Short answer. Funded research is research paid for by a grant, a contract, or another party where the performer does not keep the financial risk or substantial rights to the results. Section 41(d)(4)(H) excludes funded research from the credit. The test is not who writes the check. It is whether payment depends on the research succeeding, and who owns what the research produces.
The risk-and-rights test
Funding alone does not disqualify research. Losing the risk or the rights does.
Research is funded, and therefore excluded, when payment is not contingent on the success of the research. If a company is paid regardless of the outcome, it did not bear the risk, so the credit belongs to whoever did.
Research is also funded when the performer does not keep substantial rights to the results. A contract that assigns every right to the funder leaves the performer with nothing to claim.
Both halves matter. A performer keeps the credit on outside-paid work only if its payment depends on results or it holds real rights to what it builds.
Grants, customer contracts, and prototypes
Funded research shows up in ordinary commercial deals, not just government grants.
A fixed-price contract where the customer pays only on acceptance usually leaves the risk with the developer, which points away from funded research. A cost-plus contract that pays for effort regardless of outcome usually points toward it.
Government and foundation grants are funded research when the grant pays win or lose and the grantor takes the rights. The answer depends on the specific terms, which is why the contract language controls.
Why it sits among the audit flags
Funded research is one of the first things an examiner checks.
Because the exclusion turns on contract terms, it is easy to verify and easy to get wrong, which makes it a common exam adjustment.
The defense is documentary: keep the contracts and show, clause by clause, that the company kept the risk and the rights for every component in the claim.
Related references
Funded research is the mirror image of qualified contract research:
Sources
Every claim on this page traces to a primary authority. Each source below is independent and verifiable.
- 26 U.S.C. § 41(d)(4)(H), exclusion for funded research - Cornell Law School, Legal Information Institute
- Treas. Reg. § 1.41-4A(d), funded research - Cornell Law School, Legal Information Institute
- IRS, Instructions for Form 6765 - Internal Revenue Service
Get documentation built to survive an exam
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