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Washington Tax Alert March 12, 2009 (Research credits under IRC § 41).

Washington Tax Alert from Don Barnes, dbarnes@washingtontaxlaw.com

March 12, 2009

The Tax Court issued a 298-page opinion this week in a case brought by Union Carbide Corporation in which the company argued that expenditures of $201.7 million incurred in 1994 and 1995 were qualified research expenditures for purposes of the research credit under IRC § 41. The Tax Court rejected Union Carbide's claims on various grounds. Union Carbide Corporation v. Commissioner , T.C. Memo. 2009-50. The decision is a huge win for the Government after ten years of litigation.

The Union Carbide case is an important case with broad application to many taxpayers. The Tax Court discussed many aspects of eligibility for the IRC § 41 credit, and applied the applicable requirements of the Code and regulations to specific projects and expenditures. The Tax Court also commented on the various assumptions and estimates made by the taxpayer in computing the credit. The expenditures at issue did not involve a new product, but rather new production processes for producing the taxpayer's products.

The R&D costs in dispute were incurred at Union Carbide's manufacturing plants, rather than at the company's research centers in West Virginia, New Jersey and other states. In addition, the IRC § 41 credits were not claimed on the company's original tax returns, but rather after conclusion of the IRS examination.

Many taxpayers have had research credit studies performed in recent years by accounting firms and other consultants. These studies may not hold up to IRS scrutiny in light of the Union Carbide case. These research credit studies should be reviewed and taxpayers' tax exposure reevaluated.