Surviving an IRS Audit – Qualifying Activities

By July 11, 2017 May 2nd, 2018 R&D Tax Credits
Qualified Research Activities (QRA) are an integral part of obtaining the Research and Development Tax Credit. In order for your company to optimize its R&D credits, it must have qualifying activities taking place within its business process.

Qualifying Activities

For an activity to qualify as a qualified research activity (QRA) it has to fulfill the “IRS Four-Part Test”. The “IRS Four-Part Test” has four requisites:

  • New or Improved Business Component
  • Technological in Nature
  • Elimination of Uncertainty
  • Process of Experimentation

If the development efforts don’t pass this test the IRS won’t consider the activity qualified for the R&D Tax Credit calculation. The activity doesn’t need to be highly technical, but it does need to be technical in capability, method and design. On the other hand, the development must be technical in nature and have a process of experimentation or it won’t pass the “IRS Four-Part Test” muster.

Non-Qualifying Activities

We often list activities that qualify, but it is equally important to know what does not in the eyes of the IRS. As mentioned above, a company’s activities must pass the “IRS Four Part Test” for it be considered a QRA for the R&D Tax Credit. The list below describes activities that are not considered qualified research:

  • Research after commercial production
  • Reverse engineering
  • Management activities, efficiency surveys and market research
  • Routing data collection and quality control
  • Internal-use software development that doesn’t meet the “High Threshold of Innovation” test
  • Studies related to efficiencies, operations and profitability
  • Foreign research
  • Research in the social sciences, arts or humanities
  • Trial runs that aren’t related to validation
  • Debugging flaws in a business component
  • Style or consumer taste research
  • Training
  • Installation
  • Funded research (except within a controlled group)
  • Duplication of an existing business component

If the taxpayer claims any of the activities listed above as a QRA, the IRS will throw them all out in the case of an audit.

Have more questions about your company’s qualifying activities? Visit the Indago website or send us an email at [email protected].