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Processing of R&D claims: January 2002.

In early January, the IRS's Large and Mid-Size Business Division requested Tax Executives Institute's comments on a proposal to centralize the processing of research tax credit claims in a single location (the Ogden Service Center) and possibly to require the filing of formal claims for refund (Forms 1120X) to effect a claim, rather than permitting an informal claim to be made during the course of the examination. In response to this request, TEI requested comments from members of its IRS Administrative Affairs Committee and other members of the Institute. The responses received, together with some concluding comments, were subsequently forwarded to the LMSB organization. They are reprinted below.

Response 1

The requirement of a formal claim seems to run counter to the desire to expedite issues and work cooperatively with taxpayers, particularly those under continuous audit. I haven't thought about this much, but we avoid 1120X like the plague due to the triggering of filing amended state returns. We save most things for the "Qualified Amended Return" at the start of the audit unless it could be significant dollar refund. Not sure if this would be different since it's a credit item, but nobody has time at year end to think about this. All companies are looking for cash, so a quick expedient way to process amounts is needed. Large case t/ps have probably had this issue looked at by their agents and it seems they should handle any refunds now due rather than adding a burdensome administrative requirement.

Response 2

Taxpayers in our area have been filing R&D Credit claims. I don't think a requirement to file a claim is an issue. [IRS Personnel] expressed concern about a flood of R&D Credit claims coming in as a result of the newly revised proposed regs. Most taxpayers did not agree with the discovery test etc. and probably would have been filing claims anyway. I would not expect a rush to occur.

Response 3

We won't be filing any claims. Our R&D is pretty straightforward. We really do have labs and guys in white coats. Most of our R&D projects are also done for FDA submissions. Our R&D would meet the requirements of the withdrawn regs. I'm thankful the documentation requirements were removed. We don't claim anything related to internal use software.

I don't have any issues with central processing, especially if the IRS thinks it will be more efficient.

Response 4

Filing a formal refund claim while under audit can be problematic. An officer must attest under penalties of perjury that the Form 1120X is true, correct and complete. Usually during an audit there are a number of issues in various stages of challenge -- first being questioned, following that there are negotiations, then correcting adjustments must be made that, in turn, impact other complicated tax calculations, such as inventory calculations and foreign tax credit calculations. Consequently, it is difficult to prepare an amended return prior to the completion of an examination and attest that it is true, correct and complete. Also, if you do file such an amended return and include items that are under challenge, most states require that amended state tax returns also be filed.

Many of us are always under audit, so requiring that formal refund claims be filed to claim the R&D credit will add a significant administrative burden.

Response 5

[Response 4] is classic "old school" thinking. Issues can only be resolved at the audit level when there is an element of trust on both sides. There clearly isn't any trust in [that] audit. I have signed 1120X forms many times without reworking things like Unicap and 861 impacts and can't believe the Service would assert penalties in that sort of case. They are simply trying to "get their arms around" what has to be the major consumer of audit resources from their standpoint ... a little taxpayer cooperation would go a long way. The claims are eventually worked into a tax computation by the field where all the collateral effects are considered. I think [Respondent 4] is in a dwindling minority on this one.

Response 6

[Response 5] describes the new paradigm of IRS audits that all would like to see. But, in addition to "old school" taxpayers exhibited in Response 4, are there "old school" agents who -- being deprived of the "discovery test" as a substantive argument to deny claims -- will insist on rigid adherence to the proper form of an 1120X claim as a means to deny (or avoid working) the R&D credit claim?

Also, the perception of administrative burden depends on a couple of factors: (1) how much is required of the taxpayer and (2) the degree of automation of the taxpayer's systems. The more "complete" the 1120X must be, the greater the need for an automated system to calculate the attendant consequential effects of the R&D claim. The fewer calculations (beyond identifying unclaimed expenditures and the incremental tax effect of the R&D claim) the taxpayer must perform, the more the burden issue can be defused.

Another issue is whether the taxpayer must affirmatively disclose unrelated issues in the 1120X format. Once a taxpayer is beyond the window at the opening of the audit, that's a sticky judgment call.

Response 7

I don't think that a taxpayer should have a beef with filing a formal claim for any affirmative issue. Sure, it's more convenient to handle informally with the exam team, but the claim shouldn't be that big of a deal.

Response 8

A requirement to file a formal claim, while generally not a problem and actually advisable, could have unwanted ramifications. Given the right set of circumstances, R&D claims for years with other unrelated open issues could result in a balance due on an 1120X. Since the tax on the 1120X is assessed when filed, the taxpayer would be required to pay tax with a claim for additional R&D credit. I have dealt with this situation by providing an informal claim to the exam and appeals teams, but stopping short of filing anything with the service center. A requirement to file a formal claim and pay tax on unrelated open issues mitigates the benefit of the additional R&D credit.

Response 9

Not sure what filing a 1120X gets the IRS that they could not get by simply having their own agents submit copies of the informal claims to a single person in the IRS/location for "oversight". Is this just more burden on us, for minimal benefit for all parties (my perception of benefit -- haven't heard the cost benefit justification yet)? Current process seems to work well and doesn't appear to be broken.

Response 10

I'm in favor of leaving the process as it currently is. It seems to work. The alternative just adds more work for everyone.

Response 11

I think the current process is OK; I do not recommend a change.

Response 12

As they say "If it ain't broke, don't try to fix it, cause it will just get screwed up!" In other areas the IRS has created lots of paperwork with no real benefit, only additional burden on taxpayers ... I can talk all day about some of them. I am in favor of leaving the process as it currently is and not requiring an 1120X unless the IRS can tell us why they need the paperwork of a formal claim. What possible benefit could be derived from filing one more form? We are under constant audit and they don't even bother to locate copies of our original filed returns, we always provide the exam team with copies on site at the beginning of the exam.

Response 13

I respectfully disagree with some of these responses. We have told the IRS in past meetings that one of the problems with R&D is that they are not consistent across the country in dealing with various taxpayers and different industries. I can see how centralizing the handling of paper in one place will give the National Office a first step in better managing these audits and handling issues on a consistent basis. On the other hand, if they are just going to throw the paper in a pile and call it a success, I would agree with [Respondent 12].

Response 14

As a matter of administrative policy, I don't think taxpayers should have to bear new and additional burdens unless the IRS can demonstrate a clear need for this. While I don't see this as a really big deal for taxpayers, the thrust of tax administration should be in the other direction -- to reduce burdens. This sort of requirement has a tendency to proliferate and should not be imposed unless there is a clear benefit to the process of tax administration.

Response 15

I don't see any big problem with filing an 1120X, although I agree with the previous comments about additional administrative burden. The real problem is Ogden. That's the service center that was supposed to centrally control interest netting claims. I recently received a notice from the IRS that said that, although they received the interest netting claim 3 YEARS EARLIER, and they try to respond <<quickly>> some issues are complex. That notice was from Ogden. If they send R&D claims to Ogden, 10 years will be required to resolve those significantly more complex issues. I am opposed to the IRS proposal for this reason.

Response 16

Most unfortunately, this is the only item that our local exam team has made it their mission to deny. I believe I have mentioned this at the past two [TEI] regional conferences. In fact this is the only item under examination in our current cycle. Therefore, any fresh claim would simply be assigned over to the exam team.

I think that the real issue here is what kind of guidance is going to be issued from above down to the field level. Our specialist indicated he does not agree with the regs as proposed, and he is still evaluating his options. I am of the opinion that uniformity of enforcement is more important than the mechanism to be used for making a claim.

Response 17

Expanding on what [Respondent 4] correctly said, I think most taxpayers think an 1120X carries the same responsibilities as an original 1120, meaning that in addition to the additional R&D credit the form must report any and all other changes and corrections the taxpayer may have become aware of during the period between original filing and filing of the 1120X, whether or not the IRS has hit upon them on audit, and all this under penalties of perjury. It remains unclear, I think, what level of taxpayer review is necessary to assure the 1120X is true, complete, and correct. So I think requiring an 1120X is a big deal.

Response 18

We have filed lots of 1120X's with no such repercussions. That said, perhaps we need an 1120XEZ or 1120XR&D that limits the perjury statement to the subject of the claim. I say this somewhat in jest but when you think about it if the Service is saying this is the one area where you will not be able to file informal claims, they would probably need a reg or a rev proc to implement, and that pronouncement could limit the scope of the penalties of perjury statement to the items specifically in the R&D claim.

Response 19

I have no issue with the IRS centralizing the processing of research tax credit claims in the Ogden Service Center. Maybe it is a good idea since the volume that they may handle will create efficiencies in their organization with respect to R&D credit claims processing. I personally do not think that requiring taxpayers to file formal claims for refund is a good idea. We rarely file claims for refund. Why should they single out R&D credit claims to be handled formally when other items can be and are handled informally? The IRS has never objected, to my knowledge, to receive audit adjustments as long as we do not give them the adjustments at the end of the audit and if they are well documented. A formal refund claim would not give the IRS any more insight into allowing or disallowing the claim for refund if done formally instead of informally. Plus, the taxpayer may have to spend extra non-beneficial time in preparing the claim for refund. A formal claim does not buy the IRS anything as I see it. I vote that formal claims does not help the IRS at all.

Response 20

I concur what seems to be the majority of the responses which is that there should not be a change to a formal request for an 1120X especially when there is an audit. Although we have not had R&D Credit Claim issues, I have found that the informal method is simpler and faster, minimizing the administrative paperwork.

Concluding Comments

TEI understands that the purpose of centralizing the processing of claims in a single service center is to permit the IRS to (quickly) assess its staffing/training needs. We assume that the IRS is concerned that the new regulations will prompt a slew of claims, perhaps not so much from CIC companies, but rather from companies in the LMSB middle market as well in the SBSE Division. Stated differently, larger companies long ago decided that challenging the discovery test was worth it, but less sophisticated ones may have been less reluctant to do so. In any event, many tax executives recognize that the IRS has an interest in determining how many claims it has to deal with, how many R&D specialists it may need to process them, and thus how it can deal with the challenge to tax administration posed by a rather significant change in the law.

That said, others remains skeptical. They worry that a potentially more sinister purpose of centralizing the filing of claims is to enable the IRS to quantify, sooner rather than later, "how much money is at stake" and, perhaps, to argue that the government "went too far" in revising the regulations. Is that a proper role for the IRS or is it more the purview of Treasury? (Does it matter?) In any event, one response is that the aggregate amount of claims represent no more than how much the prior (erroneous) interpretation of the statute has improperly denied taxpayers. Because paranoia runs deep in the heartland (as Neil Young once sang), if the IRS proceeds to centralize claims, it needs to be up front about why.

The diversity of views received from the request for comments suggests that there is no uniform practice or procedure in the field concerning the processing of Forms 1120X. Some taxpayers seem to live in fear that the signing of a Form 1120X will open them up to a game of perjury gotcha, whereas others seem much more sanguine; they have filed 1120Xs in the past (and worked them) without undue consequences. In our view, the IRS shouldn't impose needless requirements, and the informal claims process has worked well (from everyone's perspective). If the IRS believes the circumstances dictate a departure from prior practice, then perhaps consideration should be given to developing an 1120XEZ or 1120XR&D that limits the perjury statement to the subject of the claim.
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Publication:Tax Executive
Geographic Code:1USA
Date:Jan 1, 2002
Words:2567
Previous Article:Tax Executives Institute--Internal Revenue Service Large and Mid-Size Business Division liaison meeting; February 5, 2002.
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