advantageous tax credits at 6 to 8 percent of all qualifying development costs, the IRS takes notice. On three recent refund claims, the IRS failed to prove that the cases should be dismissed as their arguments focused on specificity and a failure to provide enough information to perfect a refund claim. This led the chief counsel to issue a new memorandum changing the administrative process for filing an R&D claim for a refund. To understand the new memorandum, it's important to understand: what is the current process to file a refund claim, what is the new process, and what are the implications.
As for the current process, if you want to amend your tax return to claim a refund, all that has been required for a refund claim at this time has been the filing of the amended return with Form 6765 (used for the credit for increasing research activities).
The new process requires that a taxpayer's refund claim for the I.R.C. § 41 research credit to be valid, the taxpayer must, at a minimum, identify all the business components to which the I.R.C. § 41 research credit claim relates for that year. For each business component, they must identify all research activities performed, identify all individuals who performed each research activity and identify all of the information each individual sought to discover. They also must provide the total qualified employee wage expenses, total qualified supply expenses, and total qualified contract research expenses for the claim year; this may be done using Form 6765, Credit for Increasing Research Activities.
The IRS said it would offer a grace period until January 10, 2022, before requiring the inclusion of this information with Section 41 research credit claims for refunds that have been filed on a timely basis. Once the grace period expires, there will be a one-year transition period during which taxpayers will have 30 days to "perfect" a research credit claim for a refund before the IRS makes a final determination on the claim. Further details will be coming from the IRS, but taxpayers can immediately start providing this information.
There are implications of these changes including that the chief counsel's memorandum is a written determination that cannot be used or cited as a precedent. It's suggested to reject any claim that does not maintain all of the information above, even though general claims indicate the identified imperfect claims are supposed to be sent to the taxpayer with the opportunity to "perfect" the claim. R&D tax credits are being singled out as this is the only amended item that would require significant documentation to substantiate any refund.
In conclusion, while there are changes to the administrative process, it drives the point that any R&D tax credit analysis should include additional information surrounding qualifying projects, tasks, and expenses.