R&D tax incentives around the word.

• Author: Cupersmith, Adam S.

As of the writing of this item, Congress had not extended to 2012 the Sec. 41 credit for increasing research activities, more commonly referred to as the research and development (R&D) credit. Thus, the credit is not available for expenditures after Dec. 31, 2011. With the credit in limbo, it is an opportune time to reevaluate the entire system by looking at other countries' R&D tax incentives.

Many of these countries far exceed the United States in generosity of the subsidy. In fact, an Organisation for Economic Co-operation and Development (OECD) study that uses a single summary measure of the net tax subsidy in 38 OECD and industrialized countries found the United States ranked 24th in terms of the generosity of the subsidy in 2008 (see OECD, OECD Science, Technology and Industry Scoreboard, 2009, [section] 2.14 (OECD Publishing 2010)). It is important to note, however, there is not always a direct correlation between a government subsidy and business-level R&D spending. Often, a subsidy is introduced or amplified to stimulate growth to compensate for a weak business environment.

Because of the lost tax revenue, Congress has never made the R&D credit permanent but has extended it periodically or annually. Originally enacted in 1981, it was last extended (retroactively) on Dec. 17, 2010, for a two-year period for expenditures incurred prior to Jan. 1, 2012. The longest extension period was five years, enacted Dec. 17, 1999, effective July 1, 1999.

Usually, the credit has expired but been reenacted retroactively to the prior expiration date to prevent lapses in eligibility. There was only one "blackout" period when the credit lapsed for one year (July 1, 1995, through June 30, 1996). Retroactive renewal causes problems with financial statement accounting for income taxes (FASB Accounting Standards Codification Topic 740, Income Taxes, formerly FASB Statement No. 109, Accounting for Income Taxes) because the credit cannot be considered a tax asset until Sec. 41 has been renewed. For example, the R&D credit should not have been recognized as a tax asset for financial statement purposes for the first and second quarters of 2012 for calendar-year financial statements since the statute had not been extended past Dec. 31, 2011.

With the exception of the introduction of the alternative simplified credit (ASC) in 2006 and availability of the alternative incremental research credit (AIRC) from July 1, 1996, through Dec. 31, 2008, the calculation method or the definition of qualified research has changed little in more than 20 years. Instead of again "rubber stamping" an extension, Congress should look to other countries' programs for best practices on defining and implementing the R&D credit.

Administrative Complexity of the R&D Credit

The administrative and compliance burdens of the R&D credit in the United States have always been a problem. Since its inception, the R&D credit amount has been based on increasing research expenditures above a "base amount." This base amount calculation has evolved over the years and has been the source of many contentious tax audits. (Discussion of the mechanical rules for determining the base amount is beyond the scope of this item.) Although the AIRC and ASC simplified the administrative burden of calculating...