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IRS Issues Temporary Regulations on Research Credit Allocation for Controlled Groups.

(Parker Tax Publishing April 21, 2015)

The IRS has issued temporary and proposed regulations adopting the amendments made by the American Taxpayer Relief Act of 2012 (ATRA) to the allocation of the Code Sec. 41 research credit among controlled group members. The text of the temporary regulations also serves as the text of the proposed regulations. T.D. 9717; REG-133489-13.

Code Sec. 41 ATRA Amendments

For years beginning before January 1, 2012, Code Sec. 41 provides that the incremental tax credit for increasing research activities (research credit) allowable to a controlled group member is its proportionate shares of the qualified research expenses, basic research payments, and amounts paid or incurred to energy research consortiums (collectively, QREs) giving rise to the credit. All members of a controlled group are treated as a single taxpayer for purposes of computing the research credit for the group and this group credit is computed by applying all of the Code Sec. 41 computational rules on an aggregate basis (Code Sec. 41(f)(1); Reg. Sec. 1.41-6(b)).

Controlled groups are required to allocate the group credit in proportion to each member's stand-alone entity credit (Reg. Sec. 1.41-6(c)(1)(i)). For these purposes, a controlled group member's stand-alone entity credit is the research credit that would be allowable to that member if the credit were computed as if the aggregation rule did not apply, and instead applying the rules provided in Reg. Sec. 1.41-6(d)(1) (relating to consolidated groups) and Reg. Sec. 1.41-6(i) (relating to intra-group transactions).

The American Taxpayer Relief Act of 2012 (ATRA) amended Code Sec. 41(f)(1)(A)(ii) and Code Sec. 41(f)(1)(B)(ii) to provide that the group credit is allocated to group members based on a member's share of QREs, without regard to whether the member would have a stand-alone entity credit or what the amount of any such credit would be. These amendments apply to tax years beginning after December 31, 2011.

Changes Made by the Temporary and Proposed Regulations

The temporary and proposed regulations in T.D. 9791 and REG-133489-13 implement ATRA's changes to the allocation of the controlled group research credit by revising the allocation methods in Reg Secs. 1.41-6(c), (d), and (e). Rec Sec. 1.41-6T(c) provides an allocation method that follows the approach taken in Notice 2013-20, which provided that the group credit is allocated to group members based on each member's share of QREs, without regard to whether the member would have a stand-alone entity credit or what the amount of any such credit would be. Reg. Sec. 1.41-6T(d) provides that the group credit is allocated to group members based on a member's proportionate share of the controlled group's aggregate QREs, and clarifies that members are no longer required to calculate a stand-alone entity credit.

The temporary regulations also provide new examples in Reg. Sec. 1.41-6T(e). The first example illustrates a general application of the allocation method provided in the temporary regulations:

Example: AlphaCo, BetaCo, and CharlieCo are a controlled group. AlphaCo had $100,000, BetaCo had $300,000, and CharlieCo had $500,000 of qualified research expenses for the year, totaling $900,000 for the group. AlphaCo, in the course of its trade or business, also made a payment of $100,000 to an energy research consortium for energy research. The group's QREs total $1,000,000 and the group calculated its total research credit to be $60,000 for the year. Based on each member's proportionate share of the controlled group's aggregate QREs, AlphaCo is allocated $12,000, BetaCo $18,000, and CharlieCo $30,000 of the credit.

The second example demonstrates an allocation under the temporary regulations where a consolidated group is treated as a single member of a controlled group pursuant to Reg. Sec. 1.41-6T(d):

Example: The controlled group's members are DeltaCo, EchoCo, FoxCo, GolfCo, and HotelCo. FoxCo, GolfCo, and HotelCo file a consolidated return and are treated as a single member (FGH) of the controlled group. DeltaCo had $240,000, EchoCo had $360,000, and FGH had $600,000 of qualified research expenses for the year ($1,200,000 aggregate). The group calculated its research credit to be $100,000 for the year. Based on the proportion of each member's share of QREs to the controlled group's aggregate QREs for the taxable year, DeltaCo is allocated $20,000, EchoCo $30,000, and FGH $50,000 of the credit. The $50,000 of credit allocated to FGH is then allocated to the consolidated group members based on the proportion of each consolidated group member's share of QREs to the consolidated group's aggregate QREs. FoxCo had $120,000, GolfCo had $240,000, and HotelCo had $240,000 of QREs for the year. Therefore, FoxCo is allocated $10,000, GolfCo is allocated $20,000, and HotelCo is allocated $20,000.

In addition, the temporary regulations add a new section to provide an allocation method for controlled groups eligible for the railroad track maintenance credit (RTMC) under Code Sec. 45G that is consistent with the changes made to the research credit allocation methods.

The regulations are effective as of April 3, 2015.

For a discussion of the computation of the research credit for controlled groups, see Parker ¶104,940. (Staff Editor Parker Tax Publishing)

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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