IRS Defines R&D Differently
The IRS definition of R&D is much broader than what the public typically thinks R&D to mean. The IRS definition includes many day-to-day tasks that are performed by manufacturers, contract manufacturers, software developers, and engineers.
If you design or manufacture a new product, make product enhancements, work from customer supplied drawings, develop new methods, formulas, or processes, you most likely have an eligible claim. IRS website
Remember, these activities don’t have to be globally innovative and exclusive to the industry. As long as they are new and unique to your company, regardless if someone pays you to do them.
Does your Company Meet the 4 Part Test?
According to the IRC Section 41, to qualify for the Research Tax Credit, you must undertake an activity or project that satisfies the 4-Part Test:
- Business Component
Your activity must relate to a new or improved Business Component. A business component can be either one of the following:
- Product
- Process
- Technique
- Formula
- Invention
- Software
Usually in the pursuit of new or improved business component, a company seeks to achieve advances in the following four areas: Function, Reliability, Performance, and Quality.
- Technological in Nature
The activity performed must fundamentally rely on principles of:
- Physical Science
- Biological Science
- Computer Science
- Engineering
- Elimination of Uncertainty
The activity must be intended to discover information to eliminate uncertainty concerning the capability or method for developing or improving a product or process, or the appropriateness of the product design.
- Process of Experimentation
All the qualifying activities should demonstrate process of experimentation involving:
- Evaluation of hypotheses through trial and error, testing, and or modeling
- Evaluation of alternative methods, processes, and materials
- Refining or discarding of the hypotheses
In other words, at the onset of an activity or project, companies usually have to go through a whole series of steps, processes, iterations, testing, trials and errors before they achieve the sought after results.
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