Now and later: GAAP vs. tax treatment of the reinstated R&D credit.

• Author: McCumber, Aryn
• Position: Generally accepted accounting principles, research and development tax credit

Congress has sometimes retroactively enacted or extended tax provisions, such as the retroactive reinstatement to Jan. 1, 2012, and modification of the research tax credit (R&D credit) in Sec. 41 by the American Taxpayer Relief Act of 2012 (ATRA), EL. 112-240, on Jan. 2, 2013. The R&D credit had expired on Dec. 31, 2011. The late reinstatement of the credit has a key effect on the U.S. GAAP treatment of the R&D credit on businesses' 2012 financial statements.

Although an in-depth discussion on the constitutionality of retroactive legislation is beyond the scope of this item, ATRA's enactment brings the issue of retroactive tax legislation to the forefront.

Basic Principles of the R&D Credit

Sec. 41 provides a "credit for increasing research activities." A general business tax credit for companies that conduct research in the United States to develop or improve their products, manufacturing processes, and software, the R&D credit was originally introduced by the Economic Recovery Tax Act of 1981, P.L. 97-34. Since the credit's original expiration on Dec. 31, 1985, it has been extended 15 times, usually after it had expired (Congressional Research Service, Research Tax Credit: Current Law, Legislation in the 113th Congress., and Policy Issues (Feb. 1, 2013)).

The R&D credit is designed to spur growth through innovation by enabling taxpayers with research-related expenditures to receive a credit against their regular income tax liability for a portion of qualified expenses. Eligible expenses include taxable wages (Sec. 41(b)(2)(D)), the cost of supplies (Sec. 41(b)(2)(C)), payments to certain contractors (Sec. 41(b)(1)(B)), basic research payments (Sec. 41(e)(2)), and energy research payments (Sec. 41(a)(3)).

The R&D credit allows for two calculation methods, the regular credit and the alternative simplified credit (ASC). The regular credit is 20% of the taxpayer's qualified research expenditures (QREs) that exceed a calculated "base amount." The ASC generally equals 14% of the QREs that exceed .50% of the average of the QREs for the three prior tax years. Under the regular credit method, the base amount cannot be less than 50% of the taxpayer's current-year QREs.

A thorough explanation of the various types of calculations, definitions, and requirements for claiming the R&D credit is beyond the scope of this item. However, a brief example using the credit can shine light on financial reporting issues of retroactive tax law changes.

Example...