The final tax reform law includes important changes set to impact mining and oil & gas companies. Some of these new and altered provisions — outlined at the end of this article — will increase taxes paid by these companies. As the sector evaluates the impact of the most significant tax changes in a generation, now is the time for companies to consider research and development (R&D) tax credits to reduce their income tax liability and/or effective tax rate.
R&D Tax Credits – Why Now?
The R&D tax credit was established in 1981 to stimulate domestic economic growth. It provides an incentive to companies that incur expenses trying to develop or improve their products, processes, software, techniques, inventions or formulas. The credit can be a powerful tool to help offset tax liability, improve cash flow, increase the value of the company and even fund future projects.
Historically, many natural resources companies have found little benefit from the R&D credit, specifically those paying the alternative minimum tax (AMT) or generating net operating losses (NOL). Tax reform changes the game for R&D in the energy sector. Among the many changes that may increase tax liabilities, the current guidance repeals corporate AMT and limits NOLs. As a result of these changes, companies may now have the opportunity to use the R&D credit to recoup a portion of the cash invested in developing or improving new technologies.
If claimed appropriately, R&D credits can provide meaningful cash-savings for companies of all sizes, from entities with one employee to one with thousands. R&D credits can enable companies to offset their federal and state tax liabilities by up to 20 percent of their qualified spending on innovative activities. If companies are not paying taxes, they can still benefit from R&D credits. For example, many states will pay the value of the credit. Additionally, the federal and state credits can be carried back or carried forward to earlier or later tax years, when they could be used to offset past or future tax liability.
Does My Company Qualify for the Credit?
Most mining, oil and gas, and other natural resources companies try to make their operations and results better, faster, cheaper or greener. Compressed oil prices have heightened the importance of lean operations, and technology is often the answer to finding efficiencies. In 2013, energy companies claimed more than an estimated $300 million in R&D benefits for precisely these kinds of activities.
It doesn’t matter whether companies succeeded in their efforts or not, or how technologically advanced or incremental their attempted development was. The point of the credit is to encourage more of the risk-taking inherent in such undertakings, not to reward only those that are judged to have succeeded or to have made a material technological advancement.
Any company that has tried or is trying to make any of the following better, faster, cheaper or greener, has probably performed or is performing activities that qualify for the R&D credit:
OIL & GAS
• Drilling • Coiled tubing technology
• Geological/geophysical interpretive methods
• Production optimization technology
• Conversion and treating processes
• Auxiliary equipment
• Dragline evaluation techniques
• Smelting/converting technologies
• Material handling & feed drying
• Flash converting/off-gas handling
• Hydrometallurgic plants
• High-wall mining processes
• Matte handling and grinding
• Spoil pile technologies
• Coal washing processes
• Overland conveyor tube technology
• Crib support systems
• Stolarzic horizon control system
• Bird hazing system
Tax Reform: Summary of Changes Impacting Mining, Oil and Gas, and Natural Resources Innovation:
All changes are effective for tax years beginning after Dec. 31, 2017.
• Reduction in corporate tax rate – The new law reduces the top tax rate from 35 percent to 21 percent.
• Corporate alternative minimum tax repealed – U.S. mining, oil & gas and other natural resources companies that often pay AMT may now be paying regular income tax. R&D credits may be used to offset regular income tax.
• Net operating losses deduction limitation – NOLs generated for tax years beginning after Dec. 31, 2017, may no longer be carried back and may only offset up to 80 percent of income generated in a given tax year. This change means companies that in the past have used NOLs to offset all of the income tax may now owe income tax. R&D credits may be used to offset income tax liability.
• Exploration and production (E&P)/transition tax on U.S. shareholders – The new tax law imposes a new transition tax on untaxed foreign earnings of foreign subsidiaries of U.S. companies by deeming those earnings to be repatriated. U.S. shareholders will be assessed a tax on their share of the foreign corporations’ accumulated foreign earnings that have not previously been taxed.
• Elimination of Section 199 domestic production activities deduction (DPAD) – DPAD has been repealed for tax years beginning after Dec. 31, 2017. Historically, this deduction provided companies with up to an additional 3 percent tax rate benefit on all qualified domestic production income.
• Lower taxes on pass-through business income – Raises the deduction available to pass-through filers to 20 percent.
The new tax law includes several provisions of importance to mining, oil & gas and natural resource companies. It is important for taxpayers in these industries to understand the changes these provisions bring, especially the ones with immediate impact. As you create your future tax plans, consider the R&D tax credit as a way to reduce your income tax liabilities. This article originally appeared in Bloomberg BNA’s Daily Tax Report.
David Wong is a partner and west leader of BDO’s Specialized Tax Services practice, specializing in R&D and Section 199 Tax Services.
Gabe Rubio is a managing director in BDO’s Specialized Tax Services practice, specializing in R&D tax credits.
Matthew Ferreira is a manager in BDO’s Specialized Tax Services practice, specializing in R&D tax credits.