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1 IRS Practice & Procedure: Research Credit SJSU-TEI High Tech Tax Institute November 6, 2006 Mallorie Jeong- Research Credit Technical Advisor.

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Presentation on theme: "1 IRS Practice & Procedure: Research Credit SJSU-TEI High Tech Tax Institute November 6, 2006 Mallorie Jeong- Research Credit Technical Advisor."— Presentation transcript:

1 1 IRS Practice & Procedure: Research Credit SJSU-TEI High Tech Tax Institute November 6, 2006 Mallorie Jeong- Research Credit Technical Advisor

2 2 RC ATG and Examination Tools Last update June 2005 Consistent case handling Save time Scope and materiality assessed more effectively

3 3 Aggregation / Allocation Temp.Reg T Single TP computation Allocation of group credit among members Base on the relative amount of each individual member’s “stand-alone” entity credit No special allocation rule for consolidated groups

4 4 Guidance Priority Issue: Handling of intragroup transactions Should receipts from controlled foreign corporations be excluded for the purpose of determining Gross Receipts? CCA (2/14/06)– General Memorandum –exclusion NOT allowed. What type of receipts are included?

5 5 RC Coordinated Issues: 1.NEW (5/06)-Extraordinary utilities supply interpretation 2.Overhead cost for self-constructed supplies are not QREs 3.IU SW (3-prong test) 4.Technical Writers’ wages are not qualified wages 5.401(k) benefits are not qualified wages

6 6 LMSB Initiatives RC Methodology Prefiling Agreements CAP-Compliance Assurance Program Fast-track

7 7 RC Claims Significant compliance challenge for IRS Re-emphasis on Notice Focus on due diligence in preparation of RC Study

8 8 Directive RE: Retroactive IRC 280C Elections Financial Services Industry Directive 7/26/04, reissued Aug 2005 References Notice Retroactive 280C election NOT allowed. Election MUST be made on an ORIGINAL return, otherwise, lower 13% rate is not available when claims or amended returns are filed. Protective election OK?

9 9 Mandatory MITRE Referral: IUSW cases with over $1.5M in research credit at issue per audit cycle Commercial SW cases…

10 10 3 Main Compliance Categories COMPUTATIONS, IRC 41(c) QUANTIFICATION, IRC 41(b) QUALIFICATION, IRC 41(d)

11 11 Computations Correct? QREs Proper? Activities Qualify?

12 12 ALL RC Examinations will address the following: 1.Procedural issues (e.g. claim filing procedures Notice , proper elections) 2.Computational issues 3.Methodology assessments 4.Record adequacy assessments 5.Quantification issues 6.Qualification issues

13 13 Qualified research EXPENSE, IRC 41(b) Supplies Consumed ?? Consumed ?? Not depreciable Not depreciable Contract research Service vs Purch goods Service vs Purch goodsWages Directly engaging in Directly engaging in Direct supervision Direct supervision Direct support Direct support Qualified ACTIVITIES, IRC 41(d) Meets qualification criteria? Identify business component What is “qualified purpose?” Substantially all POE or shrink back Any excluded activities?

14 14 Recordkeeping Reg requires the keeping of records “sufficient to establish the amount of …credits,… required to be shown…” The consequence of failing to keep sufficient records substantiating a claimed credit may be denial of the credit.

15 15 Cross Industry General Issue Areas Admin., marketing & sales activities Manufacturing activities (e.g. prototypes) General IT maintenance activities Legal fees Technology acquired thru business acquisition Research conducted overseas Fringe benefits (e.g. 401(k), stock option exercise) Direct supervision / direct support Supplies (e.g.prototype materials, xtra utilities) Contract Services (e.g. cascading credit)

16 16 High Tech Mfgrs - Issues: Properly defining the R&D cycle vs. MFG Prototypes What activities are R&D? What activities are R&D? What costs incl? What costs incl? Process R&D Testing (Design v. Quality Control) Technical Marketing Supplies (e.g. mask tools, computers, prototype materials, xtra utilities) Quantification methods (e.g. dept/cost center allocations) Intragroup Gross Receipts from CFCs Aggregation & Allocation rules IRC 174 vs. 263(a)

17 17 Guidance paper for Commercial & Internal use Software, 2/4/05

18 18 Issue Coordination Software claimed as supplies Self-constructed assets (incl. equipment, tooling, prototypes), which may be “asset of a character…”

19 19 ANY QUESTIONS Mallorie Jeong San Jose, CA

20 20 IRC Section 41 IRC Section Reg Section Original FR Reference 41(a)-General Rule , General TD /17/89 41(b)-Qualified Research Expense , Qualified Research Expense TD /17/89 41(c)-Base Amount , incl. definition Gross Receipts TD /3/01 41(d)-Qualified Activities , Qualified Research, Recordkeeping TD /2/04, ANPRMM 12/26/03 (IUSW) 41(e)-Basic Research , Basic Research (12/31/86) TD /17/89 41(f)-Special Rules T, Aggregation of Expenditures TD /24/05 (Agg & Alloc) 41(g)-Pass-thru of Credit A, Special Rules 41(h)-Termination T, Special Rules applicable after 1/3/01, AIRC election TD /24/05 (Agg & Alloc)


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