The Four Tests That Must be satisfied in Order to Qualify an Activity for the R&D Tax Credit
There are four tests that must be satisfied in order to qualify an activity for the R&D Tax Credit:
- New or Improved Business Component (Product, Process, Software, Invention, or Formula). R&D activities must be related to at least one of the following:
- Functionality
- Performance
- Reliability, or
- Quality
- Elimination of Uncertainty: Uncertainty or risk is measured at the outset of the project. The activity must intend to eliminate uncertainties concerning the capability, methodology, or ultimate design during the development or improvement of a product, process, technique, invention, formulation, or software. In other words: Can we do it? How will we do it?
- Process of Experimentation: Does not necessarily have to be a formal process of experimentation and includes:
- Trial and Error
- Prototyping
- Modeling and simulation efforts
- Any process by which alternatives are evaluated to overcome technical uncertainty
- Technological in Nature: Activities must be based upon the principles of a hard science –
- Engineering
- Physical science
- Biological sciences, or
- Computer science
Important Notes
- These four tests are broadly written and potentially apply to a multitude of activities and industries.
- R&D activities don’t have to be brand new to the industry or the world, they simply need to be new to the taxpayer. In other words, evolutionary activities qualify the same as revolutionary activities.
- Projects do not need to be successful in order to qualify. Failure is the ultimate proof of the existence of technical uncertainty.