Expert Report: The Transformation of the Kansas Research and Development Tax Credit under House Bill 2239

Executive Summary: Strategic Enhancement of Kansas R&D Investment

House Bill 2239 significantly revitalized the Kansas R&D tax credit, increasing the credit rate from 6.5% to 10% of qualified expenditures above the historic base, and, crucially, allowing taxpayers to transfer the credit if they lack sufficient state tax liability.

This landmark legislation, effective for tax year 2023 and beyond, expands eligibility beyond C corporations to all income taxpayers, including pass-through entities, positioning Kansas as a more competitive environment for innovation and research investment.

I. Contextualizing House Bill 2239 (Legislation Increasing Credit)

A. Legislative Environment and Omnibus Tax Reform

The statutory changes affecting the Kansas Research and Development (R&D) tax credit, codified primarily within K.S.A. 79-32,182b, were enacted as part of the broader legislative initiative known as House Bill 2239 (HB 2239) during the 2022 legislative session.1 HB 2239 was not a single-issue bill but rather comprehensive omnibus legislation addressing numerous aspects of Kansas tax law, including income, sales, and property tax reforms.2

The scope of HB 2239 included several key provisions aimed at stimulating economic activity and attracting specific industries. These provisions included establishing the SALT Parity Act, which permits pass-through entities (PTEs) to elect to pay state income tax at the entity level 2; creating new tax credits for contributions made to community colleges and technical colleges 4; enacting specialized credits for graduates and employers in aerospace and aviation-related fields; and modifying homestead property tax refunds.5

The coordinated introduction of these tax measures, particularly the enactment of the SALT Parity Act alongside the R&D credit expansion for PTEs, reflects a calculated economic development strategy. By providing a mechanism for PTE owners to optimize their federal deduction for state taxes while simultaneously offering a substantial tax credit to reduce their state tax liability for innovation activities, the legislature demonstrated a clear intention to aggressively attract and retain high-growth companies typically structured as S-Corps or LLCs. This holistic approach ensures that the state not only makes it cheaper to innovate (via the enhanced 10% R&D credit) but also improves the overall operating environment for businesses through federal tax optimization benefits.

B. Policy Objectives: Addressing Historical Barriers to R&D Investment

The specific goal concerning the R&D tax credit within HB 2239 was explicitly stated as “expanding eligibility, amount and transferability”.3 This comprehensive modification addressed two fundamental structural weaknesses that historically limited the credit’s effectiveness.

First, prior law restricted the ability to claim the credit primarily to C corporations, thereby excluding a vast segment of innovative businesses, particularly technology startups and small-to-midsize manufacturing firms typically organized as partnerships, S-corporations, or LLCs.1 Expanding eligibility was necessary to ensure the incentive reached the full spectrum of the state’s innovation economy.

Second, the credit was non-refundable, meaning businesses without a current Kansas income tax liability could only utilize the credit through long-term carryforwards.8 While many innovative companies perform substantial R&D, they frequently operate at a loss during their early, high-investment years. For such loss-generating companies, a non-refundable credit offers little immediate value. By introducing transferability for taxpayers without current tax liability, Kansas transformed the credit from a deferred tax asset into an immediate source of non-dilutive working capital.1 This structural transformation shifts the Kansas R&D credit from purely a tax relief measure into a highly effective economic development tool, subsidizing research and development at the critical, high-risk stage when companies most require financial resources. This mechanism is anticipated to attract new businesses to the state, leading to increased investment and economic growth.9

II. Core Amendments to the Research and Development Tax Credit (K.S.A. 79-32,182b)

The major amendments affecting the Kansas R&D tax credit are effective for all taxable years commencing after December 31, 2022.7

A. The Quantitative Enhancement: Increased Credit Rate

The most direct change introduced by HB 2239 was the significant increase in the credit calculation rate.

Prior to 2023, the credit amount was determined using a rate of 6.5 percent of the difference between the qualified research and development expenses for the current year and the three-year historical average (the base amount).8

For all taxable years commencing after December 31, 2022, the calculation rate increased to 10% of that difference, or “excess QREs”.8 This rate adjustment constitutes a 53.8 percent increase in the incentive value per dollar of creditable R&D spending compared to the prior law.

This substantial increase in subsidy demonstrates a strong political and fiscal commitment by Kansas to stimulating technological development. The size of this rate hike is highly competitive nationally and signals confidence that the long-term economic benefits, such as job creation and expansion of the tax base, will outweigh the projected annual reduction in state revenues (indicated by fiscal analyses to become a permanent reduction of approximately $1.9 million after FY 2029).11 The enhanced rate makes the cost-benefit analysis for initiating or expanding R&D projects significantly more favorable within the state.

B. Expanded Eligibility: Opening the Door to Pass-Through Entities

Historically, for tax years beginning in 2013 through 2022, the Kansas R&D credit was primarily available solely to corporations subject to the Kansas corporate income tax, effectively limiting claims to C corporations.7 This structural limitation was removed by HB 2239.

Beginning with tax year 2023 and thereafter, the credit is available to any Kansas income taxpayer, regardless of entity classification.1 This expansion includes individuals, partnerships, S corporations, limited liability companies (LLCs), and C corporations that engage in qualified research and development activities within Kansas.7

For pass-through entities, the credit generated at the entity level now flows down to the owners (partners, shareholders, or members) for use against their individual Kansas income tax liability. This broad expansion required the Department of Revenue (KDOR) to issue guidance to clarify the new procedures for allocation and compliance. Taxpayers who conduct activities that satisfy the federal definition of Qualified Research Expenditures (QREs), as defined under Internal Revenue Code Section 41 8, must now ensure that their internal documentation is robust enough to support both the federal definition and the new state allocation requirements, particularly concerning the flow-through of the credit to owners.

C. Introduction of Credit Transferability: Liquidity and Monetization

The most transformative change implemented by HB 2239 is the introduction of transferability for the R&D credit, which is effective for all new credits generated in tax year 2023 and subsequent years.1

Transfer Rules and Limitations

The KDOR guidance stipulates clear criteria for transferability 8:

1. Eligibility: The transferor (the entity that earned the credit) must be a taxpayer without a current tax liability against which the credit can be utilized.1
2. Transferee: The credit can be transferred to any person, allowing a third-party taxpayer with sufficient tax liability to purchase the credit.8
3. Transfer Scope: Only the full credit amount may be transferred; partial transfers are prohibited.8
4. Transfer Limit: The credit may only be transferred one time.8 Only the entity that originally earned the credit is permitted to perform the transfer.8
5. Carryforward: The transferee may claim the purchased credit in the tax year it was transferred. Any unused portion of the credit claimed by the transferee may be carried forward until the credit is entirely used, subject to the annual utilization limitations in place at the time the credit was earned.1

The restriction that the credit can only be transferred once, and must be transferred in full, places significant constraints on the secondary market. A transferor must locate a single buyer capable of absorbing the entire certified credit amount, which may span multiple tax years due to the annual utilization cap (detailed below). If a buyer cannot utilize the credit quickly, they will inevitably demand a higher discount rate to compensate for the delayed realization and the inability to resell the credit. This negotiation dynamic necessitates that transferors seek sophisticated advice to accurately price the credit and minimize the discount rate, often by targeting large corporate buyers with predictable, substantial Kansas tax liabilities.

III. Kansas Department of Revenue (KDOR) Administrative Guidance and Compliance

The implementation of the enhanced R&D tax credit requires taxpayers to adhere strictly to administrative procedures established by the Kansas Department of Revenue, largely articulated in official tax notices and forms.

A. The Calculation Methodology and Qualification Criteria

The core qualification for the Kansas R&D credit is that the expenditures made for research and development purposes must be allowable under the provisions of the federal Internal Revenue Code of 1986, specifically IRC §41.8

The credit is calculated using a “fixed-base” methodology, comparing the current year’s Qualified Research Expenditures (QREs) to a three-year average:

$$\text{Credit} = 10\% \times (\text{Current Year QREs} – \text{Base Amount})$$

Where the Base Amount is defined as the average of the actual QREs for the current tax year and the two previous tax years.8

This formula inherently encourages sustained and increasing investment in R&D. Since the current year’s QREs are included in the three-year average calculation, a taxpayer must actively increase its QREs year-over-year to generate substantial credits. Static or decreasing R&D spending is penalized because the base amount rises along with the current year expenditure, thereby minimizing the “excess QREs” eligible for the 10% credit. Therefore, maximizing the benefit requires strategic tax planning that models future QRE investment to ensure consistent growth.

Annual Utilization Limitation

The credit allowed in any single tax year is strictly limited to 25% of the generated credit, plus any carryforward amount from previous years.7 Any remaining unused credit may be carried forward indefinitely in 25% increments until the total amount of the credit is used.8

B. Mandatory Pre-Approval Requirement: Form K-204

A significant change in administrative procedure is the requirement for pre-approval. Unlike prior years, taxpayers seeking to claim or transfer the credit must complete and submit Form K-204 (Research and Development Credit Application) to the KDOR.1

The K-204 form serves as a means for the KDOR to review and certify the validity and amount of the credit generated before it is utilized or transferred.13 The application requires detailed information, including expenditures and computation of the credit, and taxpayers must specify any flow-through entities or individual owners to whom the credit will be allocated.13 Upon approval, the state issues a tax credit certificate number, which is necessary for subsequent tax filings.

This mandatory certification process fundamentally de-risks the credit for potential purchasers (transferees). Because the KDOR has officially validated the amount of the credit through the K-204 process, the audit risk for the third-party purchaser is significantly reduced, which in turn enhances the credit’s marketability and increases the purchase price realized by the transferor. Taxpayers are advised to treat the K-204 application as a crucial, high-priority compliance step, ensuring robust documentation is prepared to secure rapid certification.

C. Credit Transfer Procedures and Required KDOR Forms

Transferring a certified R&D credit requires adherence to a specific procedural sequence involving multiple forms, establishing a comprehensive audit trail for the KDOR.

Table: Required KDOR Forms for R&D Credit Generation and Transfer

The requirement for three distinct forms—certification (K-204), transaction documentation (K-260), and return reporting (K-53) 8—allows the KDOR to precisely track the credit from its generation to its final utilization by the transferee. This stringent structure ensures compliance with the rule that the credit may only be transferred once and verifies that the transferor was without sufficient tax liability at the time of transfer.

For transferees, the maintenance of records for all three forms is essential to substantiate the legality and value of the purchased credit against any potential future state audits, particularly since the underlying QRE documentation must still be maintained by the original transferor for substantiation purposes.

IV. Illustrative Financial Modeling: R&D Credit Calculation Example

The following example illustrates the calculation of the Kansas R&D credit under the enhanced 10% rate, applicable for tax years beginning after 2022.

A. Scenario Setup: Accelerated QRE Growth

Consider InnovateTech Inc., a Kansas-based company structured as an S-Corporation that became eligible for the credit starting in 2023. The company’s qualified Kansas research expenditures (QREs) over a three-year period are as follows:

B. Step-by-Step Calculation of the 10% Credit

The calculation requires determining the three-year average base amount to establish the level of historical spending that must be surpassed to generate the new credit.

Table: Illustrative Calculation of the 10% Kansas R&D Tax Credit

C. Post-Calculation Strategy: Utilizing the Credit

The total certified credit generated by InnovateTech Inc. in 2023 is $60,000. This amount is subject to the annual utilization limitation.

1. Maximum Annual Utilization: The maximum credit that can be claimed in any one tax year is 25% of the generated amount, plus any carryforward.8

• Maximum 2023 Use: $\$60,000 \times 25\% = \$15,000$.

1. Scenario: Internal Utilization: If InnovateTech Inc. has a flow-through liability (or corporate tax liability) of $20,000 in 2023, it may utilize the full $15,000 limit.

• The remaining carryforward balance is $\$60,000 – \$15,000 = \$45,000$.
• This $45,000 may be carried forward indefinitely, utilized at a maximum rate of $15,000 (25% of the original generated credit) in each subsequent year, assuming sufficient liability.

1. Scenario: Credit Transfer: If InnovateTech Inc. operates at a loss or has a minimal Kansas tax liability (less than $15,000) in 2023, and thus has no current tax liability, the full $60,000 credit may be transferred to a third party after KDOR certification (K-204). The buyer (transferee) would then utilize the credit subject to the same $15,000 annual limit.

The existence of the 25% utilization cap means that even a successful transfer of a $60,000 credit requires the buyer to have sufficient liability over a minimum of four years for full utilization. This constraint underscores why the transferability feature is so important for providing immediate value to the transferor, converting a multi-year deferred tax asset into immediate cash flow, albeit at a discounted rate reflecting the time value of money and the 25% annual limit.

V. Strategic Impact and Economic Outlook

A. Economic Incentivization and Competitive Positioning

The policy enhancements under HB 2239 significantly improve Kansas’s competitive landscape for attracting and retaining innovative capital. By increasing the subsidy rate by over 50 percent and making the credit accessible to the majority of high-growth companies (PTEs), the state signals a strong commitment to fostering research activity.9

The design of the transferability provision is noteworthy because it enables the state to provide the effect of a refundable credit to loss-generating R&D companies without incurring the direct budgetary cost of issuing a cash refund. Instead, the revenue reduction is realized when the credit is utilized by the profitable third-party transferee. This structural elegance maximizes the incentive effect—providing liquidity to cash-constrained innovators—while stabilizing the state’s immediate cash flow management. This is particularly attractive to early-stage technology and manufacturing firms who rely on immediate capital injections to fuel hiring and operational expansion within Kansas.

B. Administrative Challenges and Fiscal Effects

The increased complexity resulting from the expansion of benefits necessitates rigorous administrative oversight by the KDOR. The implementation of the mandatory pre-approval process (Form K-204) and the strict documentation requirements for transfers (Forms K-260 and K-53) are essential mechanisms for managing this complexity.8

While fiscal notes indicated a manageable revenue reduction in the short term, the prior low utilization rates 14 suggest that the revenue impact will increase substantially as newly eligible PTEs begin to claim and monetize their credits, potentially exceeding initial fiscal estimates.

The transfer mechanism introduces a unique compliance challenge regarding audit risk. While the K-204 certification validates the amount of the credit for the transferee, the underlying QREs remain subject to audit by the KDOR. Should the original transferor cease operations, the documentation chain for the R&D activity could become fragmented. Therefore, transferees engaging in the secondary market must establish strong contractual protections, including indemnification clauses, that obligate the transferor to cooperate in any future audit involving the credit’s original validity.

C. Future Strategic Tax Planning Considerations

The enhanced R&D tax credit landscape in Kansas necessitates a strategic, multi-year approach to tax planning.

Because the fixed-base formula rewards QRE growth 12, companies should continuously model their future R&D investment profiles. This includes conducting studies on the timing of capital expenditures and employee hiring to determine whether accelerating QREs into one year, despite increasing the three-year base, yields greater overall cash flow through immediate transfer opportunities compared to smoothing expenditures over time.

For multi-state operations, proper segregation and apportionment of QREs specific to Kansas activities are mandatory to ensure the full benefit of the 10% credit is captured without risking non-compliance regarding federal IRC §41 qualifications.8

Comprehensive R&D tax studies, performed annually, are now critical for large innovative companies in Kansas. These studies must not only calculate the generated credit but also strategically determine the optimal method of utilization—retaining the credit for long-term use against tax liabilities, or monetizing it immediately through the secondary market when working capital requirements are paramount.

Conclusion: Maximizing the Enhanced Kansas R&D Opportunity

House Bill 2239 successfully transformed the Kansas Research and Development tax credit into a highly competitive and functional incentive for innovation. By increasing the rate to 10%, expanding eligibility to include critical pass-through entities, and, most notably, introducing transferability for loss-generating companies, Kansas has provided a clear, actionable incentive for businesses to invest and grow within the state.

To maximize the benefit, taxpayers must focus rigorously on compliance and strategic planning. This includes successfully navigating the mandatory KDOR pre-approval via Form K-204, understanding the stringent requirements of the one-time, full credit transfer via Form K-260, and structuring R&D investment to ensure continuous QRE growth above the three-year base amount. Careful adherence to these procedural and quantitative mandates is essential to fully realize the financial benefits offered by this enhanced legislative statute, effectively turning research expenditures into valuable, monetizable tax assets.

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