Semiconductor and electronics companies can claim the federal research credit for chip and circuit design, process development, test and yield engineering, board and hardware design, and firmware, to the extent each project meets the four requirements of section 41(d)(1) and is not excluded. Wafers and materials consumed in experiments can be supply costs, but depreciable equipment is not. For design work performed for a customer, the funded research rules in Treas. Reg. 1.41-4A(d) often decide whether the designer, the customer or neither can count the costs.
Where Chip, Board and Firmware Work Can Qualify
Our page on R&D tax credits for semiconductor companies lists the activity areas where qualifying work is commonly identified.
The test is applied component by component. Under Treas. Reg. 1.41-4(b)(2), the requirements are applied first to the discrete business component, such as a chip, a board, a firmware release or a process. If the whole component does not qualify, the test shrinks back to the most significant subset of elements, such as a new analog block within an otherwise reused design. Any plant process, machinery or technique for commercial production is treated as a separate business component from the product it makes (section 41(d)(2)(C)).
| Area | Work that may qualify | Work that usually does not |
| Chip and circuit design | New architecture, topology or layout with uncertain performance | Reusing a proven block unchanged |
| Process development | New etch, deposition or packaging steps | Running a released recipe |
| Test and yield | Characterizing an unproven design or test method | Production screening against a specification |
| Boards and hardware | Layouts with uncertain signal, power or thermal behavior | Routine layout from a reference design |
| Firmware | Code whose method or design is uncertain | Configuring existing code |
Firmware and embedded software. Firmware that ships in a product sold to customers is developed for sale, so the internal-use software rules in Treas. Reg. 1.41-4(c)(6) generally do not reach it. An internal tool built for use in qualified research, or for use in a production process that meets the four requirements, is also outside those rules (Treas. Reg. 1.41-4(c)(6)(ii)(A) and (B)).
Test, Characterization and Yield Engineering
Section 41(d)(4)(D)(v) excludes “routine or ordinary testing or inspection for quality control.” The section 174 regulations describe quality control testing as testing to determine whether particular units of materials or products conform to specified parameters, and say it does not include testing to determine if the design of the product is appropriate (Treas. Reg. 1.174-2(a)(7)).
- May be part of a process of experimentation: characterization of first silicon to learn whether a design meets its targets, reliability qualification of a new design or package that can send it back for redesign, and development of an uncertain test method.
- Likely excluded: production test and burn-in against a released specification, and incoming or outgoing inspection.
Yield work and commercial production. Research conducted after the beginning of commercial production of the business component is excluded (section 41(d)(4)(A)). Where yield work on a released product develops a new or improved process step whose outcome is uncertain, that process is its own business component and is tested on its own terms. Adjusting a released process within known parameters generally falls outside the credit.
Wafers, Materials and Computing Costs
Supplies consumed in research. In-house research expenses include amounts paid for supplies used in the conduct of qualified research (section 41(b)(2)(A)). Section 41(b)(2)(C) excludes land, improvements to land and property of a character subject to the allowance for depreciation from supplies. Test wafers, substrates, sputter targets, chemicals and gases consumed in qualifying experiments, and prototype boards and components used up in testing, can fall on the supply side.
Items that need a closer look. Engineering wafers that also yield sold parts, mask sets and load boards that outlast the project, and wafers bought from a foundry under an engineering agreement depend on the facts. Our article on supplies and prototype costs covers prototypes that are scrapped, sold or kept, and whether parts from outside fabricators are supplies or contract research.
Computers and cloud compute. Rented compute used for simulation, verification or regression runs in qualified research can be an amount paid for the right to use computers, under the conditions in Treas. Reg. 1.41-2(b)(4). Our article on cloud computing costs and the R&D credit explains those conditions and the costs that fall outside them.
Design-Services Contracts and Funded Research
Section 41(d)(4)(H) excludes research “to the extent funded by any grant, contract, or otherwise by another person (or governmental entity).” Treas. Reg. 1.41-4(c)(9) applies the rules in Treas. Reg. 1.41-4A(d), and for design work done for a customer the agreement decides them.
- Payment contingent on success. Amounts payable that are contingent on the success of the research are not treated as funding, and all agreements between the performer and other persons are considered, not only the research contract (Treas. Reg. 1.41-4A(d)(1)).
- Substantial rights. A performer that retains no substantial rights is treated as fully funded; the regulation’s example is an agreement giving another person the exclusive right to exploit the results (Treas. Reg. 1.41-4A(d)(2)).
- Partial funding. Where the performer keeps substantial rights, the research is funded to the extent of the payments, and the fair market value of any property, to which it becomes entitled by performing the research (Treas. Reg. 1.41-4A(d)(3)).
Reading the contract. Non-recurring engineering (NRE) fees billed by milestone whether or not the design works point toward funding, while fees payable only if the silicon meets the specification point the other way. Intellectual property clauses bear on the rights question: a license back to reuse the design or its blocks may preserve substantial rights, while an assignment of all rights to the customer generally does not. Our article on funded research and the R&D credit covers both tests.
The customer’s side. A customer that pays for qualified research performed on its behalf generally counts 65 percent of the amount as a contract research expense (section 41(b)(3)(A)), subject to the conditions in Treas. Reg. 1.41-2(e), including bearing the expense even if the research fails. If the designer keeps no substantial rights and its payment is contingent on success, neither party may treat any portion of the expenditures as qualified research expenditures (Treas. Reg. 1.41-4A(d)(2)). Our guide to contract research expenses covers the customer’s claim.
Foreign Design Centers and the Section 48D Credit
Work outside the United States. Research conducted outside the United States, the Commonwealth of Puerto Rico or a U.S. possession is excluded from the credit (section 41(d)(4)(F)). Costs of foreign research stay under section 174, amortized over 15 years from the midpoint of the tax year in which they are paid or incurred (section 174(a)(2)(B)).
The advanced manufacturing investment credit. Section 48D provides a separate investment credit based on the basis of qualified property that is part of an advanced manufacturing facility, defined as a facility whose primary purpose is manufacturing semiconductors or semiconductor manufacturing equipment. It does not apply to property whose construction begins after December 31, 2026.
To see how your design, process and test programs measure up under these rules, you can request a no-cost analysis from CSSI Services.
Frequently Asked Questions
Does chip design work qualify for the R&D tax credit?
It can, if the design meets the four requirements of section 41(d)(1) for the business component and is not excluded, for example as funded research or research after commercial production. A proven design reused unchanged generally does not qualify, but a new block within it may be tested on its own.
Are test wafers qualified research expenses?
Wafers and materials consumed in qualifying experiments can be supplies under section 41(b)(2)(A) and (C). Depreciable property is excluded from supplies, and wafers that also yield parts later sold, or that are bought from a foundry under an engineering agreement, depend on the facts.
Does production testing count toward the credit?
Generally not. Routine or ordinary testing or inspection for quality control is excluded. Testing to determine whether a design is appropriate, such as characterization of a new design, is not quality control testing under Treas. Reg. 1.174-2(a)(7).
Can a design-services firm claim research it performs for a customer?
Possibly. It can claim only to the extent the research is not funded, which generally means its payment depends on the success of the research and it keeps substantial rights in the results. An agreement that gives the customer the exclusive right to exploit the results treats the research as fully funded.
Does firmware development qualify?
Firmware development can qualify when it meets the four requirements for its business component. When the firmware ships in a product sold to customers, the internal-use software rules generally do not apply to it.
This article provides general information about federal tax rules and is not tax advice. Speak with your tax adviser about your specific circumstances.
