Changes enacted under the 2017 Tax Cuts and Jobs act are now fully in effect for tax years beginning after December 31, 2021. One of the key changes, along with required amortization of research and experimentation expenses, were changes to the 280C election. Previously, if a taxpayer chose not to make the 280C election it was required to reduce its research expense deduction by the amount of the credit being generated. Many taxpayers chose to make the 280C election as it prevented any impacts to foreign, state, or local taxable income. However, due to changes in the Tax Cuts and Jobs Act, taxpayers will need to closely examine whether the 280C election provides the optimal benefit.
The amendment to 280C(c)(2) now reads:
“If the amount of the research credit exceeds the amount allowable as a deduction for such taxable year for qualified research expenses or basic research expenses, the amount chargeable to capital account for the taxable year for such expenses is reduced by the amount of such excess.”
In short, if the amount of the research credit does not exceed the amount of the Section 174 research and experimentation deduction for the current taxable year, no adjustment is made to the research credit, the allowable Section 174 research and experimentation deduction, or the capitalized asset. If the research credit does exceed the Section 174 research and experimentation deduction, the capitalized asset is to be reduced by the excess of the credit over the year’s Section 174 research and experimentation deduction.
Taxpayer has $100,000 of Section 174 research expenses
Current year deduction $10,000 (100,000/5*.5)
Capitalized asset $90,000 (100,000-10,000)
Research credit amount $5,000
In this situation no adjustment is to be made as the credit ($5,000) is less than the current year Section 174 deduction ($10,000).
If the Taxpayer made the 280C election, the credit amount would be $3,950 (5,000-(5,000*21% tax rate). Again, no adjustment would be required but the taxpayer would be paying an additional $1,050 in tax.
Given the irrevocable nature of 280C, and the impact of Section 174 research and experimentation expense amortization, it continues to be recommended that taxpayers should delay filing their returns for as long as possible. There is wide ranging support from taxpayers, the AICPA, and many industry groups to repeal 174 amortization and we remain hopeful action will be taken prior to the extended filing deadline. This month the bipartisan Innovation and Jobs Act was introduced which would repeal the changes to Section 174 amortization.