- 21 -
v. Commissioner, 416 U.S. 500 (1974). The Court held that
section 174 allowed deductions for R&D expenditures not only for
“on-going” and established businesses, but also for new
businesses despite the fact that no trade or business was being
conducted at the time the expenses were incurred.15 Id.
This expansive interpretation allowing R&D deductions for
expenses incurred prior to engaging in a trade or business is
tempered by the requirement that there must be a “realistic
prospect” that the taxpayer will subsequently enter into a trade
or business utilizing the technology developed. Diamond v.
Commissioner, 92 T.C. 423, 439 (1989), affd. 930 F.2d 372 (4th
Cir. 1991); see I-Tech R&D Ltd. Pship. v. Commissioner, T.C.
Memo. 2001-10, affd. sub nom. Lewin v. Commissioner, ___ Fed.
Appx. ___ (4th Cir. 2003). “If those prospects are not
realistic, the expenditures cannot be ‘in connection with’ a
business of the taxpayer” so as to satisfy section 174. Spellman
v. Commissioner, 845 F.2d 148, 149 (7th Cir. 1988), affg. T.C.
Memo. 1986-403. “Whether activities in connection with a product
15In Commissioner v. Groetzinger, 480 U.S. 23, 36 (1987),
the Court stated that to determine whether or not an income-
producing endeavor constitutes a trade or business “‘requires an
examination of the facts in each case.’” (quoting Higgins v.
Commissioner, 312 U.S. 212, 217 (1941)). “We accept the fact
that to be engaged in a trade or business, the taxpayer must be
involved in the activity with continuity and regularity and that
the taxpayer’s primary purpose for engaging in the activity must
be for income or profit. A sporadic activity, a hobby, or an
amusement diversion does not qualify.” Id. at 35.
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