The 2019 IRS “Dirty Dozen” Tax Scams #9: Improper Claims for Business Credits

Next on the IRS Dirty Dozen list is the abuse of business tax credits, particularly the Fuel Tax Credit and the Research and Development (R&D) credit.

One of the keys to managing a successful business is to minimize taxes, but sometimes business owners take things too far. Some not only take improper business deductions, but also to claim tax credits that don’t necessary apply to them.

Here are two business tax credits that the IRS has been warning taxpayers about on just about every year’s Dirty Dozen list:

The Fuel Tax Credit

The fuel tax credit provides a dollar for dollar reimbursement of taxes paid on commercial uses of certain types of fuel, including gasoline, diesel fuel, kerosene, and alternative fuels that are used to power farm equipment, some types of boats, trains, airplanes, and other off-highway business vehicles and equipment. The credit is claimed by filing Form 4136, Credit for Federal Tax Paid on Fuels.

The Fuel Tax Credit is clearly not applicable to most taxpayers, but it still manages to be one of the most abused tax credits. It is misused by both business owners and by individuals that hire corrupt tax return preparers who use this credit to inflate their clients’ tax refunds.

Note that the IRS’s new screening technology is identifying many improper Fuel Tax Credit refund claims. The penalty is $5,000 for the frivolous tax claim, and often amounts to more than that, including criminal prosecution.

Research and Development (R&D) Credit

Initiated as part of the Economic Recovery Tax Act (ERTA), the goal of the R&D credit (26 U.S. Code § 41) is to provide an incentive for American companies to conduct research and increase their competitiveness in the global marketplace. Since 1981, this credit has been available to companies that develop new technologies, products, or materials, or which improve the performance or quality of existing ones. More than $10 billion in business R&D tax credits are issued annually.

The credit is claimed by attaching Form 6765, Credit for Increasing Research Activities, to the taxpayer’s annual return.The credit may also be used to offset the alternative minimum tax and up to $250,000 in payroll taxes each year.

To qualify for the R&D credit, the research must involve scientific experimentation in the physical or biological sciences, computer science or engineering, aimed at developing or improving a product or process. The research must be done to resolve a “technological uncertainty,” in a systematic matter, and must be evaluated and documented at the time the work is done. Any estimated costs must have a basis in fact. Research conducted after commercial production, research funded by business customers, and research aimed at adapting an existing product or process, are ineligible.

Improper claims for R&D credit involve the failure to satisfy the requirements noted above and/or to prove that the claimed expenses are connected to the research.