Investing in Innovation? Don’t Overlook the R&D Tax Credit

By the time a company seeks to protect new technology, it has often spent months or years solving technical problems, testing alternatives, and refining designs. Some of that same development work may also qualify for federal R&D tax incentives.

Companies tend to treat patents, trade secrets, and tax incentives as separate issues handled by different advisors. Yet they often arise from the same development work, and reviewing one is a good opportunity to check the others.

What the Credit Looks At

The credit focuses on qualified research: work directed toward developing or improving a "business component," which can include a product, process, computer software, technique, formula, or invention. Among other requirements, the work must rely on principles of engineering, the physical or biological sciences, or computer science and must involve resolving technical uncertainty through a process of experimentation.

Consider a company developing a new wearable sensor for athletes. Its engineers may evaluate several designs, test different materials, and work through performance problems before arriving at a workable product. That effort may be relevant both to protecting the technology and to determining whether some of the development activities qualify for the credit.

Similar considerations can arise in software development, where companies test different architectures, algorithms, or technical approaches in developing new products or improving existing ones.

Where Patents Fit

If the work led to a patent, that patent may help. Treasury regulations provide that the issuance of a utility patent may serve as conclusive evidence that the company discovered information that is technological in nature, which is one of the requirements for claiming the credit.

The patent does not satisfy the other requirements, and it does not mean all related development work qualifies. A patent is also not required to claim the credit.

The Same Records Serve Both

The facts that support an R&D credit claim often overlap with the facts needed to establish patent rights and IP ownership: what technical problem was being solved, what alternatives were tested, who did the work, and when the idea was conceived and first shown to work. Keeping that history organized and consistent can help both your tax advisor and your IP counsel.

For technology maintained as a trade secret, companies should document the facts necessary to support a credit claim while protecting confidential technical information. Tax and IP advisors can help strike that balance.

A Good Time to Check Patent Deadlines

Reviewing development work for the credit is also a good time to ask whether any of it should be patented. In the United States, a patent application generally must be filed within one year after certain public disclosures, sales, or offers for sale of the invention. Many other countries provide no comparable grace period.

By the time a company reviews its development work for tax-credit purposes, a product may already be on the market, and a patent deadline may be approaching or may already have passed.

Early-Stage Companies May Have Options

Companies without taxable income sometimes assume the credit would not be useful to them. Certain qualified small businesses may be able to apply some or all of the credit against payroll taxes, subject to eligibility requirements and limitations. This is a question for your tax advisor.

The Takeaway

If your company is investing in new technology, ask your tax advisor whether that work qualifies for the R&D credit, and ask your IP counsel whether any of it should be protected through patents, trade secrets, or other forms of intellectual property protection before important deadlines or opportunities pass.

We do not provide tax advice, but we are glad to coordinate with your tax advisors or R&D tax-credit specialists.