Case Study

Calculating the R&D Credit In House Can Be Costly

Client Background: 

A $200M food equipment manufacturer with a history of claiming the Research Tax Credit (RTC) conducted an in-house study that included costs related to the Engineering department. The methodology used for the study was a costing/accounting basis, where the financials drove the inclusion of costs as qualified research expenses (QREs) alone.

The client agreed that they did not have any technical substantiation to support the annual credit claim, and were limited with respect to identifying departments outside of their core engineering team. Their Engineering department is comprised of 25 degreed engineers. DST conducted a detailed scope out assessment and determined that the taxpayer’s credit should be at least 35% higher than what was being claimed. 

Client Benefit:

On average, the taxpayer was claiming $350,000 of net federal credits annually.  DST was engaged to conduct a full study for the current tax year, where the client had already run their credit calculation exercise, resulting in just under $400,000 of federal credits being calculated. Throughout the study process, DST was able to engage several departments beyond the engineering group, who had been the historical group included in the prior claims. The result was a net federal credit of $820,000 – double what the taxpayer identified in-house.

DST Methodology:

DST worked towards achieving the following goals:

  1. increase reach into several departments who were directly engaged in qualified activities or supporting the activities,
  2. discover if a change in calculation method could be achieved through record keeping, documentation, and financials,
  3. compile a strong technical study filled with contemporaneous documentation, and engineering facts.  

DST conducted site visit tours and multiple conference calls with the various departments and was successfully able to engage additional employees and verify that they were spending time on qualified research activities. In addition, DST was able to ascertain that these individuals had ample contemporaneous documentation to support their level of activity.  In some cases, the qualified business component was outside of the engineering group’s scope.  This led to increased QREs to be picked up for purposes of the credit computation. 

During the assessment phase, DST discovered that the facts of the taxpayer were aligned with the possibility of changing their selected calculation method. During the course of conducting the study, it was confirmed that the nature of financial and technical record-keeping was in great shape. DST worked with the technical subject matter experts (SMEs) and the tax department, to obtain and review tax returns, financial records, patents, and laboratory notebooks (signed and dated). Technical interviews with engineers allowed for credible testimony to be included as evidence, linking the facts to the records. DST was able to build a strong base period and establish and substantiate a strong nexus between the QRAs and QREs from the base period. This detailed effort builds the foundation for a very advantageous credit methodology for years to come.

The final deliverable was science and engineering-based, incorporating strong contemporaneous documentation to illustrate a strong nexus of QRAs and the required 4-Part Test.  This methodology is a strong starting point for future years and allows for increased compliance and efficient interactions with the various departments. 

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