- 59 - 3. The Seven Tests The parties agree that the combination of section 41 and the conference report accompanying the TRA 1986 results in a total of seven tests that taxpayers must satisfy to obtain the R&E credit with respect to qualified research in the development of internal use software:34 (1) The section 174 test (the research expenditures must qualify as expenses under section 174);35 (2) the discovery test (the research must be undertaken for the purpose of discovering information which is technological in nature); (3) the business component test (the research must be undertaken for the purpose of discovering information the application of which is intended to be useful in the development of a new or improved business component of the taxpayer); (4) the process of experimentation test (substantially all of the activities which constitute elements of a process of experimentation must relate to a new or improved function, performance, reliability, or quality); (5) the innovativeness test (the software must be innovative (as where the software results in a reduction in cost, or improvement in speed, that is substantial and economically significant)); 34 Tax credits are a matter of legislative grace, and the taxpayer bears the burden of proving entitlement to the credits. Rule 142(a); Interstate Transit Lines v. Commissioner, 319 U.S. 590, 593 (1943); Segel v. Commissioner, 89 T.C. 816, 842 (1987). 35 Sec. 41(d)(1)(A) provides that "qualified research" means research "with respect to which expenditures may be treated as expenses under section 174". We believe that the statutory phrase "may be treated as expenses under section 174" means that the expenditures must "qualify" for the deduction under sec. 174. See infra.Page: Previous 49 50 51 52 53 54 55 56 57 58 59 60 61 62 63 64 65 66 67 68 Next
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