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TAX CLINIC

In light of recent IRS enforcement ef-
forts, corporations should take action to
defend against the potential imposition Now, with FAA 20214101F, the IRS has once
of the accumulated earnings tax. Specifi- again revised its examination approach
cally, corporations can guard against any for research credit claims, leveraging the
such action both by contemporaneously
documenting how they will use their ac- specificity requirement to reject claims that do
cumulated earnings and investments and not meet its guidelines.
by paying sufficient dividends to share-
holders. Further, corporations should
be mindful that personal loans or non- harks back to recordation requirements Perhaps partly in response to the de-
dividend advances made to shareholders of the late 1990s and early 2000s. mise of the substantive documentation
or other commonly owned businesses On Dec. 2, 1998, the IRS published requirements, the IRS in 2002 labeled
out of surplus earnings could suggest a notice of proposed rulemaking relat- research credit cases as an IRS Appeals
that the corporation is avoiding paying ing to the research credit, with specific coordinated issue (ACI), which meant
dividends to its shareholders. Taxpayers documentation requirements. In these that any settlement offer or closing
should consult a tax adviser to determine proposed regulations, the IRS claimed agreement that Appeals proposed had
how (and whether) the points raised in that the documentation required for the to be approved by the research credit
this item apply to their specific situation. credit would not change taxpayer behav- Appeals technical guidance coordinator.
From Eric D. Brauer, J.D., LL.M. ior but would “identify taxpayers who One apparent result of the new process
(Eric.Brauer@rsmus.com), and engage in a bona fide process of experi- was that IRS exam agents increasingly
Mark A. Schneider, J.D., LL.M. mentation and thus may be eligible for turned over more of their work to Ap-
(Mark.Schneider@rsmus.com), the credit” (preamble, REG-105170-97, peals. This in turn led to a backlog, and
Washington, D.C. Explanation of Provisions, Documenta- so in 2010 the IRS introduced a pilot
tion). The proposed regulations did so program temporarily granting several
by requiring that, for an R&D tax credit Appeals team case leaders the authority
Credits Against Tax claim, the taxpayer must include the re- to resolve some research credits without
cording of the results of the experiments review and concurrence. The plan was to
An early 21st century history (Prop. Regs. Sec. 1.41-4(a)(5)(iii)). permanently expand the pilot program
of IRS efforts to police the These proposed regulations were to more Appeals officers (Elliott, “IRS
R&D credit modified in the January 2001 final regu- Appeals Chief Discusses Details of

The IRS has struggled and vacillated in lations to minimize the documentation Research Credit Appeals,” 128 Tax Notes
its various attempts since 2000 to police burden on taxpayers but still required 591 (Aug. 9, 2010)).
the Sec. 41 research and development that “taxpayers must prepare and retain A few years after the ACI designa-
(R&D) credit. At the turn of the 21st written documentation before or during tion for the credit, the IRS designated
century, the Service issued regulations the early stages of the research project R&D credits (along with other tax
with significant documentation require- that describes the principal questions matters) as a Tier 1 issue — i.e., an issue
ments. Then, in 2007, it labeled the topic to be answered and the information the of high strategic importance that the
a “Tier 1” issue. And each year from taxpayer seeks to obtain that exceeds, ex- IRS asserted had a significant impact on
2016 to 2019, it placed the matter on its pands, or refines the common knowledge one or more industries (IRS Large and
annual “Dirty Dozen” list. Most recently, of skilled professionals in the relevant Mid-Sized Business (LMSB) Division,
after years of trying to perform costly field of science or engineering” (pre- Industry Issue Focus (March 2007)).
and lengthy audits of R&D tax credits, amble, T.D. 8930, Explanation of Provi- For the various Tier 1 issues, the IRS
the IRS on Oct. 15, 2021, issued Field sions, V. Recordkeeping Requirement). hoped to increase coordination and
Attorney Advice (FAA) 20214101F, While these requirements were rejected executive oversight to ensure examina-
which attempts to require specific and in proposed regulations issued in Febru- tion coverage, consistent development,
extensive documentation for any R&D ary 2001 (REG-112991-01) and 2004 and issue resolution by issuing in April
credit refund claim. The IRS has at- final regulations (T.D. 9104), they dem- 2007 “Rules of Engagement” Internal
tempted to review and audit R&D credit onstrated the IRS’s specific vision of the Revenue Manual (IRM) amendments
claims through various techniques and documentation required to sufficiently for LMSB examinations (IRM §4.51.1).
strategies over the years, and the FAA support an R&D credit claim. The tiered approach focused on national

10 April 2022 The Tax Adviser