Fifth Circuit Upholds District Court Decision to Deny R&D Credit for Construction Firm

United States v. Grigsby, No. 22-30764 (5th Cir. Nov. 13, 2023)

The U.S. Court of Appeals for the Fifth Circuit recently upheld a Louisiana district court’s decision in Leonard L. Grigsby et al. v. The United States (No. 22-30764) disallowing a taxpayer’s research tax credit because the taxpayer did not clearly define its business components and the research activities were funded research under Section 41(d)(4)(H).


Cajun Industries, LLC (“Cajun” or “taxpayer”) claimed R&D tax credits for the 2013 tax year under Section 41 of the IRC. The taxpayer provides construction services throughout the Gulf Coast Region and engaged in over 100 construction projects during the relevant tax year. In 2015, Cajun hired a consulting firm to evaluate their projects and advise on their eligibility for the R&D tax credit. 

Qualified research, as defined in 41(d)(1) expressly excludes so-called “funded” research under 41(d)(4)(H). Funded research includes any research to the extent funded by any grant, contract, or otherwise by another person or government entity. Treasury Regulations further explain that research is funded if, in any agreement to perform research (1) the researcher retains no substantial rights to their research; or (2) payment is not contingent upon the research’s success.


In 2019, the IRS challenged Cajun’s claimed credit which amounted to a total of $1,341,420.

In this initial case before the District Court, four projects were used to represent Cajun’s research activities. The parties reviewed the contracts and Scope of Work documents for each project to explore if Cajun bore the burden of financial risk during these projects. In this review, they evaluated both the payment method (i.e. fixed fee, time and materials etc), and who maintained rights to any IP or work product developed.

Cajun claimed that, in these projects, they engaged in research which led to the development of four new “products:  two oil refineries and two flood control systems. The Government argued that these products failed the “business component” test and therefore the company did not perform qualified research. They further claimed the projects were otherwise ineligible for the credit as each was considered funded.

Cajun responded with arguments that, in addition to the products, they developed new processes for the various “construction means and methods” and that the contracts were contingent upon Cajun’s provision of deliverables and were therefore not funded.


In the initial case, the District Court found that Cajun failed to provide any sufficient evidence or argument to establish that the work in the representative projects resulted in new products. Because the excluded evidence of any construction processes was the “only evidence (and argument) offered to establish the business component element of their QRTC claim,” the court concluded the Representative Projects failed to establish a business component. In addition, they held that the projects were funded and were ineligible for the credit on this front as well.

The case was appealed to the Fifth Circuit, where the District Court’s grant of summary judgment de novo was reviewed. The taxpayer brought forth three arguments in this appeal:

  1. The summary judgment improperly placed the burden on the taxpayer
  2. Sufficient evidence had been produced to establish the business components
  3. The district court erred in excluding its claim that its business components were construction processes.

On the first count, the district court disagreed and stated that the IRS assessment of tax liability was entitled to a presumption of correctness because it specified the amount of the deficiency or otherwise provided the information necessary to compute the deficiency. Once the presumption of correctness was established, the burden then shifted to the taxpayer to rebut the presumption. Further, the Fifth Circuit found that even if the IRS assessment was not entitled to the presumption of correctness, the government met its burden of production by submitting approximately 40 exhibits at summary judgment and demonstrating that there was no genuine dispute as to any material fact.

On the second count, the Fifth Circuit held that the taxpayer did not offer sufficient evidence as to whether the products constituted business components. In its ruling, the Fifth Circuit indicated that the cited responses described Cajun’s “means and methods” (i.e., processes) rather than products and stated that taxpayers must evaluate process business components separate from product business components in accordance with Section 41(d)(2)(C).

Further, the taxpayer argued that the district court erred in excluding its claim that its business components were construction processes. The Fifth Circuit held that the district court’s ruling was not an abuse of discretion because the construction processes argument was raised by the taxpayer for the first time at summary judgment and the omission of such an argument during earlier proceedings was “highly prejudicial for the government.” Additionally, the taxpayer failed to explain the change in their argument that their business components were processes rather than products.

Finally, in respect to the question of funding, the Fifth Circuit reviewed the contractual terms associated with these four sample projects and found that three of the four projects did not meet the Substantial Rights Standard under Treas. Reg. Sec. 1.41-4A(d) which indicates that the entity performing research must retain substantial rights to IP or work product. Citing Fairchild Industries, Inc. v. United States (71 F.3d at 870) and Geosyntec Consultants, Inc. v. United States (776 F.3d 1330, 11th Circ. 2015), the Fifth Circuit concluded that the fourth sample project was funded, in part because the terms of the contract were such that Cajun was compensated for all expenditures incurred notwithstanding that the contract was a “firm, fixed-price contract.”  


Cases like this one reinforce that the construction industry is often at higher risk in claiming research credits due to the nature of contractual terms and the types of activities that are typically undertaken. Further, the Grigsby decision is consistent with developments in recent case law that demonstrate a trend of research credit claims being challenged on the basis of substantiation. It is important for taxpayers to retain adequate documentation to substantiate their research tax credit claims, including the clear establishment of business components. 

It further shows that using an R&D tax advisor might not be sufficient if they do not do their due diligence to ensure your claim is eligible and readily substantiated. Picking an R&D Tax Advisor may be a crucial step in delivering a sound claim.

See the full case here.

Are you developing new technology for an existing application? Did you know your development work could be eligible for the R&D Tax Credit and you can receive up to 14% back on your expenses? Even if your development isn’t successful your work may still qualify for R&D credits (i.e. you don’t need to have a patent to qualify). To find out more, please contact a Swanson Reed R&D Specialist today or check out our free online eligibility test.

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