R&D Tax Credit Opportunities for IP and Patents
The research and development (R&D) tax credit can be a valuable tool for companies that conduct R&D, including the invention of patented products and processes. It provides a 14-percent credit on qualifying expenditures.
To qualify for the credit, research activities must satisfy the following four-part test:
- Purpose. The objective of the activity must be to create a new or improve an existing business component in terms of functionality, performance or quality. A business component is any product, process, technique, invention, formula or computer software that the taxpayer intends to hold for sale, lease, license or actual use in the taxpayer trade or business.
- Elimination of uncertainty. A degree of uncertainty must exist concerning the development or improvement of the business component. Uncertainty exists if the information available to the taxpayer does not establish the capability of development or improvement, method of development or improvement, or the appropriateness of the business components design.
- Process of experimentation. The taxpayer must undertake a process of experimentation designed to evaluate one or more alternatives to achieve a result.
- Technological in nature. The experimental process must fundamentally rely on the principles of the “hard science,” including physical, biological sciences, engineering or computer sciences.
Intellectual Property, Patents and Innovation
One of the rationales for patents is that they stimulate economic and technological development and promote competition by creating a financial motivation for invention in return for the disclosure of the invention to the public. The potential of the patent system has been widely recognized in the context of dynamic innovation activities.
In view of the rapid technological innovation and the social and economic challenges, the function, value and impact of the patent system need to be constantly adjusted and implemented so that the optimal balance between the right holder, new entrants to the market and the public at large is achieved.
To foster R&D in new technologies, such as information and communication technologies and biotechnology, the patent system needs to be shaped to respond to the challenges arising swiftly and strategically from those new technologies. Further, to support a comprehensive and complex technological development, it is essential to strengthen public R&D activities, including those in universities, and promote better collaboration between the private and the public sectors. It is important to set up policies that provide a balance by offering both incentives to stimulate R&D and ensure a competitive environment for pioneers, down-stream researchers and producers at the end of the value-added chain.
One of the major functions of the patent system is the dissemination of technical information. Patent information is a valuable and comprehensive source of technical, commercial and legal information that can be used directly for scientific and experimental purposes and as a basis for stimulating the adaptation and improvement of the technology described in patent documents immediately after their publication. Recognizing the importance of the dissemination of technical information, a growing number of intellectual property (IP) offices and organizations are using the internet to offer access to their patent documents’ databases.
The cost and legal fees for IP/patents are considered an R&D expenditure. Note that the R&D costs required to develop the idea being patented cannot be included in the capitalized cost of a patent. These R&D costs are instead charged to expense as incurred; the basis for this treatment is that R&D is inherently risky, without assurance of future benefits, so it should not be considered an asset.
The research and development (R&D) tax credit can be a valuable tool for companies that conduct R&D, including the invention of patented products and processes.
The FI-Group is an international tax consultancy that specializes in the implementation of state and federal tax incentives and the R&D tax credits for corporations. The FI team consists of CPAs, engineers, IT, legal and business operation specialists. With more than 13,500 clients in 19 countries, their clients’ benefits exceed more than $2B in tax savings annually. Contact Fi-Group at fi-group.com.
This article appeared in the Summer 2023 issue of New Jersey CPA magazine. Read the full issue.