On June 21, 2024, the Internal Revenue Service (IRS) released an early draft of revised Form 6765, Credit for Increasing Research Activities. Following the release of the September 2023 draft Form 6765 which dramatically increased the informational and substantiation requirements to claim the research credit, there was significant public feedback, and the IRS has indicated this latest draft is intended to alleviate some of those taxpayer burdens identified during the public comment period. Although the draft reduces the scope of the business component detail required as well as provides relief to certain small business taxpayers, the information still required reflects a significant shift in the level of detail required to claim the research credit. Taxpayers and practitioners alike should review this latest draft to ensure the appropriate level of detail is being collected and maintained to satisfy the updated requirements.

Overview

Section G of the updated draft requests the business component detail that must be reported with original return filings. Previously, these additional informational requirements were added to the form in Section F by the September 2023 update; Section F of the latest draft now requires quantitative information to calculate a taxpayer’s qualified research expenses (QREs).

More substantively, the IRS reduced the number of business components that must be reported on Section G. Taxpayers should report 80% of total QREs in descending order by the amount of total QREs per business component, but no more than 50 business components (with special instructions for taxpayers using the ASC 730 directive who can report ASC 730 QREs as a single line item on Section G). The amount of information that must be provided with respect to the reduced number of business components on Section G has also been reduced from the September 2023 draft. The IRS eliminated whether a business component is new or improved, a sale, license, or lease, and the narrative requirement (for original returns) that describes the information sought to be discovered. Further, the selections for the type of business component are reduced.

In addition to reducing the scope of business component detail required in Section G, the IRS decided to make Section G optional for qualified small business taxpayers which checked the box to claim a reduced payroll tax credit, as well as taxpayers with QREs equal to or less than $1.5 million, determined at the control group level, and equal to or less than $50 million of gross receipts, claiming a research credit on an original filed return.

Although the revised Section G will be optional for filers for the 2024 tax year, the IRS indicated Section G will be effective for 2025 and beyond.

Eversheds Sutherland Observation The changes to the form arise from an IRS examination effort to minimize amended returns involving Section 41. The draft form imposes similar supporting documentation with originally filed returns.

It is unclear how the draft form will be reconciled with the position of the IRS set forth in authoritative guidance including regulations and other published guidance. For example, Treasury Regulation §1.41-4(d) and the requirements thereunder permit significantly greater breadth in the documentation that may be relied on to substantiate Section 41 research credits. According to the preamble accompanying these regulations, the IRS and Treasury noted that the regulations reflect a significant revision to the substantiation requirements from earlier proposed regulations, which included vastly more significant documentation requirements.¹ In explaining the reasoning for reduced substantiation requirements, the IRS and Treasury explained, “taxpayers must be provided with reasonable flexibility regarding the manner in which they substantiate their research credits. . . . [and] failure to keep records in a particular manner . . . cannot serve as a basis for denying the credit.”² Additionally, the regulations provide that the IRS and taxpayers may agree to certain recordkeeping guidelines to facilitate “compliance and administration.”

Notwithstanding the published position of the IRS, the draft Form 6765 marks a continued effort by the Large Business &International Division of the IRS to impose specific substantiation requirements for research credit claims under Section 41. Although the amount of information that must be provided with respect to business components has been reduced, it nonetheless imposes significant reporting requirements on large public companies. Further, it is not clear whether the revised changes to Form 6765 are consistent with Revenue Procedure 2011-42, which permits taxpayers with a large volume of research and development projects to use statistical sampling to reduce the burden on taxpayers and examination teams. Statistical sampling enhances the efficient review of research and development projects for both the government as well as taxpayers.

Over the past few years, commenters and stakeholders alike have requested the issuance of proposed regulations regarding the substantiation requirements rather than changes to the draft Form 6765 in hopes that the required notice and comment period would generate meaningful discussion between the IRS and stakeholders.

Importantly, the IRS statement noted that draft forms often have some additional changes before their final release.

Ultimately, the updates to Form 6765 indicate that the IRS is seeking to require a heightened level of documentation and increased record keeping requirements for the Section 41 research credit, which is contemporaneously governed by published regulations regarding required documentation. Large public companies that do not qualify for the exceptions to the increased reporting requirements will be burdened by these new administrative requirements.

1 T.D. 8930 (12/28/2000).

2 66 Fed. Reg. 66,366 (2001).

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