The IRS’s Chief Counsel Memo, released on October 15, 2021, introduced new guidance regarding R&D tax credit refund claims. These updates impact taxpayers filing an R&D tax credit refund claim after January 10, 2022, requiring granular documentation of R&D activities. On November 25, 2024, the transition period was extended through January 10, 2026, allowing taxpayers 45 days to perfect claims before the IRS makes a final determination.
The new guidance focuses on ensuring detailed reporting for validity and easier screening by the IRS. Taxpayers must provide specific details about R&D activities, including information about business components such as products, processes, software, techniques, formulas, or inventions. The 2021 memo originally required, for each business component, taxpayers needed to identify all research activities performed, list all individuals involved in each research activity, and detail the information each individual sought to discover. However, effective June 18, 2024, the IRS waived the requirement for taxpayers to include the names of individuals performing research activities and the information sought by each individual. While this information is no longer required at the time of filing, it may still be requested if a refund claim is selected for examination.
For claims postmarked after June 18, 2024, taxpayers are required to provide the following information for each business component related to the Section 41 research credit claim:
- Identify all the business components to which the research credit claim relates for that year.
- Identify all research activities performed for each business component.
- Provide the total qualified employee wage expenses, total qualified supply expenses, and total qualified contract research expenses for the claim year. This information may be submitted using Form 6765, Credit for Increasing Research Activities.
While some requirements were eliminated, based on the memorandum and subsequent guidance, the IRS wants to see activities on a micro-level. In fact, the new guidance is requiring that “claims for refund” include specific information about each business component that comprises R&D activity. For some taxpayers, the number of business components—and therefore, paperwork—could really add up. For each business component, the taxpayer should include all the research activities performed and detailed expense reporting for each component, including wages, supplies, rental or lease costs of computers, and contractor costs. For instance, total expenses for a particular software project might equal X, while a new packaging process could total Y. This granular approach ensures that each expenditure is accurately linked to specific R&D projects.
A significant aspect of the new guidance is the IRS’s demand for a narrative detailing R&D activity. Taxpayers must effectively make a persuasive case for their refund claims, supported by documentation such as credit studies. Supporting documentation should include specific references to pages or sections that substantiate the claims. This requirement adds to the burden of compliance but ensures that claims are well-documented and defensible.
For claims to be considered, taxpayers must file within the statute of limitations, typically three years from the original filing date or two years from the date the tax was paid, whichever is later. This timeline underscores the importance of preparing claims with sufficient detail upfront to avoid rejection or the inability to amend.
The IRS’s updated standards reflect a shift toward micro-level scrutiny of R&D claims, requiring taxpayers to adopt more comprehensive tracking and reporting practices. These evolving requirements highlight the importance of staying informed and seeking expert guidance to navigate the complexities of compliance. By implementing robust documentation practices and aligning with the updated rules, taxpayers can mitigate the risk of rejected claims and streamline the review process.
