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Qualified Research Expenses: Internal Revenue Code & Treasury Regulation Authority 

IRC 41 Qualified Research Expense (QRE): General Background 

IRC § 41(b)(1) defines, in general, QREs as the sum of of the following amounts which are paid or incurred by the taxpayer during the taxable year in carrying on any trade or business of the taxpayer:

(1) "in-house research expenses" and

  • Section 41(b)(2) defines in-house research expenses as:

  • any "wages" paid or incurred to an employee for "qualified services" performed by such employee;​

    • IRC § 41(b)(2)(B) provides in general the term “qualified services” means services consisting of—

      • (i) engaging in qualified research, or

      • (ii) engaging in the direct supervision or direct support of research activities which constitute qualified research. 

      • If "substantially all" of the services performed by an individual for the taxpayer during the taxable year consists of services meeting the requirements of clause (i) or (ii), the term “qualified services” means all of the services performed by such individual for the taxpayer during the taxable year.

      • § 1.41-2(d) wages paid for qualified services provides

        • (1)In general. Wages paid to or incurred for an employee constitute in-house research expenses only to the extent the wages were paid or incurred for qualified services performed by the employee. If an employee has performed both qualified services and nonqualified services, only the amount of wages allocated to the performance of qualified services constitutes an in-house research expense. In the absence of another method of allocation that the taxpayer can demonstrate to be more appropriate, the amount of in-house research expense shall be determined by multiplying the total amount of wages paid to or incurred for the employee during the taxable year by the ratio of the total time actually spent by the employee in the performance of qualified services for the taxpayer to the total time spent by the employee in the performance of all services for the taxpayer during the taxable year.

        • (2) “Substantially all.” Notwithstanding paragraph (d)(1) of this section, if substantially all of the services performed by an employee for the taxpayer during the taxable year consist of services meeting the requirements of section 41(b)(2)(B) (i) or (ii), then the term “qualified services” means all of the services performed by the employee for the taxpayer during the taxable year. Services meeting the requirements of section 41(b)(2)(B) (i) or (ii) constitute substantially all of the services performed by the employee during a taxable year only if the wages allocated (on the basis used for purposes of paragraph (d)(1) of this section) to services meeting the requirements of section 41(b)(2)(B) (i) or (ii) constitute at least 80 percent of the wages paid to or incurred by the taxpayer for the employee during the taxable year.

  • any amount paid or incurred for "supplies" used in the conduct of "qualified research”;

  • under regulations prescribed by the Secretary, any amount paid or incurred to another person for the right to use computers in the conduct of qualified research.


(2) "contract research expenses”.

  • Section 41(b)(3) defines "contract research expenses" as 65 percent of any amount paid or incurred by the taxpayer to any person (other than an employee of the taxpayer) for qualified research. If an expense is not set forth in section 41(b), a taxpayer may not claim the expense as a QRE.

§ 41(d)(1) and § 1.41-4(a)  provides in general, “qualified research” means research research activities related to the development or improvement of a business component (e.g. product, processes, technique) meet all of the requirements of section 41(d)(1) —and are not otherwise excluded under section 41(d)(3)(B) or (d)(4) — with respect to which expenditures may be treated as research only if

  • With respect to which expenditures may be treated as expenses under section 174 and § 1.174-2

  • that is undertaken for the purpose of discovering information—which is technological in nature;

  • the application of which is intended to be useful in the development of a new or improved business component of the taxpayer, and

  • "substantially all" of the activities of which constitute elements of a process of experimentation that relates to a qualified purpose. § 1.41-4(a)(6) states when applying the  "substantially all" requirement. in order for activities to constitute qualified research under section 41(d)(1), substantially all of the activities must constitute elements of a process of experimentation that relates to a qualified purpose.

    • The "substantially all" requirement of section 41(d)(1)(C) and paragraph (a)(2)(iii) of this section is satisfied only if 80 percent or more of a taxpayer's research activities, measured on a cost or other consistently applied reasonable basis (and without regard to section 1.41-2(d)(2)), constitute elements of a process of experimentation for a purpose described in section 41(d)(3).

      • Accordingly, if 80 percent (or more) of a taxpayer's research activities with respect to a business component constitute elements of a process of experimentation for a purpose described in section 41(d)(3), the substantially all requirement is satisfied even if the remaining 20 percent (or less) of a taxpayer's research activities with respect to the business component do not constitute elements of a process of experimentation for a purpose described in section 41(d)(3), so long as these remaining research activities satisfy the requirements of section 41(d)(1)(A) and are not otherwise excluded under section 41(d)(4).

      • The substantially all requirement is applied separately to each business component.​

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