A common question is how projects with both U.S. and foreign research should be reviewed for the federal R&D tax credit under Section 41. The short answer is that projects with both U.S. and foreign research need careful review, and the foreign-research exclusion requires allocating costs based on where research is performed. This page explains the framework in general terms. It is educational and is not individualized advice. For the foundational framework, see our page on qualified research.
Key Considerations
The analysis depends on the specific facts and circumstances. Under the four-part test, qualified research must be for a permitted purpose, be technological in nature, be intended to eliminate uncertainty, and be conducted through a process of experimentation.
Common scenarios that may warrant review include:
- New development — evaluating alternative approaches to resolve uncertainty about whether a new approach can achieve the required performance.
- New arrangement — evaluating alternative approaches to resolve uncertainty about whether a new arrangement can achieve the required outcome.
- New application — evaluating alternative approaches to resolve uncertainty about whether an existing approach can perform in a new context.
- New requirement — evaluating alternative approaches to resolve uncertainty about whether a new requirement can be met.
Foreign-Research Considerations
The foreign-research exclusion under Section 41(d)(4)(F) turns on where the research activities are performed, not where products are manufactured or where the taxpayer is located. U.S.-based research may qualify even if products are imported or manufactured abroad.
Hypothetical Example
Consider a company that is evaluating a new approach and is uncertain whether any available method can achieve the required outcome. The company evaluates alternative approaches, tests each, and systematically varies the approach to resolve the uncertainty. This may warrant review as qualified research.
By contrast, if the same company performs routine work using established methods, that is routine work, not research.
This example is illustrative only and does not state that the activity definitely qualifies.
Documentation That May Help
Records that can help support this work include records identifying the uncertainty and alternative approaches, test results, and records of how results informed decisions. For more, see our page on R&D tax credit documentation.
Key Takeaway
Projects with both U.S. and foreign research need careful review. The foreign-research exclusion requires allocating costs based on where research is performed. Because the analysis is fact-specific, professional review is appropriate before claiming the credit.