Plain-English definitions of the terms that come up in R&D tax credit, Section 179D, and cost segregation work, each linked to where we cover it in depth.
46 terms
An administrative adjustment request (AAR) is how most partnerships correct a return they have already filed, because partnerships under the centralized audit rules cannot file amended returns. A partnership claiming a missed R&D credit for an open prior year generally does so through an AAR, and the benefit passes to the partners from that year, who take it into account on a current return.
R&D tax credit →IRS: File an AAR for a BBA partnershipA 179D allocation letter is the signed document in which the owner of a government, tax-exempt, tribal, or Alaska Native Corporation building assigns its 179D deduction to the designer. It lists the building, the cost of the property, the placed-in-service date, and the amount allocated, and it is signed by authorized representatives of both the owner and the designer, who keeps it with its tax records.
R&D and 179D for architecture and MEP firms →IRS Notice 2008-40The alternative simplified credit (ASC) is one of two ways to calculate the federal R&D credit. It equals 14% of qualified research expenses above half of the average for the three prior years, or 6% of current-year expenses when the company had none in any one of those years. Many companies use it because it does not depend on records from the 1980s.
R&D tax credit →ASHRAE Standard 90.1 is the commercial building energy standard that Section 179D uses as its baseline. A building's energy savings are measured against a reference building designed to the edition of 90.1 that applies to the project.
179D energy deduction →The base amount is the threshold that qualified research expenses must exceed before the regular research credit applies. It is the company's fixed-base percentage multiplied by its average gross receipts for the four prior years, and it can never be less than half of current-year research expenses.
R&D tax credit →Bonus depreciation is a first-year deduction of part or all of the cost of qualifying property with a recovery period of 20 years or less. For property acquired after January 19, 2025, it is permanently 100% unless the taxpayer elects a lower rate or elects out, so the components a cost segregation study moves into 5, 7, and 15-year categories can be deducted in full in the first year.
Cost segregation →26 U.S.C. 168(k)A business component is the product, process, computer software, technique, formula, or invention that research is aimed at, whether it is sold to customers or used in the company's own business. The four-part test is applied to each business component separately, and for tax years beginning after December 31, 2025, Form 6765 Section G generally reports research information by business component.
The four-part test →26 U.S.C. 41(d)Catch-up depreciation is the depreciation a building owner missed in earlier years, claimed in full in the current year after a cost segregation study on a building already in service. It is generally taken through an accounting method change rather than amended returns.
Cost segregation →Conditioned space is the part of a building that is heated or cooled. For Section 179D, the deduction is computed on the building's square footage, which the IRS instructions for Form 7205 define as the sum of the floor areas of the building's conditioned spaces.
179D energy deduction →IRS: Instructions for Form 7205Contract research expenses are amounts paid to outside firms or individuals to perform qualified research on your behalf. Generally 65% of these payments count as qualified research expenses (75% for qualified research consortia) when the agreement is made before the work starts, you pay whether or not the research succeeds, and you keep the right to use the results. The research must be performed in the United States.
R&D tax credit →Cost segregation is an engineering-based study that identifies building components that can be depreciated over 5, 7, or 15 years instead of 27.5 or 39 years. Faster depreciation moves deductions into earlier years.
Cost segregation →Depreciation recapture is the tax on the part of a gain from selling or otherwise disposing of property that comes from depreciation already taken. For personal property, such as the 5 and 7-year components a cost segregation study identifies, that part of the gain is taxed as ordinary income. For land improvements and other real property, depreciation above the straight-line amount, including bonus depreciation, is generally recaptured as ordinary income, and for individuals the remaining gain from depreciation is taxed at a maximum rate of 25%. Recapture generally applies when property is disposed of in a taxable transaction, so the earlier deductions can still lower tax in the years before.
Cost segregation →26 U.S.C. 1245A designer allocation is the transfer of a building owner's 179D deduction to the architect, engineer, or contractor who designed the qualifying systems. It is available for buildings owned by government entities, tax-exempt organizations, Indian tribal governments, and Alaska Native Corporations, and it is limited to the lesser of the cost of the energy-efficient property and the per-square-foot maximum for the building.
R&D and 179D for architecture and MEP firms →The fixed-base percentage is the ratio of a company's research expenses to its gross receipts during a base period, usually 1984 through 1988, used in the regular research credit. It is capped at 16%, and companies without that history use start-up rules that begin at 3%.
R&D tax credit →Form 3115 is the IRS form used to request a change in accounting method, such as moving a building already in service to the depreciation a cost segregation study supports. Many depreciation changes are automatic, meaning they are filed with the return without advance IRS approval. Building owners that did not take an available 179D deduction may also be able to claim it through an automatic method change; designers who receive an allocation cannot.
Cost segregation →IRS: About Form 3115Form 3800 is the IRS form that combines the R&D credit with a company's other business credits and applies them against income tax. Credits that cannot be used in the current year can generally be carried back one year and forward up to 20 years.
R&D tax credit →26 U.S.C. 39 (carryback and carryforward)Form 4562 is the IRS form for reporting depreciation and amortization, mainly on property placed in service during the year, including bonus depreciation. The depreciation schedules from a cost segregation study feed into it.
Cost segregation →IRS: About Form 4562Form 6765 is the IRS form used to calculate and claim the federal R&D credit. Section G of the form reports research details by business component and is required for most claims in tax years beginning after December 31, 2025; qualified small businesses taking the payroll election, and original returns with $1,500,000 or less of qualified research expenses (measured across the controlled group) and average annual gross receipts of $50,000,000 or less over the prior three years, are exempt.
R&D tax credit →IRS: Instructions for Form 6765Form 7205 is the IRS form used to claim the Section 179D energy efficient commercial buildings deduction. Building owners claim the deduction on it, and so do designers who receive an allocation from a government, tax-exempt, tribal, or Alaska Native Corporation owner.
179D energy deduction →IRS: About Form 7205Form 7220 is the IRS form used to verify that prevailing wage and apprenticeship requirements were met for each building or facility when a taxpayer claims the higher amount of a credit or deduction that depends on meeting those requirements, including the increased 179D deduction on Form 7205, unless an exception applies. It also reports back pay and interest paid to workers who were paid below prevailing wage, and figures the penalties owed when prevailing wage or apprenticeship requirements were not met.
179D energy deduction →IRS: Instructions for Form 7220Form 8974 is the IRS form a qualified small business uses to apply its R&D payroll tax election against employer payroll taxes. It is filed with the employer's payroll tax return, generally Form 941, starting with the first quarter that begins after the income tax return making the election is filed.
R&D tax credit →IRS: Instructions for Form 8974The four-part test is the set of requirements, applied separately to each business component, that research generally must meet for its costs to qualify for the R&D credit: a permitted purpose, such as a new or improved product or process; reliance on the principles of science or engineering; an effort to eliminate technical uncertainty; and a process of experimentation.
The four-part test →26 U.S.C. 41(d)Funded research is research paid for by a customer, grant, or other outside party in a way that leaves the company doing it without the financial risk of failure or without substantial rights to the results. To the extent research is funded, its costs do not count toward the R&D credit. Hourly, time-and-materials, and cost-plus work is usually funded, and a lump-sum contract alone does not make work count.
R&D tax credit →26 U.S.C. 41(d)(4)A partial asset disposition is an election to write off the remaining value of a building component that is removed, such as a replaced roof or HVAC system, in the year it is removed. The election is generally made on the timely filed original return, including extensions, for that year, and a cost segregation study can establish the value of the removed component.
Cost segregation →Treas. Reg. 1.168(i)-8The passive activity loss rules limit losses from rental properties and from businesses a taxpayer does not materially participate in, so those losses can generally offset only passive income. Losses that cannot be used carry forward to later years and are generally released when the owner sells its entire interest in a fully taxable sale to an unrelated party.
Cost segregation →26 U.S.C. 469The payroll tax offset is an election that lets a qualified small business apply up to $500,000 of R&D credit a year, for up to five tax years, against the employer share of Social Security and Medicare taxes instead of income tax. It is available to companies with gross receipts under $5,000,000 for the year and no gross receipts before the most recent five years.
R&D tax credit →26 U.S.C. 41(h)The placed-in-service year is the tax year a building or system is ready and available for its intended use. For Section 179D, it determines which deduction rates apply and the year the deduction is taken.
179D energy deduction →Prevailing wage and apprenticeship (PWA) requirements are labor standards added by the Inflation Reduction Act. Projects that meet them, or whose installation began before January 29, 2023, can claim Section 179D at up to five times the base rate.
179D energy deduction →A process of experimentation is the systematic evaluation of one or more alternatives to eliminate technical uncertainty, through methods such as modeling, simulation, or systematic trial and error. It is one part of the four-part test, which is generally met when substantially all (80% or more) of the research activities for a business component are part of such a process.
The four-part test →Treas. Reg. 1.41-4Qualified improvement property (QIP) is an improvement made by the taxpayer to the interior of a nonresidential building and placed in service after the building was first placed in service. It has a 15-year recovery period and qualifies for bonus depreciation, but enlargements, elevators and escalators, and the building's internal structural framework are excluded.
Cost segregation →26 U.S.C. 168(e)(6)Qualified production property is nonresidential real property that the taxpayer itself uses as an integral part of manufacturing, production, or refining, and that the taxpayer can elect to deduct in full in its first year under Section 168(n), added in 2025. Construction must begin after January 19, 2025 and before January 1, 2029, and the property must be placed in service after July 4, 2025 and before January 1, 2031. Offices, finished-goods storage, research activities, and property leased to another company generally do not qualify, and the deduction can be recaptured if the use changes within 10 years.
Cost segregation →IRS Notice 2026-16Qualified research expenses (QREs) are the costs that count toward the R&D credit: wages for employees who perform, directly supervise, or directly support qualified research; supplies used in that research; amounts paid to use computers owned and operated by others, which can include some cloud computing costs, in that research; and a share of contract research payments.
R&D tax credit →26 U.S.C. 41(b)A qualified small business, for the R&D credit, is a company with gross receipts under $5,000,000 for the tax year and no gross receipts before the five-year period ending with that year. It can elect to apply up to $500,000 of R&D credit a year against payroll taxes, for up to five tax years, which can help companies that do not yet owe income tax.
R&D tax credit →26 U.S.C. 41(h)Qualifying 179D property is energy-efficient interior lighting, HVAC and hot water systems, or building envelope work installed in a commercial building, or in a multifamily building four or more stories above grade, as part of a plan certified to reduce the building's energy and power costs. For property placed in service in tax years beginning after 2022, the reduction must be at least 25% compared with a reference building, and the deduction rises with each additional percentage point of savings.
179D energy deduction →26 U.S.C. 179DReal estate professional status is a tax classification that lets a taxpayer who also materially participates in their rentals treat rental losses, including losses created by accelerated depreciation, as nonpassive and use them against other income. To qualify, a taxpayer must spend more than half of their working hours, and more than 750 hours a year, in real property businesses in which they materially participate; for a married couple, one spouse must meet both tests alone.
Cost segregation →26 U.S.C. 469(c)(7)A recovery period is the number of years over which an asset is depreciated under the tax rules. Commercial buildings use 39 years and residential rental buildings 27.5 years, while fixtures and specialty systems generally use 5 or 7 years and land improvements such as paving and landscaping use 15 years.
Cost segregation →26 U.S.C. 168A reference building is an energy model of the same building designed to the minimum requirements of the ASHRAE 90.1 edition that applies, used as the baseline for Section 179D. The building's modeled energy and power costs are compared with the reference building's to find its percentage of savings.
179D energy deduction →The regular research credit is the original method of calculating the federal R&D credit: 20% of qualified research expenses above a base amount set by the company's fixed-base percentage. It can produce a larger credit for some companies but depends on historical records.
R&D tax credit →Section 174 and Section 174A are the Internal Revenue Code sections that govern how research and experimental costs are deducted. Section 174 now covers foreign research costs, which are amortized over 15 years, and Section 174A, enacted in July 2025, restores the immediate deduction of domestic research costs for tax years beginning after December 31, 2024. For tax years beginning in 2022 through 2024, domestic costs had to be amortized over five years.
R&D tax credit →26 U.S.C. 174ASection 179D is the federal tax deduction for energy-efficient commercial buildings, covering interior lighting, HVAC and hot water, and the building envelope. Under the One Big Beautiful Bill Act, property qualifies only if construction began by June 30, 2026.
179D energy deduction →26 U.S.C. 179DSection 41 is the section of the Internal Revenue Code that creates the federal credit for increasing research activities, commonly called the R&D tax credit. The credit is permanent, and credits that were never claimed can often be claimed for open prior tax years.
R&D tax credit →26 U.S.C. 41A Section 481(a) adjustment is the one-time catch-up amount that results from an accounting method change, so that nothing is deducted twice or missed. When a cost segregation study shows depreciation was understated in earlier years, the adjustment reduces taxable income and is generally taken entirely in the year of the change.
Cost segregation →26 U.S.C. 481The short-term rental exception treats a rental with an average guest stay of seven days or less, or 30 days or less with significant personal services, as not a rental activity under the passive loss rules. If the owner also materially participates, losses from it, including accelerated depreciation from a cost segregation study, can offset other income.
Cost segregation →Treas. Reg. 1.469-1T(e)(3)The startup ASC rate is the 6% rate under the alternative simplified credit that applies when a company had no qualified research expenses in any one of the three prior years.
R&D Tax Credit Calculator →Supplies, for the R&D credit, are tangible materials used in the conduct of qualified research, such as raw materials, prototype parts, and ingredients for test batches. Land, buildings, equipment, and other depreciable property do not count, and neither do general office supplies.
R&D tax credit →26 U.S.C. 41(b)(2)(C)Technical uncertainty is uncertainty, at the start of a project, about whether something can be done, how to do it, or what the right design is. Working to eliminate it is one part of the four-part test.
The four-part test →Treas. Reg. 1.174-2No terms match. Ask us about it.
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