The Government’s Role in Facilitating Research & Development in the US

In the US the government, through the decades, has always played an active role in facilitating Research & Development, both in the private and the public sectors. This is only natural, considering the government’s priority in furthering economic growth. And economic growth and R&D go hand in hand, as innovation and changes in technology are integral to any country’s growth process.

As such, the government has come up with certain policies that directly encourage R&D activities. Government support for R&D is such that it has created agencies which provide grants, such as the National Science Foundation, and it has also developed various tax incentives such as the Research & Development tax credit which various firms can avail of.

The support of the government has proven effective for furthering R&D. In the early part of the 20th century, for instance, government support enabled the emergence of new technologies related to agriculture, health care, information technology, and chemicals. One particular case in point is the development of the lithium-ion battery, which was brought about with the help of materials research which was sponsored by the federal government.

In recent years, it can be said that the total R&D spending by the government has remained stable, making up approximately 2.5% of the GDP, or the gross domestic product. However, there are two main pointers related to this which may need further measures from the government. One is that the government’s R&D spending has gone down compared to private sector spending, and another is that the share of the government’s R&D spending on basic research has also declined. These issues need to be addressed, because the basic or fundamental research is the basis for most innovations. Therefore, certain economists have recommended that government support for basic R&D be increased in order to improve economic growth.

The government is therefore encouraged to create more positive policy instruments, especially when it comes to tax incentives. The government was already made aware of this more than two years ago, when in a speech by Ben Bernanke, he stated, “The challenge to policymakers is to encourage experimentation and a greater diversity of approaches while simultaneously ensuring that an effective peer-review process is in place to guide funding toward high quality science.”

The setting of clear-cut policies for R&D tax incentives, however, may be well under way. Recently, the IRS issued a series of proposals that seek to be more beneficial to firms engaged in the development of new products. These proposals eliminate any gray areas associated with R&D incentives, therefore encouraging firms to move forward with their research and experimentation activities with more stable and solid backing from the government.

If your firm is engaged in R&D and would like to know more about how you can qualify for government tax incentives, we at Swanson Reed can help you. Our company has been involved in R&D for more than 30 years, and we have assisted various firms with all their R&D tax incentive needs and requirements.

What Happens When the R & D Tax Credit Expires?

Many companies spend years developing their research and development programs and each year they apply for the R&D tax credit. The credit isn’t a law that simply exists. Like many other tax programs, it expires and Congress has to renew it for another term.

Last year, the credit expired and it has yet to be renewed. While there is every reason to think the government will renew it again, it isn’t guaranteed. In that event, it can impact companies in many ways, leading to loss in profits and both consumer and investor confidence.

The First Quarter

When companies that qualified for the tax credit last year reported profits, they would have included all the money saved from the credit in those first quarter earnings. That’s four quarters of tax credit savings reported in the first. Without the certainty of the credit, this year they’ll have zero. That can have a significant impact on their profitability projections for shareholders. The company can attribute the losses to the non-renewal of the tax credit, but that may not be enough for shareholders reading their reports.

Results and Research

The budget that the company provides the research and development division with often includes an offset from the tax credit. Without that guarantee of that credit, budgets can be slashed. This not only slows down research and results but can also lead to layoffs and putting off the purchase of much needed equipment. The impact trickles down to contractors and anyone else associated with research and development and the business itself.

Stocks

For publicly traded companies, the loss of the tax credit and the revisions of profit projections can cause a fluctuation in the stock market. Nervous investors may begin selling stocks and driving the price down in an effort to decrease their overall risk. Falling stock prices are never a good omen for investors and shareholders. In the short term, it can have a negative impact on stocks, but given likelihood of extensions, it will not have a long term negative impact.

Permanence

According to theWall Street Journal, both Presidents George Bush and Barack Obama had considered making the tax credit a permanent fixture in the tax laws. This would eliminate the need for renewal. The problem with making it permanent would be the cost. The Journal reports that the cost of the last two-year extension over 10 years was about $14.3 billion, but making it permanent would cost about $100 billion over 10 years.

Companies that deal with research and development are counting on this research to create a better product and help them achieve a better bottom line. When the tax credit is not renewed, then it can play havoc with their overall R&D plan. Companies stay successful through planning and strategy, and while there may be a backup plan for when the credit expires, there is simply no way to get that money back without significant changes to the R&D program.

An Overview of the Recently Proposed Regulations for R&D Tax Credits

Research & Development plays a big role in a good number of industries today, most notably in the US. Recently, the government has come up with new regulations regarding the filing of R&D tax credit, which seeks to eliminate those ‘gray areas’ that have long confused business taxpayers in the past.

For one, a proposed ruling seeks to revamp the claiming of credit for expenditures which a company incurs which are related to the development of pilot models or any tangible property. It is to be noted that in the past, there was a lack of understanding regarding qualification for R&D tax incentives if the product developed by a company was subsequently sold in the market. It seems that products which were subsequently sold or distributed would not qualify for tax credit. But the new proposal brought forth by the IRS seeks to eliminate this gray area. This means that any expenditure incurred for the research and development of a product will still be able to qualify for tax credit, regardless if it is eventually sold in the market or used by the company as part of its business.

Another proposal involves the definition of a pilot model. A pilot model is referred to as any model or representation of a certain product which has been produced to resolve any uncertainty related to the product while it is being improved or developed. The pilot model would therefore include a representation that is fully-functional, or a component of the product. This brings us to another proposal involving the shrinking back provision. This provision is used when the Sec. 174 requirements have been met, but only for the component of a bigger product. This means that a company can redesign or refine the components of a product after it has already been produced. So even though the product already has a basic specification for its design, the expenditures of a company to eliminate any uncertainty with regards to the design of some of its components may qualify as credit.

These new proposed rules and regulations may be beneficial to plenty of firms in the country, particularly those which are dealing with food processing or manufacturing. But these regulations may only apply to tax years which end on or after the final regulations have been published or approved. But the IRS has also stated that business taxpayers can already depend on the above-mentioned proposals until such time that the final regulation has been released.

Here at Swanson Reed, we are proud to have more than 30 years experience in R&D tax incentives. If you would like to learn more about how your firm can benefit from R&D tax credit with regards to your research and experimentation activities, contact us.