At a TEI conference last month, we were asked a question repeatedly: “Can I claim this in my R&D credit even if the technology already exists?” If tax experts are still confused, it’s clear that this part of the R&D credit needs some clarification. So, the short answer: Yes.
But let’s get a little deeper and explain the why:
The “New to You” Rule
Every expense that you’re including in your R&D filing has to pass the IRS’s 4-Part Test:
- be technical in nature
- be created for a qualified purpose
- work to solve a problem with technical uncertainty
- involve a process of experimentation
But what if the experimentation is being done to solve a problem that another company has already solved? So long as the R&D is in pursuit of an answer that is not common knowledge (i.e. you can Google and find an instruction manual that answers all your questions, or locate a how-to guide on a competitor’s website), your company’s expenditures chasing that solution are qualified.
The key takeaway is that even if a competitor has already solved the problem, your research can still qualify so long as when you began the research stage, you faced genuine uncertainty about the capability, method, or appropriate design for your own version of the product or process.
Think of it this way: Casper was the first “bed-in-a-box” manufacturer. They figured out how to shrink wrap a mattress and then send it to a customer in the mail. Now, many competitors have spent tens of millions in R&D chasing the same technology. Each has a unique set of circumstances they have to experiment around — everything from material that can shrink and expand, to durability, to construction of the expanded mattress, to shrink-wrap process. None of these discoveries will necessarily be novel, but all of the experimentation is in pursuit of processes and products that would otherwise be unknown to the company without R&D. Thus, all that expenditure is categorized as a qualified expense.
How George v. Commissioner Pushes This Further
The chicken producer George’s of Missouri, Inc. ran large-scale, in-house poultry trials testing on vendor-supplied vaccines, drugs, and feed additives which had, in many cases, already been tested and proven effective in vendor laboratories.
In George v. Commissioner, the IRS argued that because the products that George’s was buying had already been proven effective, there was no remaining “uncertainty” for the company to resolve. But George’s argued that before deploying vaccines, drugs, and feed additives in their Missouri-based operation, they needed to do these large-scale tests in the field to guarantee that the products worked the same in their specific operating conditions as they had in sterile labs.
George’s operations involved fluctuating temperatures, differing farm conditions, varying biological interactions, and full-flock biological variability. The tax court ruled in favor of George’s because the judge agreed that those real-world variables could materially affect outcomes, so the uncertainty that mattered in terms of R&D qualification was the taxpayer’s — not the vendor’s.
The effect of that ruling is massive for any industry — not just chicken producers.
What it means is that if a certain process or technology is “new to you” then R&D expenditures made to test for that uncertainty are qualified expenses. If George’s could test that the feeds, vaccines, and drugs worked in their specific circumstances then, of course, another mattress producer can claim expenditures for testing the best way to shrink wrap and ship their specific type of mattress.
Basically: “New to you” has been expanded to include “new to your specific situation.”
The tl;dr
The big takeaway that companies should understand is that R&D expenditures made to refine or catch up on features that might already be offered by competitors can still be claimed as qualified expenses. You don’t have to be inventing the wheel to claim an R&D credit; you just have to be reimagining how it might work on your specific car.
The key is to find an R&D tax credit filing system that understands the most up-to-date intricacies of IRS guidances and tax case law, and that can integrate that into a filing right away. Luckily for you, Neo.Tax can do just that.