The document discusses recent developments and key information companies need to know about the research and development (R&D) tax credit. Both the House and Senate have passed bills that would extend and enhance the R&D credit. The Senate bill would make some R&D credits refundable against payroll taxes for new small businesses, while the House bill would make the alternative simplified credit permanent at a higher rate. To qualify for the R&D credit, a company's research activities must meet a four-part test involving permitted purpose, experimentation process, technical nature, and eliminating uncertainty. Companies must also substantiate their credits with documentation showing they meet the criteria and connect costs to activities. The IRS will not challenge certain expenses claimed by pharmaceutical

1. The House and Senate both have advanced legislation
that would not only extend, but enhance the credit.
The Senate bill would make up to $250,000 in R&D
credits refundable against payroll taxes for new
businesses with less than $5 million in gross receipts,
while the House bill would make the alternative
simplified credit permanent at an increased rate of
20%. So there’s hope the R&D credit becomes even
more generous in the future. For now, though, here
are the five things life sciences companies need to
know about the R&D credit:
1. Your research activity must satisfy a
four-part test
In order to qualify for the R&D credit, your research
activities must meet the standards laid out in a
four-part test:
• Permitted purpose — The purpose of your
research activity must be to create or improve the
functionality, performance, reliability, quality
or affordability of a product, process, technique,
invention, formula or computer software (unless
it’s internal-use software).
• Process of experimentation — The activity must
be a process of experimentation designed to
evaluate more than one alternative or hypothesis.
• Technical in nature — The research must be
technological in nature and fundamentally rely on
the principles of physical or biological sciences,
engineering or computer sciences.
• Elimination of uncertainty — The research
must be meant to eliminate uncertainty
concerning the development or improvement
of a business component.
2. It’s not enough to just do qualified research
You also must be able to prove to the IRS that you
did the research. That means substantiating your
credit with documentation. There is no bright-line
test for the required documentation in the tax code or
regulations, so each taxpayer must analyze their own
records. You’ll need documentation that:
• Shows that you meet the four-part test
• Shows that you don’t fall into one of
the exceptions
• Connects your costs to your activities
A good example is the issue of technical
uncertainty. It’s not enough to know that your
scientists or engineers had an uncertainty.
You’ll need to have documents as evidence that
the uncertainty existed.
Congress is deep in negotiations over the R&D credit, which represents one
of the most important tax incentives for life sciences companies. And while
the credit expired at the end of 2013, it is almost certain to be retroactively
reinstated sometime this year.
5 things life sciences companies need
to know about the R&D credit

2. 5 things life sciences companies need to know about the R&D credit
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3. Pharmaceutical companies can get audit
comfort early in the process
The IRS Large Business and International Division
has issued a directive that instructs examiners not to
challenge certain qualified research expenses (QREs)
claimed by pharmaceutical companies.
The directive applies to taxpayers developing new
pharmaceutical drugs and therapeutic biologics
who are in the discovery and preclinical stage or
clinical trial stage. The directive generally instructs
examiners not to challenge QREs from these two
stages if the taxpayer provides a certification
statement in which the taxpayer segregates the
amount of QREs in the first stage and the trial
stage development and agrees to retain and readily
provide underlying documentation upon request
of the IRS.
4. You can carry forward R&D credits up to
20 years
Many life sciences companies don’t expect to generate
any taxable income in their startup and development
phases. This doesn’t mean they should ignore the
R&D credit. Even if you have no current taxable
income and would get no benefit for the R&D credit
this year, you should still claim your credit because
it can be carried forward for 20 years. R&D credit
carryforwards can greatly reduce taxes after a drug or
device is approved and revenue explodes.
5. You can now claim the alternative simplified
R&D credit on an amended return
The IRS recently released temporary and final
regulations that offer taxpayers a new opportunity to
claim the alternative simplified research credit (ASC)
on an amended return. The ASC is an alternative to
the traditional R&D credit that offers a 14% credit
and relies on only three years of data. It relieves the
administrative burden that comes with claiming the
traditional credit for many taxpayers, but the IRS has
never before allowed the ASC to be claimed on an
amended return.
You are now permitted to claim the ASC on
an amended return, but the opportunity is only
available for open years in which no research
credit was previously claimed. If you claimed
a traditional research credit, you cannot now
amend to claim the ASC. The regulations provide
a tremendous opportunity for anyone who
performed a study and found no opportunity for
the traditional research credit in a prior year, but
may qualify for the ASC.
Contact
Alan Osmolowski
Partner
Corporate Tax Services
Grant Thornton LLP
T 508.926.2442
E alan.osmolowski@us.gt.com