Navigating the Geographical Constraint: Understanding the Exclusion of Research Outside Idaho in the R&D Tax Credit

The Idaho Credit for Increasing Research Activities (Idaho Code §63-3029G) is a state-level tax incentive designed to foster technological innovation and job creation. This credit is fundamentally constrained by a critical geographical requirement, ensuring that only expenditures tied directly to activities physically performed within the state qualify for the benefit.

The Idaho R&D tax credit is strictly confined to activities physically performed within the state’s borders, requiring the exclusion of all Qualified Research Expenses (QREs) related to research conducted elsewhere. This geographical mandate ensures the credit serves purely as a state economic incentive, filtering federal IRC §41 definitions through a rigorous in-state activity standard.1

This report delivers an expert-level analysis of the “Exclusion: Research Outside Idaho,” detailing its statutory basis, the specific guidance issued by the Idaho State Tax Commission (ISTC), the resulting compliance obligations for multi-state taxpayers, and practical implications for maximizing the credit.

I. Statutory and Regulatory Basis of Exclusion

The Idaho R&D credit, enacted under Idaho Code §63-3029G, is structurally dependent upon the federal framework of Internal Revenue Code (IRC) Section 41 but applies an immediate and uncompromising territorial restriction.

A. The Foundational Law: Idaho Code §63-3029G

The statute explicitly allows a nonrefundable credit against Idaho income taxes for increasing research activities in Idaho.3 The calculation is defined by the location of the activity: the credit is the sum of $5\%$ of the excess of qualified research expenses (QREs) for research conducted in Idaho over the base amount, plus $5\%$ of basic research payments allowable under IRC §41(e) for basic research conducted in Idaho.3

The law’s language clearly establishes that the geographical location is paramount. The incentive’s purpose is not simply to reward R&D globally, but specifically to stimulate R&D investment that benefits the Idaho economy through local hiring, supply purchasing, and infrastructure utilization.

B. Conformity and the Critical Divergence from IRC §41

Idaho tax policy generally aligns its definitions of research eligibility with federal law. Qualified research must satisfy the technical requirements of IRC §41, known as the four-part test: the activity must be technological in nature, intended for a permitted purpose (improving function, performance, etc., of a business component), intended to eliminate technological uncertainty, and involve a process of experimentation.5

While the definition of qualified research is consistent with the federal standard, the application of QREs is not. The ISTC guidance is clear: “only the amounts related to research conducted in Idaho qualify for the Idaho research credit”.2 This means that if a multi-state company incurs expenses that fully qualify under federal IRC §41 (which allows expenses across the U.S. and its territories 9), any portion of those expenses attributable to activities performed outside of Idaho must be excluded when calculating the Idaho credit.

This rigorous geographical filter confirms the nature of the Idaho R&D credit as a targeted economic policy. The state has chosen to reward direct, measurable, in-state economic behavior, distinguishing itself from other states that may allow a percentage of national QREs. This strict localization requires businesses to conduct two distinct, independent QRE calculations: one federal and one Idaho-specific, with the latter requiring the exclusion of all non-Idaho costs.

II. Idaho State Tax Commission Guidance on QRE Sourcing

For multi-state businesses, the Idaho State Tax Commission (ISTC) guidance specifies how the geographical exclusion applies across the three primary categories of QREs: wages, supplies, and contract research. Accurate sourcing in each category is crucial for compliance, particularly given the challenges posed by modern, distributed workforces.

A. Sourcing Principle 1: Qualified Wage Exclusion

Wages paid to employees performing qualified services are typically the largest component of QREs. The ISTC maintains a particularly strict interpretation regarding employee location. Administrative guidance confirms that only wages paid to Idaho employees are allowable as QREs for the Idaho research credit, and wages paid to nonresident employees must therefore be excluded.10

This mandates a focus on the physical location of the research activity, irrespective of the employee’s state of residency or the company’s headquarters. If an Idaho-based company employs a software developer who lives in Oregon and performs qualified research remotely from their home, the wages associated with that remote work must be excluded from the Idaho QRE calculation, even if the employee is an Idaho resident for state tax purposes (which would require income apportionment). The state’s requirement hinges on the location where the research is conducted.

For hybrid or traveling employees, taxpayers must implement systems to accurately apportion qualified wages based on the time spent performing R&D activities within Idaho’s physical boundaries. While general income sourcing rules for nonresidents sometimes allow alternative methods (such as tracking working hours instead of workdays) if the standard formula does not fairly represent activities 11, the underlying necessity remains to link the wage expense directly to in-state research activity. This necessitates maintaining granular, verifiable, location-based time-tracking records to successfully defend the claim during an audit.10

B. Sourcing Principle 2: Supplies and Contract Research Expenses

The geographical restriction extends equally to tangible costs associated with research:

1. Supplies: Qualified supply costs are eligible only if the supplies—tangible personal property used or consumed in the performance of qualified research—are physically used or consumed within Idaho.10 For example, if raw materials are purchased in Boise but shipped to an out-of-state facility for testing or prototype fabrication, those supply costs must be excluded.
2. Contract Research Expenses (CREs): Taxpayers may claim $65\%$ of payments made to third parties for qualified research. However, for the Idaho credit, the activity performed by the contractor must be conducted in Idaho.8 If an Idaho firm hires a contract lab in California, the associated contract research expense is entirely excluded from the Idaho QRE base, even if the result of the research benefits the Idaho firm. Compliance requires obtaining documentation from the contractor specifying the location where the services were performed.

The combined effect of these sourcing rules dictates that a multi-state business must meticulously map every dollar of QREs to a physical location within Idaho, often increasing the administrative complexity substantially beyond the requirements of the federal credit.

Table 1: Idaho QRE Sourcing Guidelines and Compliance Mandates

III. Calculation Implications for Multi-State Businesses

The impact of the geographical exclusion is not confined to the current year’s QREs; it fundamentally alters the calculation of the credit’s base amount for multi-state taxpayers.

A. Consistency in the Base Calculation: Idaho-Sourced Gross Receipts

The Idaho R&D credit utilizes the federal regular method, calculated as $5\%$ of the current year’s incremental QREs, which exceed a predetermined base amount.1 The base amount calculation requires determining the taxpayer’s average annual gross receipts from the four preceding tax years, multiplied by the Fixed-Base Percentage (FBP).1

Idaho enforces geographical consistency by requiring that the gross receipts used in this calculation must also be Idaho-sourced. Idaho Code §63-3029G requires that a taxpayer’s gross receipts “include only those gross receipts attributable to sources within this state” as determined by the multistate corporation apportionment rules outlined in section 63-3027, Idaho Code.2

This requirement for “double sourcing”—applying the Idaho location filter to both the QRE inputs and the historical gross receipts base—is a necessary feature of the incentive structure. If a company with a small R&D footprint in Idaho were allowed to use large national gross receipts in the base calculation, it would result in a disproportionately low FBP, potentially inflating the resulting incremental credit relative to its actual economic activity within the state. By limiting both sides of the equation to Idaho-sourced data, the state ensures the credit accurately measures and rewards incremental growth relative to the taxpayer’s established economic presence in Idaho.1

B. Strategic Use of the Irrevocable Start-Up Election

A notable exception to Idaho’s general conformity with federal rules is the option to elect start-up company treatment. A taxpayer may elect to be treated as a start-up company for Idaho R&D tax credit purposes, regardless of whether the taxpayer meets the requirements for federal start-up status under IRC §41(c)(3)(B).3

This election is irrevocable once made 3 and provides significant predictability by establishing a fixed base percentage that is capped at $16\%$.1 For companies with minimal historical QREs or volatile gross receipts, this election can substantially reduce the calculated base amount, thereby maximizing the resulting credit for the current year. The use of this election provides a strategic lever for maximizing the utilization of the credit despite the inherent restrictions on QRE sourcing.

C. Credit Ordering and Utilization

The Idaho research credit is nonrefundable 1, meaning it can only offset income tax liability and cannot generate a refund. Furthermore, the credit is subject to a specific application hierarchy, ranking low among allowable business credits.2

Before applying the Idaho research credit (calculated on Form 67), a taxpayer must first utilize prior-ranked credits, which include:

1. Credit for tax paid to other states.
2. Credit for contributions to Idaho educational entities.
3. Investment Tax Credit (ITC, claimed on Form 49).2
4. Other credits like those for youth and rehabilitation facilities or production equipment using post-consumer waste.2

For capital-intensive firms, the Investment Tax Credit (which allows up to $3\%$ of qualified investments 14) often reduces the tax liability significantly, often converting the R&D credit into a carryforward asset. The state ensures the R&D incentive remains valuable by allowing unused credits to be carried forward for a generous period of up to 14 years.1 This extended carryforward period transforms the R&D incentive from a short-term offset into a long-term, valuable tax asset, rewarding companies that demonstrate sustained investment in Idaho.4

IV. Compliance in Practice: A Case Study of Exclusion

To fully appreciate the practical effect of the geographical exclusion, a case study demonstrates how non-Idaho expenditures are excised from the calculation on Idaho Form 67.

Scenario: Apex Dynamics and the Exclusion Mechanism

Apex Dynamics, a technology manufacturer, conducts research across three states: a main facility in Boise, Idaho, a testing lab in Oregon, and remote software engineers residing in Utah. In the current tax year, the company determines its total federal QREs are $\$2,500,000$. The task is to determine the Idaho QREs.

In this scenario, Apex Dynamics excludes $\$562,500$ of federally qualified expenses because the corresponding activity was conducted outside Idaho. The exclusion applies not only to the entirety of the remote worker wages and out-of-state contract costs but also to the portion of the Senior VP’s wages and travel supplies used outside the state.

A. Calculation of the Idaho Credit

Using the resulting Idaho QREs, the taxpayer completes Idaho Form 67 (Credit for Idaho Research Activities). Assuming the company has historically sourced average annual Idaho gross receipts of $\$5,000,000$ and has an FBP of $10\%$:

• Current Year Idaho QREs (A): $\$885,000$
• Prior 4-Year Average Idaho Gross Receipts (B): $\$5,000,000$
• Fixed-Base Percentage (FBP): $10\%$

Step 1: Calculate Base Amount (FBP Method)

$$\$5,000,000 \times 10\% = \$500,000$$

Step 2: Apply Minimum Base Rule

The base amount must be the greater of the FBP calculation $(\$500,000)$ or $50\%$ of the current year Idaho QREs $(\$885,000 \times 50\% = \$442,500)$.1

The resulting Base Amount is $\$500,000$.

Step 3: Calculate Incremental QREs

$$\$885,000 – \$500,000 = \$385,000$$

Step 4: Calculate Idaho Credit

$$\$385,000 \times 5\% = \$19,250$$

The total Idaho R&D tax credit earned by Apex Dynamics is $\$19,250$. Had Apex not meticulously sourced its expenses, erroneously including the full $\$1,447,500$ in federal QREs, the resulting claim would be vulnerable to a full or partial disallowance by the ISTC, potentially leading to audit penalties based on the unallowable expenses.

V. Conclusion and Recommendations

The stringent geographical restriction—the exclusion of research conducted outside Idaho—is the most crucial factor distinguishing the Idaho R&D tax credit from its federal counterpart. This limitation dictates not only the eligibility of current expenses but also the necessary inputs for calculating the long-term base amount.

The Idaho State Tax Commission’s application of this exclusion, particularly regarding wage sourcing, places a high burden on multi-state taxpayers. The strict requirement to exclude wages for services performed outside Idaho, even by resident employees, necessitates precise, location-based time-tracking and documentation far exceeding typical federal compliance standards.

Recommendations for Optimal Compliance and Maximization

To successfully claim and defend the Idaho R&D tax credit, multi-state taxpayers are advised to adopt the following strategies:

1. Implement Granular Geographic Sourcing: Develop robust, verifiable systems that track the physical location where all qualified research activities occur. This includes time-tracking for hybrid and remote R&D personnel to accurately apportion qualified wages and maintaining clear documentation showing the final consumption location of supplies.10
2. Ensure Base Calculation Consistency: Verify that the gross receipts used in the base period calculation utilize Idaho’s apportionment rules, aligning the historical denominator with the localized nature of the QRE numerator, thus avoiding base manipulation that could lead to audit adjustments.1
3. Strategically Leverage State-Specific Elections: Assess the benefit of the irrevocable start-up company election available under Idaho Code §63-3029G. This election can stabilize or reduce the FBP, significantly improving the current year credit calculation, especially for companies with high growth or volatile historical data.5
4. Prioritize Credit Carryforward Planning: Recognize that due to the credit ordering rules (ranking below the Investment Tax Credit and others), the R&D credit may frequently result in a carryforward balance. Tax planning should account for the credit as a valuable, long-term asset, secured by the generous 14-year carryforward period, ensuring future tax liabilities are offset.1

R&D Tax Credit Preparation Services

Swanson Reed is one of the only companies in the United States to exclusively focus on R&D tax credit preparation. Swanson Reed provides state and federal R&D tax credit preparation and audit services to all 50 states.

If you have any questions or need further assistance, please call or email our CEO, Damian Smyth on (800) 986-4725.
Feel free to book a quick teleconference with one of our national R&D tax credit specialists at a time that is convenient for you.

R&D Tax Credit Audit Advisory Services

creditARMOR is a sophisticated R&D tax credit insurance and AI-driven risk management platform. It mitigates audit exposure by covering defense expenses, including CPA, tax attorney, and specialist consultant fees—delivering robust, compliant support for R&D credit claims. Click here for more information about R&D tax credit management and implementation.

Our Fees

Swanson Reed offers R&D tax credit preparation and audit services at our hourly rates of between $195 – $395 per hour. We are also able offer fixed fees and success fees in special circumstances. Learn more at https://www.swansonreed.com/about-us/research-tax-credit-consulting/our-fees/