An Internal Revenue Code requirement concerning research and experimentation expenditures could slow innovation in the state, North Carolina’s Department of Commerce secretary stated in a letter to North Carolina Congressional delegation members.
Sec. Machelle Baker Sanders in the letter urged delegation members to advocate for the deferment of the Internal Revenue Code section 174 amortization requirement focused on R&E.
The new requirement would mean entrepreneurs and organizations across the state would have to amortize costs associated with research activities over time. Entrepreneurs and organizations would not be able to deduct research expenses, resulting in businesses having a higher reported income and, in turn, higher tax costs, per Sanders’ letter. Sanders argued in her letter that this is akin to a “tax on innovation.”
Section 174, originally enacted in 1954, was created to “eliminate uncertainty in tax accounting treatment of research and experimentation (R&E) expenditures, and to encourage R&E as a way to stimulate innovation,” per Sanders’ letter.
In the decades since the section was enacted, businesses have been able to deduct certain R&E expenses immediately to reduce their taxable income — something that, Sanders argued in her letter, “helped increase their competitiveness and drive toward greater technological advancement and commercialization.”
The “Innovation Tax” would negatively impact North Carolina, Sanders stated.
“This is also a devastating blow to Small Business Innovation Research/Small Business Technology Transfer (SBIR/STTR) recipients, which could owe taxes on up to 90 percent of their SBIR/STTR award,” she wrote. “Small businesses are not allowed to use any of the grant funds (often their only source of funds in their early years) to cover the tax expenses. This is creating an insurmountable financial strain and bankruptcy for many innovators.”
In 2022, 114 North Carolina companies brought $126 million to the state for R&E activities from the federal SBIR/STTR [Small Business Innovation Research/Small Business Technology Transfer] program, Sanders wrote. The One North Carolina Small Business Program – which catalyzes and leverages SBIR/STTR funded companies in the state – “couldn’t even absorb the negative financial impact that Section 174 will bring to these companies,” the letter states.
North Carolina’s Research Triangle Park is a hub for innovation and industries including life sciences and technology. And thousands of North Carolinians are employed by small businesses in the professional, scientific and technical services industry alone, per a 2022 U.S. Small Business Administration Office of Advocacy report on the state.