Due to exponentially increasing energy demands and ever-changing regulations, the oil and gas industry is scrambling to develop solutions to many complex issues. Companies around the US are undertaking high-cost projects to improve upstream production technologies, optimize process systems, and develop customized engineering design solutions and construction techniques. These companies recognize the necessity of R&D efforts, but many are unaware that the costs incurred during their day-to-day projects are eligible for R&D tax incentives.

Tax support

The R&D tax credit is a business tax incentive for companies that provide unique solutions to present-day market needs. The traditional notion of R&D brings patents and lab coats to mind, but for tax credit and incentive purposes, R&D is defined much more expansively.

The R&D credit provides a direct reduction of tax liability for labor, supply, and contractor costs incurred on projects that are technological in nature. It is in place to incentivize the development of specialized solutions to engineering and construction projects. The intent of the credit is to reward the expansion of domestic development activities.

To qualify for the R&D credit, projects must meet a few generally defined criteria. For example, projects must be undertaken to develop a new or improved design solution such as a custom product, engineering design, or construction technique. In addition to qualified research, qualified activities include direct supervision and support.

Projects undertaken by the oil and gas industry typically are quite challenging and unique. This increases the likelihood that the activities conducted will qualify for the credit. Companies all over the nation are constantly expanding their capabilities by taking on projects to improve efficiency while complying with ever changing regulations and site-specific constraints.

It should be noted, however, that expenses for prospecting or determining the location of oil and gas deposits do not qualify.

Putting tax credit to work

Recognizing that a company could qualify for a credit is the first step. For companies unsure about whether they merit the credit, it would be helpful to consider some situations where credits have been granted.

Consider this example of a company applying for an R&D credit for tax year 2012 – a multidiscipline engineering EPC firm with US $35 million of yearly gross revenue and $23 million in W-2 wages. The company designs process piping and structural systems for upstream and downstream facilities, employing a team of project managers, project engineers, design engineers, and CAD drafters that participate in design and development processes. An in-depth study found that the company spent approximately 20% of its labor costs on qualified research activities. The near $5 million in qualifying labor cost resulted in a net tax benefit of $280,000.

Another company in the same industry, with annual revenue of $25 million, designs and manufactures customized control units for blowout preventers (BOPs). The company develops each BOP unit for customer-specific applications to fit within unique site constraints and to interface with existing systems throughout drilling platforms. The company employs mechanical and electrical engineers, programming logic control programmers, and a team of specialty assemblers and welders. Each system design is unique and designed for the company's clients' applications. In this example, approximately 35% of the company's annual $3.5 million in wages from 2007 to 2010 went toward these activities as well as all supply costs associated with each unique unit. The resulting tax credits total $500,000 over the four-year period.

Getting a piece of the pie

As oil and gas consumption and corresponding production continue to increase, more companies will undertake R&D efforts to develop new technologies, engineering designs, and unique construction means and methods. The effort put forth into this research is crucial to ensure the continued growth of the American oil and gas production industry.

The R&D tax credit exists to ensure this growth continues and that these activities occur in the US rather than abroad. Activities occurring every day in the oil and gas industry qualify for significant tax benefits. The federal government and many states offer tax incentives, and many more companies qualify for these incentives than are taking advantage of them.

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