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Speaker Introduction

Lynn Mucenski-Keck, CPA, MST

Withum National Lead, Federal Tax Policy

Forbes Contributor

S Corporation Association Advisor

American Council of Engineering Companies Advisor

Testified as an expert witness for the House Committee on Small Business in April 2023

Contact Information:

lmucenskikeck@withum.com

(929) 379-4543

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Tax Relief for American Families and Workers Act of 2024�

Released a bipartisan tax framework that promotes Main Street businesses on Tuesday, January 16^th
The framework would allow for immediate R&E expensing incurred in tax years beginning after December 31, 2021.Instead, the bill would delay the 5-year domestic R&E capitalization requirement until taxable years beginning after December 31, 2025.

Highlight: The ability to delay capitalization requirements under the framework only relates to domestic R&E, not foreign R&E expenditures.

Also allows for a broader based (EBITDA) when calculating the interest expense limitation, 100% bonus depreciation, and 179 limitation increases

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Act Now!

The agreement is between the two Chairs, but respective ranking members and leadership support is still needed to pass the bill

The timing and process that the Senate could follow is not yet clear

Click on the following link to register your support: 2024 Tax Package Support Letter

Due by Thursday, January 18th

Contact your Senator!

FL Senators	Email	Phone Number
Marco Rubio (R)	Rubio	(202) 224-3041
Rick Scott (R)	Scott	(202) 224-5274

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Why the Change?

Due to the limited majority of Republicans at the time the TCJA passed in December of 2017, the tax legislation could only be passed via a budget reconciliation process, which requires only a simple majority.

Under the budget reconciliation process a bill cannot increase the deficit beyond a 10-year budget window.

Part of the budget reconciliation includes significant business changes to 163(j) interest expense limitation rules (starting in 2023) as well as the requirement to capitalize R&E expenditures (starting in 2022).

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Recap

As a result of the TCJA tax legislation in 2017, Taxpayers are required to capitalize and amortize their §174 R&E expenses over a 5-year period (or 15 year-period if attributable to foreign research).

EXTEND EXTEND EXTEND

So, can’t I just take the research credit qualified research expenditures and divide by 5?

No…it’s not that simple.

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R&E vs. R&D

R&E (§174): MORE BROADLY DEFINED

R&E Expenditure defined (Treas. Reg. §1.174-2(a)(1)): Expenditures represent research and development costs in the experimental or laboratory sense if they are for activities intended to discover information that would eliminate uncertainty concerning the development or improvement of a product. Uncertainty exists if the information available to the taxpayer does not establish the capability or method for developing or improving the product or the appropriate design of the product.

R&D (§41): MORE NARROWLY DEFINED

The term “qualified research expenses” means the sum of the following amounts which are paid or incurred by the taxpayer during the taxable year in carrying on any trade or business of the taxpayer—

In-house research expenses (i.e., Employee Wages or Supplies in conduct of qualified research)
Contract Research Expenses for Qualified Research

§174

§41

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It gets worse……

For the first taxable year of R&E capitalization, the domestic expenditures will be amortized over a 5-year period, but you must begin with the midpoint of the taxable year

Example: $1,000,000 or domestic R&E expenditures will only result in a $100,000 deduction (1,000,000/5*6/12)

Even if R&E expenditures are disposed of, retired, or abandoned the deduction cannot be accelerated and must continue the amortization period

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Notice 2023-63

Identify contract research agreements that could require Section 174 capitalization by the research provider: MODIFIED BY Notice 2024-12
Further defines expenditures not required to be capitalized under Section 174
Better analyze the treatment of software development costs under Section 174
Recognize the tax implications of disposing of, abandoning, or retiring Section 174 property

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Contract Research Agreements

Example:

Company C

Company D

C contracts D to develop an SRE product for a cost-plus arrangement

Additional Facts:

Activities undertaken by Company D are undertaken upon Company C’s order
Company D makes no performance guarantees
Company D does not have any right to use or otherwise exploit any resulting SRE product

Analysis:

Company D does not have to treat the expenditures it incurs to develop the SRE product on behalf of Company C as SRE expenditures under § 174 because:

Company D does not bear financial risk
Company D does not have any right to use or otherwise exploit any resulting SRE product

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Contract Research Agreements

Notice 2023-63 (September 2023)	Notice 2024-12 (December 2023)
Contract research is deemed to be provided if:	Contract research is NOT deemed to be provided if:
The contract researcher bears financial risk under the contract terms OR	if the contract researcher does not bear financial risk AND
The contract researcher has a right to use any resulting R&E products in their trade or business or otherwise exploit any resulting R&E products through sale, lease, or license	obtains an excluded product right separately bargained for by the contract researcher (a product right that arose from consideration other than the cost paid or incurred by the research provider to perform the R&E expenditures) or was acquired for the limited purpose of performing R&E activities under that contract or another contract with the contractee

IRS has confirmed that R&E expenditures include not only the costs paid or incurred by the taxpayer for research or experimentation undertaken directly by the taxpayer but also expenditures paid or incurred for R&E carried out on their behalf by another person or organization.

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§174 Expenditure Clarification�

§174 Expenditures	NOT §174 Expenditures
Labor costs	General and administrative service department or function costs (e.g., payroll, human resources, accounting)
Materials and supplies	Interest costs on debt to finance SRE activities
Cost recovery allowances (e.g., depreciation) of property used in the performance of R&E	Costs incurred for non-development computer software activities
Costs of obtaining a patent	Costs to input content into a website
Certain operation and management costs (e.g., rent, utilities, insurance, taxes, repairs & maintenance) for facilities	Website hosting costs paid to an internet service provider
Travel costs for the performance of SRE activities	Costs to register trademarks or internet domain names
	Amortization of research or experimental expenditures paid or incurred in tax years beginning before January 1, 2022

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Disposition, retirement or abandonment of property

If a corporation ceases to exist for federal income tax purposes in a transaction described in IRC Section 381(a), the acquiring corporation will continue to amortize the distributor or transferor corporation's unamortized R&E expenditures over the remainder of the distributor or transferor corporation's applicable IRC Section 174 amortization period, beginning with the month of transfer.

Section 332 (relating to liquidations of subsidiaries)
Section 361 (relating to nonrecognition of gain or loss to corporations) applies, but only if the transfer is in connection with Section 368(a)(1)(A), (C), (D), (F), or (G) reorganization

If a corporation ceases to exist for federal income tax purposes in a transaction to which IRC Section 381(a) does not apply, the corporation may deduct the unamortized R&E expenditures in its final tax year

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Disposition, retirement or abandonment of property

A disposition of R&E property (i.e. IRC Section 351 transaction) does not trigger an acceleration of the deduction of the transferor's unamortized R&E expenditures, and the unamortized R&E expenditure in not included when computing the transferor's gain or loss on the transfer

The general rule disallowing accelerated recovery of the property's unamortized SRE expenditure applies to:

property of a partnership that is a party to a merger, consolidation, division, or liquidation, or that otherwise terminates, or
property that is contributed to, distributed from or transferred by a partnership

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What can I do if my business over (or under) capitalized 174 expenditures in the 2022 taxable year?

Rev Proc 2024-9, provides procedures that allow taxpayers to obtain automatic consent to change their method of accounting for expenditures paid or incurred in tax years beginning after December 31, 2021, due to the interim IRS guidance issued.

If a taxpayer did not attempt to adjust for Section 174 R&E expenditures in relation to their 2022 taxable year, the taxpayer could still file an automatic method change for the 2023 taxable year. However, no audit protection will be provided for Section 174 R&E expenditures that were ignored in the 2022 taxable year.

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Coordination of Section 174 R&E Capitalization and Section 41 Research Credit

Section 174: Deduction at arriving at taxable income

Temporary Item


Gross Receipts	$1,000,000
R&E expenditures	($116,000)
Taxable Income	$884,000
Tax Liability	$185,640

Section 41: Dollar-for-dollar reduction in tax liability

Permanent Item


Gross Receipts	$1,000,000
R&E expenditures	($116,000)
Taxable Income	$884,000
Tax Liability	$185,640
Research Credit	100,000
Tax Due	$85,640

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To elect or not elect 280C?

Adjustment to 280C(c) for taxable year starting after December 31, 2021

If the amount of the R&D credit exceeds the amount allowable as a deduction for such taxable year for qualified research expenses or basic research expenses, the amount chargeable to capital account for the taxable year for such expenses are reduced by the amount of such excess (Section 280C(c)).

Based on the plain wording (and no additional guidance) it would indicate the R&D credit amount no longer is required to reduce current year expenses even if the election to reduce the R&D credit is NOT made

The election to claim a reduced research credit, once made for any taxable year, is irrevocable for that year.

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Do you make a 280C election?�

	NO ELECTION	280C(c)(2)ELECTION
Gross Receipts	$1,000,000	$1,000,000
R&E expenditures	($116,000)	($116,000)
Taxable Income	$884,000	$884,000
Tax Liability	$185,640	$185,640
Research Credit	$100,000	$79,000 (100,000 – (100,000 x 21%)
Tax Due	$85,640	$106,640

By Making the 280C(c)(2) Election The Business Lost $21,000!

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