Qualified Research Supplies: An Expert Analysis of Eligibility under the Kansas R&D Tax Credit (K.S.A. §79-32,182b)

The definition of Supplies for Qualified Research Expenses (QREs) centers on tangible property consumed or used up during the actual process of experimentation. This specifically excludes property that is subject to depreciation, such as reusable tools, equipment, or machinery, ensuring that only true expenditures related to technological uncertainty are included.

This report provides an in-depth analysis of the statutory requirements and administrative guidance governing the inclusion of supply costs in claims for the Kansas Research and Development (R&D) Tax Credit. Accurate classification of these costs is crucial for maximizing tax benefits and ensuring compliance with both the Kansas Department of Revenue (KDOR) and federal Internal Revenue Code (IRC) standards.

Overview of the Kansas Incentive (K.S.A. §79-32,182b)

The Kansas Research and Development Tax Credit, codified under K.S.A. §79-32,182b, is a vital state incentive designed to encourage businesses to invest in qualified research activities performed within the state.1 This incentive provides a direct offset against Kansas income tax liabilities.

For tax years commencing after December 31, 2022, the credit rate was significantly increased to 10%.1 This credit is calculated on the excess of current-year Qualified Research Expenses (QREs) over the average of the QREs incurred during the current tax year and the two preceding tax years.1

The structure of the Kansas R&D credit includes specific operational parameters that influence financial planning:

1. Utilization Limitation: In any one taxable year, the amount of credit allowable for deduction from the taxpayer’s liability cannot exceed 25% of the total calculated credit plus any applicable carryforward amount.3
2. Indefinite Carryforward: Any remaining unused credit can be carried forward indefinitely in 25% annual increments until it is fully utilized.1
3. Transferability: Beginning with tax year 2023, a new provision allows taxpayers without a current Kansas tax liability to transfer the full amount of the credit to any other person.2 This transfer is permissible only once for the entire credit amount.2

The substantial 10% rate increase emphasizes the need for meticulous identification and calculation of all eligible QREs, especially in categories like supplies, which often constitute a major portion of research spending.

Section I: The Foundational Link—Kansas Statute and Federal Tax Law

Understanding the definition of “Supplies” in Kansas begins not with state regulations, but with the federal framework, as the Kansas statute adopts the federal definitions entirely.

1.1 K.S.A. §79-32,182b: Calculation and Mechanism

The structure of the Kansas credit—being incremental—carries inherent, long-term financial implications for any misclassification of expenditures. The credit is fundamentally based on increasing research activity; consequently, the current year’s QREs are benchmarked against a prior three-year rolling average (the base amount).1

If a taxpayer incorrectly includes expenses (such as non-qualifying supplies) in the current year’s QRE total ($\text{QRE}_{\text{current}}$), two negative outcomes result:

1. Immediate Denial: If audited, the current year’s credit calculation will be adjusted, leading to potential underpayment penalties and interest.
2. Future Disadvantage: The inflated $\text{QRE}_{\text{current}}$ figure is subsequently factored into the calculation of the three-year base amount for the next two tax periods. This artificially elevates the baseline needed for the taxpayer to demonstrate incremental research spending in subsequent years. By raising the bar for future qualified spending, the error diminishes the potential credit benefit for up to two years following the incorrect claim.

The compounding, multi-year negative financial ripple effect created by errors in supply classification underscores the necessity of conservative and precise accounting from the outset.

1.2 Statutory Conformity: IRC Section 41 as the Controlling Definition

The Kansas statute, K.S.A. §79-32,182b(c), explicitly links the state’s definition of eligible R&D expenditures to federal tax law. It specifies that “expenditures in research and development activities” must be those that are “treated as expenses allowable for deduction under the provisions of the federal internal revenue code of 1986, as amended”.3

This statutory mandate dictates that Kansas taxpayers must adhere to the extensive definitions, rules, and case law developed under Internal Revenue Code (IRC) Section 41, which governs the federal Credit for Increasing Research Activities.1 The federal code defines QREs in four main categories: wages, contract research expenses, computer rentals, and supplies.1 Therefore, the state of Kansas directly adopts the federal criteria for what constitutes a qualified research supply.

Section II: Deconstructing “Supplies” for Tax Credit Purposes

The technical definition of Supplies is governed by IRC §41(b)(2)(C) and is often the most significant area of compliance risk due to confusion between consumable items and capitalized assets.

2.1 The Definition of Supplies under IRC §41(b)(2)(A)(ii) and (C)

Supplies fall under the umbrella of “in-house research expenses”.6 The statute defines them clearly but narrowly. An eligible supply expenditure is “any amount paid or incurred for supplies used in the conduct of qualified research”.6

Crucially, the IRC provides definitive statutory exclusions: the term “supplies” means any tangible property other than two specific categories 7:

1. Land or improvements to land.
2. Property of a character subject to the allowance for depreciation.

2.2 The Depreciable Property Exclusion: The Critical Distinction

The second exclusion, prohibiting the inclusion of depreciable property, is the central differentiating factor between qualified supplies and capitalized research assets. If an item possesses a useful life typically exceeding one year and is classified for capitalization and depreciation for federal tax purposes, its cost cannot be claimed as a QRE supply expense, regardless of how intensely it is used in the research process.7

Property “subject to the allowance for depreciation” includes testing equipment, machinery, and reusable specialized tools (such as molds, jigs, or fixtures).8 For example, a company that purchases a laser-cutting machine specifically for building prototypes must treat the machine’s cost as a capital expenditure subject to depreciation, not as a consumable supply expense eligible for the credit.8 Items that are considered consumable or expendable, such as paper or staples, are typically defined as having a very short useful life, often less than one year, which differentiates them from long-term equipment.9

2.3 The “Consumption” Requirement: Supplies vs. Inventory

For tangible property to qualify as a supply, it must be consumed, integrated, or rendered useless during the execution of the process of experimentation aimed at resolving technological uncertainty.

Qualifying supplies typically include raw materials used in the construction of prototypes, chemicals or reagents consumed during laboratory testing, or electronic components incorporated into trial models.1 These materials must be consumed directly in the research activity.

A critical nuance in R&D tax law is that the ultimate failure, success, or eventual use of the material in the research phase does not determine its initial eligibility.8 If specialized plastics and circuitry are purchased to build a medical device prototype and are subsequently destroyed during performance testing, the cost of those components generally qualifies.8

However, classification becomes complex when materials used in research are closely related to a company’s eventual product inventory. Qualified supplies are often raw materials that could later become part of salable inventory. If a material is used in a prototype but that prototype is ultimately successful and sold to recoup costs, the expense has shifted from a research consumption expense to an inventory cost recovered through the Cost of Goods Sold (COGS) deduction.

This situation requires rigorous tracking to prevent the taxpayer from claiming a dual benefit: receiving a tax credit on the material cost and later deducting the same cost through COGS. Taxpayers must meticulously track the moment of consumption or destruction in the research phase versus the point at which the material transitions to salable inventory. Any material costs included in QREs must be systematically removed from the inventory costs accounted for in COGS.

2.4 Non-Qualifying General Use and Indirect Items

The definition of supplies requires direct use in the process of experimentation. Expenses incurred for items that support general business operations or indirect overhead, even within the R&D facility, are generally excluded.

Examples of non-qualifying items include administrative off-the-shelf software purchased for general research analysis, routine office consumables like paper and toner 8, or standard utilities used to illuminate the office space of the R&D team. Only utility costs that are demonstrably consumed directly by the research activity itself—such as specialized power demands for operating test beds or climate-controlled environments for experiments—may be allocated as QREs.

Section III: Specific Categories of Qualifying Supply Expenses and Allocation Nuances

Taxpayers must move beyond the basic definitions and address the practical challenges of substantiation and allocation for specific supply types.

3.1 Raw Materials and Components

This category encompasses the foundational physical inputs that are incorporated into a prototype, design, or model. Qualified materials include specialized metals, plastics, textiles, chemicals, or custom electronic circuit boards.8 Eligibility hinges on the material being irrevocably altered, consumed, or integrated into a temporary research output that is not intended for immediate commercial sale or reuse outside the research environment.

3.2 Chemicals, Reagents, and Consumable Laboratory Items

In industries such as chemical manufacturing, life sciences, and pharmaceuticals, supplies are defined by their consumable nature in precise testing and formulation. Qualifying items include solvents, specialized gases, reagents, test kits, biological media, and clinical trial supplies that are expended during analysis or experimentation.8 Documentation must establish that the consumption of these items was necessary to resolve a technological uncertainty identified in a qualified research project.

3.3 Allocation Challenges and Proving Nexus

Where a supply item is purchased in bulk and used for both qualified R&D activities and non-qualified business or production activities, the taxpayer cannot claim the entire cost. A documented, auditable allocation methodology must be established. This method must accurately determine the portion of the cost (often based on physical consumption, time, or project budgets) attributable to qualified research.

The KDOR emphasizes meticulous record-keeping, mandating that taxpayers maintain detailed, itemized schedules of expenditures.4 To meet this standard and ensure eligibility during an audit, documentation must demonstrate a clear nexus (connection) between the purchased supply and the specific research activity. Examples of robust documentation include lab log entries detailing material consumption, project-specific material requisition forms, or inventory reports tracking material drawdown exclusively for R&D projects.

To clarify the critical distinctions in classification, the following table summarizes the criteria adopted by Kansas via IRC Section 41:

Table 1: Defining Qualified Research Supplies (IRC §41 Conformance)

Section IV: Kansas Department of Revenue (KDOR) Administrative Guidance and Procedure

The administrative requirements set forth by the KDOR are crucial for the proper claiming of the R&D tax credit, particularly regarding the categorization and reporting of supply costs.

4.1 Claiming the Credit: Overview of KDOR Forms

To claim the R&D tax credit, the taxpayer must complete and submit Schedule K-53, Kansas Research and Development Credit, along with their state income tax return.2

For tax years beginning in 2023 and thereafter, it is also recommended that taxpayers first submit Form K-204 to the Department for certification before the credit is formally claimed on the return using Schedule K-53.1 Claims are often supported by documentation consistent with federal requirements, typically equivalent to the documentation prepared for federal Form 6765.1

4.2 Reporting Supply Costs on Schedule K-53

Schedule K-53 provides three primary categories for reporting QREs on Line 1, Part A: Machinery and Equipment (which, for R&D purposes, often refers to computer rentals or specialized property), Payroll, and Other (describe).4

Qualified research supply expenses, as defined under IRC Section 41, must be aggregated and reported on Line 1 under the category designated “Other (describe)”.4

The instructions for Schedule K-53 mandate that the taxpayer provide a description of the “other” expenditures. This description must be included either in the designated space on the form or through an attached schedule if necessary.4

4.3 KDOR Audit Preparedness and Documentation Requirements

The KDOR’s Schedule K-53 structure, which funnels all nuanced, federally defined supply costs into the generic “Other (describe)” category, makes this entry a point of increased audit focus. Tax administration practice often flags generic or ambiguously described expenditures for closer examination. For the Kansas R&D credit, the dollar value entered under “Other (describe)” represents a high-risk area requiring robust substantiation.

The KDOR’s general instructions require exceptional internal record-keeping, stating that the taxpayer must “keep an itemized schedule of expenditures for amounts claimed on lines 1, 2a, and 2b. KDOR… reserves the right to request this information as necessary”.4

To mitigate audit risk, the itemized schedule supporting supply costs must clearly document:

1. Source: The invoice or purchase order verifying the expense.
2. Nexus: The specific qualified research project or activity requiring the supply.
3. Consumption Evidence: Proof that the item was consumed, integrated, or scrapped during the process of experimentation (e.g., lab logs, destruction reports).
4. Classification: Confirmation that the property is tangible, not land or improvements, and is not of a character subject to depreciation.

Preparation of this itemized schedule should be viewed not merely as a response to a potential KDOR request, but as a necessary prerequisite for accurately calculating and reporting the credit.

Section V: Case Study and Calculation Example

To illustrate the necessary classification and reporting process for qualified research supplies, the following example applies the federal and state requirements to a hypothetical Kansas taxpayer.

5.1 Example Scenario: A Specialized Component Manufacturer

TechNova Inc., a Kansas-based entity, is engaged in the development of a new, high-performance alloy for aerospace applications. In the 2024 tax year, the R&D team incurred several expenditures for materials used in their experimentation process.

The following analysis details the classification of these materials based on the consumption and depreciable property rules:

5.2 Applying the Consumption Rule to Determine Eligibility

Based on the required consumption criteria, only the High-Grade Titanium Powder and the Laboratory Safety Consumables qualify as research supplies for QRE calculation.

Table 2: Hypothetical Calculation of Supply QREs for Kansas

5.3 Integration into the Kansas R&D Credit Formula

The $85,000 in Qualified Supply Expenditures is aggregated with other QREs (Wages and Contract Research). Assuming TechNova Inc. had other qualifying expenditures, leading to a total current-year QRE of $1,000,000, and a calculated 3-year average base amount of $800,000, the supply costs feed directly into the Kansas incremental calculation governed by K.S.A. §79-32,182b:

1. Current QREs (Line 1, K-53): $1,000,000 (Includes $85,000 in Supplies, reported under “Other (describe)”)
2. Base Amount (Line 4, K-53): $800,000 (Average of current and two prior years’ QREs)
3. Excess QREs (Line 5, K-53): $\$1,000,000 – \$800,000 = \$200,000$
4. Total Credit (Line 6, K-53): $\$200,000 \times 10\% = \$20,000$ 3
5. Maximum Allowable Credit (Line 7, K-53): $\$20,000 \times 25\% = \$5,000$ (Amount claimable against current tax liability) 3

The remaining $15,000 of the credit is eligible for indefinite carryforward.

Conclusion: Maximizing the Kansas R&D Credit Through Robust Supply Tracking

The administration of the Kansas R&D Tax Credit, specifically concerning the definition and documentation of qualified research supplies, is an exercise in rigorous federal tax conformity and meticulous state reporting. K.S.A. §79-32,182b necessitates strict adherence to IRC Section 41, requiring taxpayers to understand the nuanced distinction between tangible property that is consumed during experimentation and property that is capitalized and subject to depreciation.

The KDOR’s procedural requirement to report supply costs under the generic “Other (describe)” field on Schedule K-53 effectively elevates the audit risk for these expenditures. Consequently, proactive, project-level accounting is essential. Taxpayers must ensure that all claimed supply costs are supported by detailed, itemized schedules that establish the non-depreciable nature of the expense and the direct consumption in activities satisfying the four-part research test. Robust documentation minimizes audit risk, safeguards the current year’s credit, and prevents the unintentional inflation of the three-year base period, thereby preserving the long-term integrity of future credit claims.

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