What Are R&D Tax Credits?
The R&D tax credit is a federal credit under Internal Revenue Code (IRC) §41 that rewards businesses for spending money on qualified research domestically, meaning in the United States, Puerto Rico, or a U.S. possession. The credit reduces the income tax you owe dollar-for-dollar, and in specific cases, smaller companies may be able to use it against their payroll taxes.
Any business, in any industry, may qualify for the R&D credit if its activities satisfy the four-part test and its related costs meet the definition of qualified research expenses (QREs), provided it documents the work in a proper study and files the correct forms.
What Is the R&D Tax Credit?
The research credit, also called the research and development tax credit or the credit for increasing research activities, lives in IRC §41. Congress enacted the credit in 1981 to encourage U.S. companies to invest in domestic research and development. The Protect Americans from Tax Hikes (PATH) Act of 2015 made the credit permanent.
A tax credit lowers the tax a taxpayer owes, dollar for dollar, which is different from a deduction, which lowers the income the taxpayer reports. That distinction explains why a well-supported claim can matter so much to a growing company.
One note on terms: §41(d)(1)(A) now points to §174A, which governs domestic research or experimental expenditures. For credit purposes, the practical take here is: your research work and your spending must meet the §41 tests, and your tax advisor should confirm how the §174A rules affect your return.
The Four-Part Test for Qualified Research
IRC §41(d)(1) and Treas. Reg. 1.41-4(a) set out four requirements, and your activity must meet all four to qualify for the R&D tax credit.
• Permitted purpose. Does the work aim to develop a new or improved business component? A business component is a product, process, computer program, technique, formula, or invention that you hold for sale, lease, or license, or use in your trade or business. The research must relate to a new or improved functionality, performance, reliability, or quality. Research relating only to style, taste, cosmetic, or seasonal design factors does not meet this requirement.
• Technological in nature. Does the work fundamentally rely on principles of the physical or biological sciences, engineering, or computer science? Research in the social sciences, arts, or humanities does not qualify, and activities such as market research and management techniques are specifically excluded.
• Elimination of uncertainty. At the start of the research, did the information available to you leave uncertainty about the capability or method for developing or improving the business component, or its appropriate design? If the available information already established the capability, method, and appropriate design, this requirement is not met.
• Process of experimentation. Did you identify and evaluate one or more alternatives intended to resolve that uncertainty through modeling, simulation, testing, prototyping, systematic trial and error, or another evaluative process? Under the regulations, substantially all—80% or more—of the research activities with respect to the business component, measured on a cost or other consistently applied reasonable basis, must constitute elements of a process of experimentation for a qualified purpose.
Applying the test to each business component
The IRS looks at the four-part test one business component at a time, not at the taxpayer as whole. A production process you develop counts as its own business component under §41(d)(2), and if the full component doesn’t pass, the regulations allow a “shrinking-back approach” under Treas. Reg. 1.41-4(b)(2). This means that the four-part test is applied to the most significant subset of elements and continues to be narrowed until the taxpayer identifies the part that does qualify.
What does not qualify
§41(d)(4) excludes several categories, even if the work is technical. Some common examples include:
• Research conducted after commercial production begins, including certain production-related activities such as tooling up, trial production runs, routine troubleshooting, production data collection, and debugging. This does not prevent later research to develop a new or improved business component from qualifying.
• Adapting an existing business component to a particular customer's requirement or need. The exclusion does not apply merely because a new or improved business component is being developed for a specific customer.
• Duplicating an existing business component by reproducing it from physical examination, plans, blueprints, detailed specifications, or publicly available information.
• Surveys, studies, market research, routine data collection, and routine or ordinary quality-control testing.
• Research conducted outside the United States.
• Funded research. Research may be excluded when another party funds the work, depending on the terms of the agreement, including who bears the financial risk and whether the researcher retains substantial rights in the research results.
What Courts Say About Qualifying Research
Taxpayers generally bear the burden of proving entitlement to the credit. Simply put: it’s not enough to just state that research happened; the taxpayer must connect specific activities and expenses to the requirements of §41 with evidence that the courts can evaluate. Three cases that show what this looks like in practice:
1. Siemer Milling Co. v. Commissioner, T.C. Memo. 2019-37.
Siemer claimed the credit for projects involving flour heat treatment, process improvements, wheat varieties, and other product and process work. The Tax Court analyzed the projects against the §41 requirements and ultimately found that Siemer had not established that its claimed expenses were qualified research expenses. The important lesson is that technical activity alone does not establish eligibility. A taxpayer needs evidence showing what business component it was developing, what uncertainty it faced, what technological principles were involved, and how it evaluated alternatives through a process of experimentation.
2. Union Carbide Corp. v. Commissioner, 697 F.3d 104 (2d Cir. 2012).
The company conducted qualified research during normal manufacturing and sought to include the cost of raw materials used in that production. The Second Circuit rejected the broader claim, holding that supplies the company used in the conduct of production regardless of the research were not qualified research expenses merely because research occurred during the production run. The practical lesson is that taxpayers need to distinguish research costs from ordinary production costs and maintain records capable of supporting that distinction.
3. George v. Commissioner, T.C. Memo. 2026-10. This recent case involving poultry-production trials provides an unusually clear illustration of why contemporaneous evidence matters. The taxpayer claimed credits for seven groupings involving matters such as feed additives, vaccines, probiotics, and broiler genetics. The Tax Court allowed some claimed research while rejecting other portions where the evidence did not establish that the activities satisfied §41 requirements. The court was particularly concerned with distinguishing genuine research from routine production data that was later characterized as research during preparation of the credit study. The lesson is not simply “keep documentation,” but rather that records created while the work is being performed can help prove that an experiment really was an experiment rather than a research narrative reconstructed after the fact.
The lesson across all cases remains consistent. Good research alone does not win a claim; good research tied to specific business components and supported by contemporaneous records does, regardless of whether it is highly scientific record keeping or notes kept on what was being worked towards, why, and how it was attempted.
What Counts as a Qualified Research Expense (QRE)?
Qualified research expenses are the costs that feed the credit calculation, and §41(b) lists four types.
1. Wages. Taxable wages under §3401(a) for employees who perform qualified services, which means doing the research, directly supervising the research, or directly supporting the research.
2. Supplies. Tangible property you use and consume in the research, such as raw materials, prototype components, and test samples. Land, buildings, and depreciable equipment in the hands of the taxpayer do not qualify.
3. Contract research. Generally, a taxpayer can claim 65% of what they pay an outside party to perform qualified research on their behalf. The rate rises to 75% for qualified research consortia, and certain energy research can reach 100%.
4. Computer rental. Under IRC §41(b)(2)(A)(iii) and Treas. Reg. §1.41-2(b)(4), the computer has to be owned and operated by someone other than you, located off your premises, and you can’t be its primary user. This type of QRE can cover software or cloud computing costs and should be examined closely.
Overhead, rent, utilities, marketing, and general administrative costs will not qualify, nor do wages of employees who have no connection to the research.
How the R&D Tax Credit is Calculated
§41 gives two ways to calculate the credit.
Regular credit
The regular credit is calculated as 20% of the amount by which current-year QREs exceed the base amount. The base amount depends on the fixed-base percentage (capped at 16%) times the average gross receipts for the four prior years, and it cannot fall below 50% of the current year’s QREs.
Alternative simplified credit
The ASC is calculated as 14% of QREs that exceed 50% of the average QREs for the three prior years. If the business had no QREs in any one of those three years, the rate drops to 6% of current-year QREs.
A comparison
Hypothetical illustration (mechanics only, assumed numbers)
These figures are invented to show how each method works. Which method produces the larger credit depends on your receipts, your research history, and your growth pattern. Run both calculations before you choose.
Can Companies With No Tax Bill Still Benefit?
Many early-stage companies lose money, and that fact does not shut them out. Two rules apply to this situation:
• Payroll tax offset for qualified small businesses. A business with less than $5 million in gross receipts that had no gross receipts before the five-year period ending with the current year can elect to apply up to $500,000 of the credit per year against employer payroll taxes, for up to five years. The election is made on Form 6765 with a timely filed original return, including extensions. The offset is claimed on Form 8974, beginning with the first calendar quarter after the return is filed.
• Carryback and carryforward. Under §39, you can carry unused credits back one year and forward 20 years.
Records and Form 6765
The R&D tax credit requires completion of Form 6765, Credit for Increasing Research Activities, which is attached to the taxpayer’s return. Section G of the form asks about business components, and under current instructions, revised in December 2025, Section G is optional for tax years pre-2026 and required for later years, with limited exceptions. The form lets businesses report components that account for at least 80% of the taxpayer’s QREs or up to 50 components.
Regulation 1.41-4(d) requires records that support the credit, which can include the following:
• Project lists with goals, technical uncertainties, and the alternatives tested
• Design documents, test results, prototypes, source code commits, and lab notes
• Payroll records connecting employees to projects
• Invoice and contracts for supplies and/or outside researchers
For amended returns, the IRS expects a refund claim to identify all business components, describe activities, and give totals for wages, supplies, and contract QREs. The IRS has waived certain extra information for claims filed after June 18, 2024, so it is important to continuously refer to the IRS page to ensure the credit claim is documented properly.
Frequently Asked Questions
Is the R&D tax credit only for large companies?
No. IRC §41 contains no size requirement. Businesses of all sizes claim the credit, and qualified small businesses have a payroll tax option as well.
Does my business have to be profitable to claim the credit?
No. If you have no income tax liability you may be able to use the payroll tax offset, or carry the credit forward under §39.
Can I claim the credit if the project failed?
Yes, in many cases. The statute looks at whether there was a process of experimentation to eliminate uncertainty, not whether the project succeeded.
What is the four-part test?
The test asks whether the work has a permitted purpose, is technological in nature, aims to eliminate uncertainty, and uses a process of experimentation. All four of these elements must be met to qualify.
Which expenses count as qualified research expenses?
Wages for qualified services, supplies used in the research, a portion of contract research costs, and certain computer rental costs.
Can I amend a prior year return to claim the credit?
Often yes, within the statute of limitations. Work with your CPA and a credit specialist to confirm eligibility and the information the IRS requires for refund claims.
What form is used to file?
Form 6765, Credit for Increasing Research Activities, which is filed with your regular return. Qualified small businesses also use Form 8974 for the payroll tax offset.
What records should I keep for the R&D tax credit?
Documents that connect people, projects, and costs to the research. Even if they are not overly scientific, any notes that relate to your activities will help.
If you have any questions, concerns, or want to inquire about whether your company qualifies, please reach out for a risk-free consultation.
What Are R&D Tax Credits?
The R&D tax credit is a federal credit under Internal Revenue Code (IRC) §41 that rewards businesses for spending money on qualified research domestically, meaning in the United States, Puerto Rico, or a U.S. possession. The credit reduces the income tax you owe dollar-for-dollar, and in specific cases, smaller companies may be able to use it against their payroll taxes.
Any business, in any industry, may qualify for the R&D credit if its activities satisfy the four-part test and its related costs meet the definition of qualified research expenses (QREs), provided it documents the work in a proper study and files the correct forms.
What Is the R&D Tax Credit?
The research credit, also called the research and development tax credit or the credit for increasing research activities, lives in IRC §41. Congress enacted the credit in 1981 to encourage U.S. companies to invest in domestic research and development. The Protect Americans from Tax Hikes (PATH) Act of 2015 made the credit permanent.
A tax credit lowers the tax a taxpayer owes, dollar for dollar, which is different from a deduction, which lowers the income the taxpayer reports. That distinction explains why a well-supported claim can matter so much to a growing company.
One note on terms: §41(d)(1)(A) now points to §174A, which governs domestic research or experimental expenditures. For credit purposes, the practical take here is: your research work and your spending must meet the §41 tests, and your tax advisor should confirm how the §174A rules affect your return.
The Four-Part Test for Qualified Research
IRC §41(d)(1) and Treas. Reg. 1.41-4(a) set out four requirements, and your activity must meet all four to qualify for the R&D tax credit.
• Permitted purpose. Does the work aim to develop a new or improved business component? A business component is a product, process, computer program, technique, formula, or invention that you hold for sale, lease, or license, or use in your trade or business. The research must relate to a new or improved functionality, performance, reliability, or quality. Research relating only to style, taste, cosmetic, or seasonal design factors does not meet this requirement.
• Technological in nature. Does the work fundamentally rely on principles of the physical or biological sciences, engineering, or computer science? Research in the social sciences, arts, or humanities does not qualify, and activities such as market research and management techniques are specifically excluded.
• Elimination of uncertainty. At the start of the research, did the information available to you leave uncertainty about the capability or method for developing or improving the business component, or its appropriate design? If the available information already established the capability, method, and appropriate design, this requirement is not met.
• Process of experimentation. Did you identify and evaluate one or more alternatives intended to resolve that uncertainty through modeling, simulation, testing, prototyping, systematic trial and error, or another evaluative process? Under the regulations, substantially all—80% or more—of the research activities with respect to the business component, measured on a cost or other consistently applied reasonable basis, must constitute elements of a process of experimentation for a qualified purpose.
Applying the test to each business component
The IRS looks at the four-part test one business component at a time, not at the taxpayer as whole. A production process you develop counts as its own business component under §41(d)(2), and if the full component doesn’t pass, the regulations allow a “shrinking-back approach” under Treas. Reg. 1.41-4(b)(2). This means that the four-part test is applied to the most significant subset of elements and continues to be narrowed until the taxpayer identifies the part that does qualify.
What does not qualify
§41(d)(4) excludes several categories, even if the work is technical. Some common examples include:
• Research conducted after commercial production begins, including certain production-related activities such as tooling up, trial production runs, routine troubleshooting, production data collection, and debugging. This does not prevent later research to develop a new or improved business component from qualifying.
• Adapting an existing business component to a particular customer's requirement or need. The exclusion does not apply merely because a new or improved business component is being developed for a specific customer.
• Duplicating an existing business component by reproducing it from physical examination, plans, blueprints, detailed specifications, or publicly available information.
• Surveys, studies, market research, routine data collection, and routine or ordinary quality-control testing.
• Research conducted outside the United States.
• Funded research. Research may be excluded when another party funds the work, depending on the terms of the agreement, including who bears the financial risk and whether the researcher retains substantial rights in the research results.
What Courts Say About Qualifying Research
Taxpayers generally bear the burden of proving entitlement to the credit. Simply put: it’s not enough to just state that research happened; the taxpayer must connect specific activities and expenses to the requirements of §41 with evidence that the courts can evaluate. Three cases that show what this looks like in practice:
1. Siemer Milling Co. v. Commissioner, T.C. Memo. 2019-37.
Siemer claimed the credit for projects involving flour heat treatment, process improvements, wheat varieties, and other product and process work. The Tax Court analyzed the projects against the §41 requirements and ultimately found that Siemer had not established that its claimed expenses were qualified research expenses. The important lesson is that technical activity alone does not establish eligibility. A taxpayer needs evidence showing what business component it was developing, what uncertainty it faced, what technological principles were involved, and how it evaluated alternatives through a process of experimentation.
2. Union Carbide Corp. v. Commissioner, 697 F.3d 104 (2d Cir. 2012).
The company conducted qualified research during normal manufacturing and sought to include the cost of raw materials used in that production. The Second Circuit rejected the broader claim, holding that supplies the company used in the conduct of production regardless of the research were not qualified research expenses merely because research occurred during the production run. The practical lesson is that taxpayers need to distinguish research costs from ordinary production costs and maintain records capable of supporting that distinction.
3. George v. Commissioner, T.C. Memo. 2026-10. This recent case involving poultry-production trials provides an unusually clear illustration of why contemporaneous evidence matters. The taxpayer claimed credits for seven groupings involving matters such as feed additives, vaccines, probiotics, and broiler genetics. The Tax Court allowed some claimed research while rejecting other portions where the evidence did not establish that the activities satisfied §41 requirements. The court was particularly concerned with distinguishing genuine research from routine production data that was later characterized as research during preparation of the credit study. The lesson is not simply “keep documentation,” but rather that records created while the work is being performed can help prove that an experiment really was an experiment rather than a research narrative reconstructed after the fact.
The lesson across all cases remains consistent. Good research alone does not win a claim; good research tied to specific business components and supported by contemporaneous records does, regardless of whether it is highly scientific record keeping or notes kept on what was being worked towards, why, and how it was attempted.
What Counts as a Qualified Research Expense (QRE)?
Qualified research expenses are the costs that feed the credit calculation, and §41(b) lists four types.
1. Wages. Taxable wages under §3401(a) for employees who perform qualified services, which means doing the research, directly supervising the research, or directly supporting the research.
2. Supplies. Tangible property you use and consume in the research, such as raw materials, prototype components, and test samples. Land, buildings, and depreciable equipment in the hands of the taxpayer do not qualify.
3. Contract research. Generally, a taxpayer can claim 65% of what they pay an outside party to perform qualified research on their behalf. The rate rises to 75% for qualified research consortia, and certain energy research can reach 100%.
4. Computer rental. Under IRC §41(b)(2)(A)(iii) and Treas. Reg. §1.41-2(b)(4), the computer has to be owned and operated by someone other than you, located off your premises, and you can’t be its primary user. This type of QRE can cover software or cloud computing costs and should be examined closely.
Overhead, rent, utilities, marketing, and general administrative costs will not qualify, nor do wages of employees who have no connection to the research.
How the R&D Tax Credit is Calculated
§41 gives two ways to calculate the credit.
Regular credit
The regular credit is calculated as 20% of the amount by which current-year QREs exceed the base amount. The base amount depends on the fixed-base percentage (capped at 16%) times the average gross receipts for the four prior years, and it cannot fall below 50% of the current year’s QREs.
Alternative simplified credit
The ASC is calculated as 14% of QREs that exceed 50% of the average QREs for the three prior years. If the business had no QREs in any one of those three years, the rate drops to 6% of current-year QREs.
A comparison
Hypothetical illustration (mechanics only, assumed numbers)
These figures are invented to show how each method works. Which method produces the larger credit depends on your receipts, your research history, and your growth pattern. Run both calculations before you choose.
Can Companies With No Tax Bill Still Benefit?
Many early-stage companies lose money, and that fact does not shut them out. Two rules apply to this situation:
• Payroll tax offset for qualified small businesses. A business with less than $5 million in gross receipts that had no gross receipts before the five-year period ending with the current year can elect to apply up to $500,000 of the credit per year against employer payroll taxes, for up to five years. The election is made on Form 6765 with a timely filed original return, including extensions. The offset is claimed on Form 8974, beginning with the first calendar quarter after the return is filed.
• Carryback and carryforward. Under §39, you can carry unused credits back one year and forward 20 years.
Records and Form 6765
The R&D tax credit requires completion of Form 6765, Credit for Increasing Research Activities, which is attached to the taxpayer’s return. Section G of the form asks about business components, and under current instructions, revised in December 2025, Section G is optional for tax years pre-2026 and required for later years, with limited exceptions. The form lets businesses report components that account for at least 80% of the taxpayer’s QREs or up to 50 components.
Regulation 1.41-4(d) requires records that support the credit, which can include the following:
• Project lists with goals, technical uncertainties, and the alternatives tested
• Design documents, test results, prototypes, source code commits, and lab notes
• Payroll records connecting employees to projects
• Invoice and contracts for supplies and/or outside researchers
For amended returns, the IRS expects a refund claim to identify all business components, describe activities, and give totals for wages, supplies, and contract QREs. The IRS has waived certain extra information for claims filed after June 18, 2024, so it is important to continuously refer to the IRS page to ensure the credit claim is documented properly.
Frequently Asked Questions
Is the R&D tax credit only for large companies?
No. IRC §41 contains no size requirement. Businesses of all sizes claim the credit, and qualified small businesses have a payroll tax option as well.
Does my business have to be profitable to claim the credit?
No. If you have no income tax liability you may be able to use the payroll tax offset, or carry the credit forward under §39.
Can I claim the credit if the project failed?
Yes, in many cases. The statute looks at whether there was a process of experimentation to eliminate uncertainty, not whether the project succeeded.
What is the four-part test?
The test asks whether the work has a permitted purpose, is technological in nature, aims to eliminate uncertainty, and uses a process of experimentation. All four of these elements must be met to qualify.
Which expenses count as qualified research expenses?
Wages for qualified services, supplies used in the research, a portion of contract research costs, and certain computer rental costs.
Can I amend a prior year return to claim the credit?
Often yes, within the statute of limitations. Work with your CPA and a credit specialist to confirm eligibility and the information the IRS requires for refund claims.
What form is used to file?
Form 6765, Credit for Increasing Research Activities, which is filed with your regular return. Qualified small businesses also use Form 8974 for the payroll tax offset.
What records should I keep for the R&D tax credit?
Documents that connect people, projects, and costs to the research. Even if they are not overly scientific, any notes that relate to your activities will help.
If you have any questions, concerns, or want to inquire about whether your company qualifies, please reach out for a risk-free consultation.
Your Project Failed. What Does That Mean For Your R&D Tax Credit?
A failed project may still qualify for the R&D tax credit. The Treasury regulations state that the ultimate success or failure does not automatically qualify or disqualify whether its development costs count as research expenditures. Before you write off a shelved prototype, a scrapped software build, or a formulation that was never launched, find out whether the work behind it qualifies.
