Architecture Firm Can Continue with Refund Suit Against the IRS

(Parker Tax Publishing October 2022)

A district court rejected a motion by the government to dismiss an architectural firm's claim that the government failed to refund taxes resulting from the firm's claim to research and development credits under Code Sec. 41 and energy efficient commercial building deductions under Code Sec. 179D. The court concluded that the architecture firm sufficiently stated a claim upon which relief could be granted. Cromwell Architects Engineers, Inc. v. U.S., 2022 PTC 293 (E.D. Ark. 2022).

Background

Cromwell Architects Engineers, Inc. (Cromwell) is a full service architectural and engineering firm. The firm performs sophisticated research and development activities for complex government facilities. Its work includes creating project designs for buildings and their component systems for schools, hospitals, military installations, and government buildings. Specifically, Cromwell creates architectural and engineering designs for building envelopes, plumbing systems, mechanical systems, and electrical systems.

Cromwell filed a suit against the IRS under Code Sec. 41 and Code Sec. 179D to recover approximately $641,000 and $768,000 in federal income taxes paid during the tax years ending on December 31, 2009, and December 31, 2011. Under Code Sec. 41, a taxpayer can claim a tax credit for qualified research expenses (QREs) that exceed the amount spent during an earlier comparison period. Under Code Sec. 179D, a taxpayer can deduct the cost of an energy efficient commercial building property placed in service during the tax year. Cromwell claimed a $1.4 million tax refund for R&D activities and energy efficient commercial building activities under Code Sec. 41 and Code Sec. 179D, which the IRS denied. According to Cromwell, the IRS erred in denying its research and development (R&D) credits by: (1) not recognizing that Cromwell incurred substantial QREs for the tax years ending on December 31, 2009, and December 31, 2010, for which the law provided a tax credit; (2) incorrectly interpreting and misapplying the Internal Revenue Code requirements for a taxpayer to claim properly the R&D tax credit; (3) disallowing Cromwell's R&D tax credits in their entirety for the years at issue; and (4) miscalculating the research and development tax credits.

The government argued that Cromwell's complaint had to be dismissed because it "conspicuously" left out any factual allegations and made "threadbare recitals of Section 41 R&D Credit's elements and conclusory statements that Cromwell satisfies them." Moreover, the government maintained that Cromwell did not identify any QREs, did not prove how it satisfied the requirements of Code Sec. 41, or explain how it calculated the $1.4 million refund request. Equally absent, according to the government, were any factual allegations supporting Cromwell's claim for Code Sec. 179D deductions, such as the property on which Cromwell worked, when Cromwell worked on the property, or for which government agency Cromwell performed work. Like Cromwell's Code Sec. 41 claim, the government argued that Cromwell's complaint only included "threadbare recitals of Section 179D's elements and conclusory statements." The government also cited Williams v. U.S., 112 Fed. Cl. 67 (2013), and Washington Mutual, Inc. v. U.S., 856 F.3d 711 (9th Cir. 2017), for the proposition that Cromwell failed to state a claim. Therefore, according to the government, Cromwell's complaint should be dismissed for failing to state a claim upon which relief can be granted.

Analysis

The district court rejected the government's motion to dismiss Cromwell's case after concluding that Cromwell's complaint sufficiently stated a claim upon which relief could be granted. Cromwell, the court noted, laid out the years for which it claimed the tax credit, specified the years for which the government denied it the allegedly owed tax credits, provided the amount of tax refund it believed it was owed, cited applicable IRS regulations, provided plausible reasons for why it claimed the credits, and in so doing stated a claim to relief that the court found plausible on its face. The court found that the government had fair notice of Cromwell's claims and the basis upon which Cromwell was seeking relief.

The court reviewed the cases cited by the government and found them inapt to Cromwell's case. With respect to the Williams case, the court noted that the plaintiff in that case had not paid taxes in the year in question and the Federal Claims Court concluded that the Williams plaintiff had not paid in excess of her tax liability or even paid at all, making her ineligible to claim a tax refund.

With respect to the Washington Mutual case, the court noted that case involved an appeal from a bench trial where the trial court determined that the appellant failed to meet its burden to establish the value for the intangible assets at issue. Cromwell's burden, the court observed, is not that of a litigant at the conclusion of a bench trial, like the plaintiff in Washington Mutual. In the instant situation, the court said, it was applying the motion to dismiss standard, not standards that control an appeal from a bench trial or a decision on summary judgment.

At this stage of the litigation, the court said, Cromwell needed only to allege sufficient factual matters that, accepted as true, state "a claim to relief that is plausible on its face." The court thus did not find persuasive the government's implication that Cromwell's claim was unascertainable. Cromwell's claim for relief, on the face of its complaint, at this stage in the litigation, accepting as true all well-pleaded facts in Cromwell's complaint, is ascertainable, the court stated. The central issue in this case is clear on the face of Cromwell's complaint: was Cromwell entitled to the tax benefits it sought in its returns such that the IRS improperly denied those tax benefits?

For a discussion of the research and development credit under Code Sec. 41, see Parker Tax ¶104,900. For a discussion of the rules regarding the energy-efficient commercial building deduction, see Parker Tax ¶96,555.

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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