In a ruling dated September 24, 2012, the Tax Court held in the HP (Hewlett Packard) R&D tax credit case that gross receipts for purposes of determining the average annual prior 4 year receipts is not limited to line 1 minus returns and allowances (line 1c).

Hewlett Packard argued that based on the Congressional history, Congress only mentioned excluded ‘returns and allowances’ in determining gross receipts for purposes of the research credit calculation. Thus, only line 1c should be included in determining the R&D credit base amount and prior 4 year receipts. HP also moved to exclude its intercompany receipts from foreign CFCs. This topic had already been ruled upon in the John Deere R&D Tax Court case, and thus the IRS agreed that CFC income can be excluded in the HP case.

However, as to other sources of U.S. income, including rents, interest, dividend income, royalties and line 10 other income, the Tax Court in Hewlett Packard held that these must be included in determining the average annual gross receipts and in determining the base amount. In essence, this had already been resolved as well in John Deere in that Deere excluded CFC income but included lines 3-10 of its tax return in determining receipts. Hewlett-Packard was hoping for a new ruling here to exclude such income sources.

However, the Tax Court held that gross receipts includes receipts from all (domestic) sources and the Congressional History only discussing ‘returns and allowances’ does not imply that only line 1c be included. Moreover, the Court reasoned that companies based their R&D budgets on more than just sales (in fact some companies do not have line 1c sales at all but still have R&D budgets). Thus, reviewing all domestic revenue items is a more accurate gauge for whether a company has increased its R&D spending compared to the base year calculation.

Hewlett Packard September 2012 Gross Receipts