Qualified research expenses (QREs) are the costs that may be taken into account in computing the federal R&D tax credit under Section 41. They are distinct from qualified research — which describes whether the activity qualifies — and not every cost related to a research project is automatically a QRE.
Qualified Research Expenses in Plain English
The credit is computed using qualified research expenses associated with qualified research activities. The Treasury Regulations under Section 41 (§1.41-2) and the Instructions for Form 6765 identify the categories of costs that may be taken into account. At a high level, the traditional categories are certain in-house employee wages, certain supplies, and certain contract research expenses. The Instructions for Form 6765 also address how these expenses are reported, including business-component-level detail.
Qualified Research vs. Qualified Research Expenses
These two concepts are related but distinct:
- Qualified research describes whether the activity may qualify under the four-part test in Section 41(d). See our pages on qualified research and the four-part test.
- Qualified research expenses describe the costs that may be taken into account in computing the credit for qualifying activities.
An activity can potentially be qualified research without every associated cost being a QRE, and a cost can fall within a recognized category without the underlying activity qualifying. Both the activity and the cost must meet the applicable requirements.
Employee Wages
Certain wages paid to employees who perform or directly support qualified research may be taken into account as QREs. The Treasury Regulations describe in-house research expenses as including wages paid to employees for engaging in qualified research and for directly supporting such research.
Not all of an employee's wages are automatically includable. Only the portion of wages attributable to performing or directly supporting qualified research activities is generally considered, and employees whose work is only indirectly related generally do not qualify. Supervisory or support time may be included only where it directly supports qualified research and meets the applicable rules. The regulations also require that the expense be paid or incurred in carrying on a trade or business of the taxpayer. For a deeper look, see our page on R&D tax credit employee wages.
Supplies
Certain supplies consumed or used in the conduct of qualified research may be taken into account. The Treasury Regulations address supplies in the context of in-house research expenses. Supplies generally do not include land or property subject to depreciation, and the treatment of particular items depends on the applicable rules.
Not every item purchased for a project is a qualifying supply. Supplies must be connected to qualified research activities, and items that are capitalized, depreciated, or used outside qualified research generally are not automatically includable. For more, see our page on R&D tax credit supplies.
Contract Research
Certain amounts paid for contract research — research conducted on behalf of the taxpayer by another person — may be taken into account. The Treasury Regulations (§1.41-2) address contract research expenses, including the requirement that the taxpayer bear the financial risk of the research and have rights to the results. The regulations provide for a reduced inclusion of contract research costs relative to in-house research costs, reflecting that the taxpayer is not performing the research itself.
Not every payment to an outside firm is qualifying contract research. Where the taxpayer does not bear the financial risk of failure, or does not retain rights to the research results, the costs generally may not qualify. The regulations provide that research performed for others, where the taxpayer retains no substantial rights in the research, is not taken into account for the taxpayer. For more, see our page on R&D tax credit contractor costs.
Other Cost Categories Reflected in Current Form 6765 Guidance, If Applicable
The Instructions for Form 6765 address how qualified research expenses are reported on the form, including the summary of wages, supplies, and contract research and the business-component information in Section G. The form and instructions may also address specific elections and reporting details that can change over time. Rather than summarize specifics that may vary by tax year, readers should consult the current Instructions for Form 6765 for the categories and reporting requirements that apply to a given year.
Costs That Commonly Need Additional Review
Some costs commonly require additional review and are not automatically QREs:
- overhead and general administrative costs;
- costs not tied to qualified research activities;
- costs related to excluded activities (such as research after commercial production, adaptation, or funded research);
- capital equipment and depreciable property, which are generally not treated as supplies;
- indirect costs that cannot be connected to specific qualified research.
Whether a particular cost qualifies depends on the applicable rules and the specific facts.
Allocation and Documentation
Where an employee, supply, or contract supports both qualified research and other work, the costs generally need to be allocated so that only the portion associated with qualified research is taken into account. The Treasury Regulations and the Instructions for Form 6765 reflect that qualified research expenses are identified by business component, and the connection between costs and qualified activities is part of what must be established. The IRS audit guidance has noted that studies which fail to connect specific projects and activities to the underlying costs can fail to establish the required nexus.
Documentation that connects costs to specific business components and qualified activities tends to be more useful than generalized allocations prepared later. The IRS has published guidance on the information it expects in connection with research credit claims. For more, see our page on R&D tax credit documentation.
Why Not Every R&D-Related Cost Is a QRE
It is a common misunderstanding that any cost incurred in connection with a research-and-development effort is automatically a QRE. The rules are more specific: the activity must qualify, the cost must fall within a recognized category, the cost must be connected to qualified research, and any required allocations must be supportable. For these reasons, QRE analysis is generally a facts-and-circumstances determination that benefits from professional review.
Key Takeaway
Qualified research expenses are the costs that may be taken into account in computing the credit — primarily certain wages, certain supplies, and certain contract research — associated with qualified research activities. Not every research-related cost qualifies, and the connection between costs, activities, and business components must be supportable. Because these determinations are fact-specific, professional review is appropriate. For the broader context, see our page on what the R&D tax credit is.