The recent MBJ v. Commissioner ruling highlights the important role of contract language in determining eligibility for Research and Development (R&D) Credits. MBJ, a structural engineering firm, had $190,000 in credits disallowed due to inadequate contract language.

Although MBJ’s contracts allowed for phase inspections and termination for substantial failure to perform, they lacked explicit provisions making payments contingent on the success of R&D efforts or refunding payments if the client found the work deficient.

Key Takeaways:

1. Inspections and Termination Clauses are Insufficient: Having provisions for inspections and approval of work, as well as allowing for termination due to negligence or failure to perform, is not enough to qualify work as unfunded research if payments are not directly tied to research success.
2. Fixed Price Contracts Do Not Guarantee Qualification: Fixed price contracts do not meet the criteria for unfunded research.
3. Clearly Define Product Specifications: Contracts should explicitly outline expected product specifications.
4. Tie Payments To R&D Success: Contracts should explicitly state that payments are contingent on the success of R&D efforts.

A thorough contract review process is essential for anyone claiming R&D Tax Credits on contracted work. Ensure your provider conducts a detailed review of your contracts and includes supporting documentation in their reports, outlining the findings and justification for qualifying or disqualifying your contracted work.

ICS Tax, LLC (ICS) is a consulting firm providing innovative tax planning strategies. ICS collaborates with taxpayers and their tax professionals to identify credits and incentives that reduce tax liabilities and increase profitability. ICS provides nationwide service through its offices located throughout the country. Contact us to learn more about the R&D Tax Credit.