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Tax Court Decision: Documentation Required for Federal Research and Development Tax Credit

Recently, in Siemer Milling Company v. Commissioner of Internal Revenue (T.C. Memo. 2019-37), the United States Tax Court (the Court) reviewed the Commissioner’s claims that Siemer Milling did not properly document their 2011 and 2012 federal research and development (R&D) tax credit under section 41. The Court found in favor of the Commissioner and disallowed 100% of Siemer Milling’s 2011 and 2012 R&D tax credits.

Background

Siemer Milling is an Indiana-based company that claimed the federal R&D tax credits. In this case, the Court disallowed over $238,000 of R&D tax credits between 2011 and 2012 relating to several projects conducted in connection to Siemer’s business of milling and selling flour.
The Commissioner argued several points, but the area in which the Court found the Commissioner’s point most compelling was the process of experimentation. The Commissioner argued that Siemer Milling lacked evidence that they “formulated or tested hypotheses or engaged in modeling, simulation, or systematic trial and error…Nor is there any evidence that (Siemer Milling) evaluated alternatives”. The Court agreed, stating that “while Siemer states that it engaged in a process of experimentation, there is little record to support this assertion…Because Siemer has not shown that it engaged in a process of experimentation, it also cannot show that substantially all of the activities for which it claimed the credits were a part of a process of experimentation”.

Key Takeaway: Proper Documentation is Required Substantiation

The Internal Revenue Service is already using Siemer Milling’s findings regarding the lack of proper documentation in current R&D tax credit examinations. This case serves as an important reminder to all taxpayers claiming the R&D tax credit that sufficient substantiation of the credit is equally as important as the proper calculation of the credit. If a taxpayer is claiming the R&D tax credit, they need to be able to support that their R&D projects meet all aspects of the 4-part test, otherwise they risk the IRS entirely disallowing their R&D tax credit claim. The question here was not related to whether there was qualified R&D activity being performed by the taxpayer but more so to the lack of substantiation.

Withum is here to help

As discussed, this ruling stresses proper documentation is required. Withum is here to help you determine eligibility for the R&D tax credit, pursuing the credit, or if you have any questions regarding a previously claimed R&D tax credit.

Author: Tanya Donnelly | tdonnelly@withum.com

For more information on this topic , please contact a member of Withum’s R&D Tax Credit Group by filling out the form below.

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