Weathering the Pandemic with R&D and Orphan Drug Tax Credits

With the constant discussions surrounding how to weather the COVID-19 storm, more technology and life sciences companies should be evaluating their ability to take advantage of the Credit for Increasing Research Activities (R&D tax credit) to potentially realize substantial cash tax savings. In addition, many life sciences companies that are focused on developing products in accordance with the Orphan Drug designation may be able to take advantage of the Orphan Drug Credit (ODC).

Companies that have qualifying activities for the ODC may also qualify for the R&D tax credit, but both credits cannot be claimed for the same expense. The ODC generally provides a greater benefit compared to the R&D tax credit. DHG can help evaluate qualified costs to enhance utilization of either credit.

Although COVID-19 hasn’t directly altered the R&D tax credit nor the ODC, there are examples of why now is an opportune time to pursue these credits:

  • May result in immediate cash savings to improve liquidity.
  • Technology and life sciences companies may have an increase in their employees’ capacity to assist in pursuing these value-driving incentives.
What is the R&D Tax Credit?

Since the 1980s, the R&D tax credit has been claimed by many industries, including manufacturers, software developers, chemical companies, technology companies and pharmaceutical companies. The tax incentive comes in the form of a federal tax credit that offsets tax liability dollar-for-dollar. In addition to the federal credit, many states have R&D tax credits of their own. The combination of these incentives can potentially provide major savings for companies that qualify.

What is the Orphan Drug Tax Credit?

The ODC is available to life sciences and pharmaceutical companies that are focused on developing new drugs to cure certain rare diseases. These diseases often impact small populations and are not typically high priority in terms of drug development by pharmaceutical companies. Like the R&D tax credit, the ODC provides a federal tax credit benefit and opportunity to increase cash flow and reduce the cost of their development operations.

In order to qualify for the ODC, companies must be working on specific drugs that have received the Orphan Drug designation by the FDA. The qualifications for this designation are:

  • A disease that affects 200,000 people or less within the United States; or,
  • A disease that affects over 200,000 people within the United States, but for which there is no expectation that the cost for developing such a drug will be recovered from the sale in the United States.

The qualification requirements for the ODC are similar to the R&D tax credit. Companies that conduct activities on the clinical phase of a drug’s development will generally meet the same requirements above for the R&D tax credit (e.g., developing new or improved processes, techniques and products). These requirements are designed to address research activities that focus on solving technical uncertainty through iterative experimentation efforts. Both credits must be separately calculated and qualified costs cannot be claimed for both credits.

Read more for examples of qualification activities, as well as how to pursue either credit. For questions, contact your DHG advisor or technology@dhg.com

CONTRIBUTORS

Andrew Hoh
Senior Manager, Tax

Liz McKnight
Senior Manager, Tax

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