| (a) Definitions. The following words and terms, when
used in this section, shall have the following meanings, unless the
context clearly indicates otherwise.
(1) Business component--A business component is any
product, process, computer software, technique, formula, or invention,
which is to be held for sale, lease, or license, or used by the taxpayer
in a trade or business of the taxpayer.
(2) Combined group--Taxable entities that are part
of an affiliated group engaged in a unitary business and that are
required to file a combined group report under Tax Code, §171.1014
(Combined Reporting; Affiliated Group Engaged in Unitary Business).
For more information about combined groups, see §3.590 of this
title (relating to Margin: Combined Reporting).
(3) Directly used in qualified research--Having an
immediate use in qualified research activity, without an intervening
or ancillary use.
(4) Four-Part Test--The test described in IRC, §41(d)
(Qualified research defined) that determines whether research activities
are qualified research. The four parts of the test are the Section
174 Test, the Discovering Technological Information Test, the Business
Component Test, and the Process of Experimentation Test.
(5) Franchise tax research and development activities
credit--A credit against franchise tax for qualified research activities
that is allowed under Tax Code, Chapter 171, Subchapter M (Tax Credit
for Certain Research and Development Activities).
(6) Internal Revenue Code (IRC)--The Internal Revenue
Code of 1986 in effect on December 31, 2011, excluding any changes
made by federal law after that date, but including any regulations
adopted under the code applicable to the tax year to which the provisions
of the code in effect on that date applied. A regulation adopted after
December 31, 2011 is only included in this term to the extent that
a taxpayer could have applied the regulation to the 2011 federal income
tax year. Examples of treasury regulations included in this definition
are:
(A) Treasury Regulation, §1.174-2 (Definition
of research and experimental expenditures) as contained in 26 CFR
part 1 (revised as of July 21, 2014);
(B) Treasury Regulation, §1.41-4 (Qualified research
for expenditures paid or incurred in taxable years ending on or after
December 31, 2003) as contained in 26 CFR part 1 (revised as of November
3, 2016), except for paragraph (c)(6) (Internal use software). For
paragraph (c)(6), as provided in the last sentence of Treasury Regulation, §1.41-4
(e) (Effective/applicability dates), taxpayers may elect to follow
either of the following versions of paragraph (c)(6):
(i) Treasury Regulation, §1.41-4(c)(6) (Internal-use
computer software) as contained in 26 CFR part 1 (revised as of April
1, 2003) and IRB 2001-5; or
(ii) Proposed Treasury Regulation, §1.41-4(c)(6)
(Internal use software for taxable years beginning on or after the
December 31, 1985) as contained in IRB 2002-4.
(7) Qualified research--This term has the meaning given
in IRC, §41(d), except that the research must be conducted in
Texas. Qualified research activities must satisfy each part of the
Four-Part Test.
(8) Registrant--A taxpayer who holds a Texas Qualified
Research Registration Number issued by the comptroller.
(9) Registration number--The Texas Qualified Research
Registration Number issued by the comptroller to a taxpayer who submits
the Texas Registration for Qualified Research and Development Sales
Tax Exemption form.
(10) Taxable entity--This term has the meaning given
by Tax Code, §171.0002 (Definition of Taxable Entity).
(b) Depreciable tangible personal property used in
qualified research.
(1) Subject to paragraph (2) of this subsection, the
sale, storage, or use of tangible personal property is exempt from
Texas sales and use tax if the property:
(A) has a useful life that exceeds one year;
(B) is subject to depreciation under:
(i) generally accepted accounting principles; or
(ii) IRC, §167 (Depreciation) or §168 (Accelerated
cost recovery system); and
(C) is sold, leased, rented to, stored, or used by
a taxpayer engaged in qualified research; and
(D) is directly used in qualified research. Depreciable
tangible personal property is directly used in qualified research
if it is used in the actual performance of activities that are part
of the qualified research. For example, machinery, equipment, computers,
software, tools, laboratory furniture such as desks, laboratory tables,
stools, benches, and storage cabinets, and other tangible personal
property used by personnel in the process of experimentation are directly
used in qualified research. Tangible personal property is not directly
used in qualified research if it is used in ancillary or support activities
such as administration, maintenance, marketing, distribution, or transportation
activities, or if it is used in activities excluded from qualified
research. For example, machinery and equipment used by administrative,
accounting, or clerical personnel are not directly used in qualified
research.
(2) A taxpayer may not claim the exemption if that
taxpayer will, as a taxable entity or as a member of a combined group,
claim a franchise tax research and development activities credit on
a franchise tax report based on the accounting period during which
the depreciable tangible personal property used in qualified research
would first be subject to Texas sales or use tax.
(3) A claim for a carryforward of an unused franchise
tax research and development activities credit under Tax Code, §171.659
(Carryforward) does not affect a taxpayer's ability, as a taxable
entity or as a member of a combined group, to claim the sales and
use tax exemption provided by paragraph (1) of this subsection.
(4) Property satisfies paragraph (1)(B) of this subsection
if it is subject to depreciation under generally accepted accounting
principles, IRC, §167, or IRC, §168 even if the taxpayer
does not actually depreciate that property.
(5) Property satisfies paragraph (1) of this subsection
only if it is tangible personal property subject to depreciation at
the time a taxpayer purchases it. For example, assume a taxpayer purchases
tangible personal property that is not subject to depreciation. The
taxpayer later incorporates that property into real property that
is subject to depreciation. Although the real property with the incorporated
tangible personal property is subject to depreciation, the tangible
personal property, on its own, was never subject to depreciation.
The tangible personal property does not satisfy paragraph (1) of this
subsection because it was never subject to depreciation as tangible
personal property.
(6) A taxpayer has the burden of establishing its entitlement
to the exemption by clear and convincing evidence, including proof
that the research activities meet the definition of qualified research
and applying the shrink-back rule described in subsection (c)(3) of
this section. All qualified research activities must be supported
by contemporaneous business records.
(7) An Internal Revenue Service audit determination
of eligibility for the federal research and development credit under
IRC, §41 (Credit for increasing research activities), whether
that determination is that the taxpayer qualifies or does not qualify
for the federal research and development credit, is not binding on
the comptroller's determination of eligibility for the exemption.
(c) Application of the Four-Part Test. Research activities
must satisfy each part of the Four-Part Test, as described in paragraph
(1) of this subsection, to be qualified research.
(1) Four-Part Test.
(A) Section 174 Test. Expenditures related to the research
must be eligible to be treated as expenses under IRC, §174 (Research
and experimental expenditures).
(i) Expenditures are eligible to be treated as expenses
under IRC, §174, if the expenditures are incurred in connection
with the taxpayer's trade or business and represent a research and
development cost in the experimental or laboratory sense. Expenditures
represent research and development costs in the experimental or laboratory
sense if they are for activities intended to discover information
that would eliminate uncertainty concerning the development or improvement
of a product. Uncertainty exists if the information available to the
taxpayer does not establish the capability or method for developing
or improving the product or the appropriate design of the product.
(ii) For the purposes of this test, the term "product"
includes any pilot model, process, formula, invention, technique,
patent, or similar property, and includes products to be used by the
taxpayer in its trade or business as well as products to be held for
sale, lease, or license.
(iii) Expenditures for the following are not eligible
to be treated as expenses under IRC, §174:
(I) land;
(II) depreciable property;
(III) the ordinary testing or inspection of materials
or products for quality control;
(IV) efficiency surveys;
(V) management studies;
(VI) consumer surveys;
(VII) advertising or promotions;
(VIII) the acquisition of another's patent, model,
production, or process; or
(IX) research in connection with literary, historical,
or similar projects.
(iv) Although expenditures for depreciable property
are not eligible to be treated as expenditures under IRC, §174,
those expenditures qualify for the purposes of the sales tax research
and development exemption, provided that the research activities otherwise
satisfy the Four-Part Test and are not excluded under subsection (d)
of this section.
(B) Discovering Technological Information Test. The
research must be undertaken for the purpose of discovering information
that is technological in nature.
(i) Research is undertaken for the purpose of discovering
technological information if it is intended to eliminate uncertainty
concerning the development or improvement of a business component.
Uncertainty exists if the information available to the taxpayer does
not establish the capability or method for developing or improving
the business component, or the appropriate design of the business
component.
(ii) In order to satisfy the requirement that the research
is technological in nature, the process of experimentation used to
discover information must fundamentally rely on principles of the
physical or biological sciences, engineering, or computer science.
A taxpayer may employ existing technologies and may rely on existing
principles of the physical or biological sciences, engineering, or
computer science to satisfy this requirement.
(iii) A determination that research is undertaken for
the purpose of discovering information that is technological in nature
does not require that the taxpayer:
(I) seek to obtain information that exceeds, expands,
or refines the common knowledge of skilled professionals in the particular
field of science or engineering in which the taxpayer is performing
the research; or
(II) succeed in developing a new or improved business
component.
(C) Business Component Test. The application of the
technological information for which the research is undertaken must
be intended to be useful in the development of a new or improved business
component of the taxpayer, which may include any product, process,
computer software, technique, formula, or invention that is to be
held for sale, lease, or license, or used by the taxpayer in a trade
or business of the taxpayer.
(i) If a taxpayer provides a service to a customer,
the service provided to that customer is not a business component
because a service is not a product, process, computer software, technique,
formula, or invention. However, a product, process, computer software,
technique, formula, or invention used by a taxpayer to provide services
to its customers may be a business component.
(ii) A design is not a business component because a
design is not a product, process, computer software, technique, formula,
or invention. While uncertainty as to the appropriate design of a
business component is a qualifying uncertainty for the Section 174
Test and the Discovering Technological information test, the design
itself is not a business component. For example, the design of a structure
is not a business component, although the structure itself may be
a business component. Similarly, a blueprint or other plan used to
construct a structure that embodies a design is not a business component.
(D) Process of Experimentation Test. Substantially
all of the research activities must constitute elements of a process
of experimentation for a qualified purpose. A process of experimentation
is undertaken for a qualified purpose if it relates to a new or improved
function, performance, reliability, or quality of a business component.
Any research relating to style, taste, cosmetic, or seasonal design
factors does not satisfy the Process of Experimentation Test.
(i) A process of experimentation is a process designed
to evaluate one or more alternatives to achieve a result where the
capability or the method of achieving that result, or the appropriate
design of that result, is uncertain as of the beginning of the taxpayer's
research activities.
Cont'd... |
