Strategic Analysis of IRC Section 41(d) and the Maine Research Expense Tax Credit

The Maine Research Expense Tax Credit provides a 5% incentive for qualified research expenditures conducted within the state, as defined by Internal Revenue Code Section 41(d). This nonrefundable credit encourages businesses to innovate by offsetting Maine income tax liabilities based on research activities that meet a rigorous four-part federal test.1

The credit is fundamentally an incremental mechanism designed to stimulate local economic growth by lowering the after-tax cost of technological advancement.3 To qualify, a taxpayer must not only incur expenses that are deductible under Section 174 but also demonstrate that the research is technological in nature, intended for a specific business component, and involves a systematic process of experimentation.5 While Maine piggybacks on federal definitions, the state-specific application requires a strict geographic nexus, limiting the credit solely to activities performed within the borders of Maine.1 This policy environment creates a complex intersection of federal tax theory and state administrative practice, requiring businesses to maintain meticulous records to navigate the nuances of conformity, apportionment, and substantiation.4

Foundational Framework: The Definition of Qualified Research Under IRC Section 41(d)

The legal eligibility for the Maine Research Expense Tax Credit is anchored in the federal definition of “qualified research” established under Section 41(d) of the Internal Revenue Code.4 Understanding the Maine credit requires an exhaustive examination of these federal standards, as the state statute specifically adopts the federal meanings for terms such as “qualified research expenses,” “basic research,” and “qualified organization base period amount”.10

Qualified research is defined as research for which expenditures may be treated as expenses under Section 174, undertaken for the purpose of discovering information that is technological in nature, and intended to be useful in the development of a new or improved business component.5 Furthermore, substantially all of the activities must constitute elements of a process of experimentation relating to a qualified purpose.6 This definition is commonly dissected into four distinct requirements, often referred to as the Four-Part Test.7

The Section 174 Requirement

The first pillar of the definition mandates that the research expenditures must qualify for treatment under Section 174.6 This section addresses research and experimental costs in the “experimental or laboratory sense”.14 Activities meet this criterion if they are intended to discover information that would eliminate uncertainty concerning the development or improvement of a product.6 Uncertainty exists if the information available to the taxpayer does not establish the capability or method for developing or improving the business component, or the appropriate design of the business component.6

Recent shifts in federal law, specifically the move from immediate expensing to mandatory five-year amortization for Section 174 expenses, have created significant ripples in state-level tax planning.15 While Maine generally conforms to the Internal Revenue Code, its “static” conformity model means that the state legislature must periodically update the tie-in date to incorporate federal changes.16 As of late 2025, Maine has taken a nuanced approach to these changes, granting the Governor temporary authority to adjust conformity to avoid administrative chaos during filing seasons.16

The Technological in Nature Requirement

The second pillar requires that the research be undertaken to discover information that is technological in nature.6 This requirement is satisfied if the process of experimentation fundamentally relies on principles of the physical or biological sciences, engineering, or computer science.6

The regulations clarify that a taxpayer may employ existing technologies and rely on existing principles of science to satisfy this requirement; the research does not necessarily need to be a breakthrough for the industry at large, but it must involve a quest for information that is new to the taxpayer.6 However, research that relies on the “soft sciences”—such as economics, social sciences, arts, or humanities—is explicitly excluded.5

The Business Component Requirement

The third pillar, known as the Business Component Test, requires the taxpayer to intend to apply the discovered information to develop a new or improved business component.6 A business component is defined as any product, process, computer software, technique, formula, or invention to be held for sale, lease, or license, or used by the taxpayer in its trade or business.7

A vital administrative concept within this test is the “shrink-back rule”.14 If the research activities as a whole fail the four-part test at the level of the entire product, the test is applied to the next most significant subset of elements.14 This allows a manufacturer to claim the credit for the successful technological development of a specific engine component even if the development of the overall vehicle did not meet the rigorous standards of Section 41(d).12

The Process of Experimentation Requirement

The final and often most difficult requirement to satisfy is the Process of Experimentation Test.6 This requires that “substantially all”—defined as 80% or more—of the research activities constitute elements of a process of experimentation.6 A process of experimentation is a systematic evaluation of one or more alternatives to achieve a result where the capability, method, or design is uncertain at the beginning of the research.6

The Internal Revenue Service (IRS) and the Maine Revenue Services (MRS) look for a methodical approach, such as:

1. Identification of the technical uncertainty.7
2. Identification of one or more alternatives to eliminate that uncertainty.7
3. Execution of a science-based process, such as modeling, simulation, or systematic trial-and-error, to evaluate those alternatives.7

The Maine Statutory Environment: 36 M.R.S. § 5219-K

The state of Maine incentivizes research through Section 5219-K of Title 36 of the Maine Revised Statutes.2 This statute establishes a nonrefundable income tax credit for taxpayers engaged in qualified research activities in the state.1

Credit Composition and Rates

The Maine Research Expense Tax Credit is composed of two primary components, reflecting the state’s dual goal of supporting both private-sector development and academic collaboration.1

Source: 1

The “base amount” for the 5% incremental credit is calculated as the average amount per year spent on qualified research expenses over the previous three taxable years.1 If a taxpayer has not conducted research in Maine in the prior three years, the base amount is zero, allowing for a robust incentive for new entrants or businesses launching new Maine-based R&D departments.2

Statutory Limitations and Carryforwards

The Maine credit is designed to offset liability without eliminating it entirely for larger entities, and it includes a lengthy carryforward period to support companies during their pre-revenue or low-income stages.1

For corporate taxpayers, the credit is limited to 100% of the first $25,000 in income tax liability (before other credits) plus 75% of the tax liability exceeding $25,000.1 For individuals, estates, and trusts, the credit is limited to the taxpayer’s total tax liability.1 In no event can the credit reduce the tax liability below zero.1

Any unused portion of the credit may be carried forward for a period of up to 15 years.1 This 15-year window is particularly beneficial for sectors like biotechnology and advanced manufacturing, where the timeline from initial research to commercial profitability often spans over a decade.2

Local State Revenue Office Guidance: Maine Revenue Services (MRS)

The Maine Revenue Services (MRS) provides specific administrative guidance through worksheets, instruction pamphlets, and formal rules that dictate how a taxpayer must apply federal Section 41(d) standards to their Maine filing.1

The Research Expense Tax Credit Worksheet

Taxpayers are required to file the Maine Research Expense Tax Credit Worksheet with their annual return (Form 1120ME for corporations or Form 1040ME for individuals).1 This worksheet serves as the primary mechanism for adjusting federal data to a Maine-specific context.1

Analysis of the 2024 Worksheet reveals several critical instructions:

• Line 1 (Basic Research Payments): Taxpayers must enter basic research payments in excess of the federal base that were spent for research conducted specifically in Maine.1 This requires subtracting the Maine portion of the federal base period amounts from the Maine portion of the federal basic research payments.1
• Line 3 (Current Year Maine QREs): Taxpayers must isolate only those expenses included on federal Form 6765 that were incurred for research conducted in Maine.1
• Line 4 (The Maine Base Amount): This line requires the average of Maine QREs from the three prior years.1 MRS instructions emphasize that if any of the prior years was a short year, the expenses must be prorated according to federal regulations.1
• Line 8 (The Limitation Calculation): For corporations with tax over $25,000, this line calculates the allowable credit based on the 75% limit.1

Apportionment and Rule 801

For businesses operating in multiple jurisdictions, Maine Revenue Services Rule 801 (Apportionment) is critical.25 This rule explains how income and expenses are apportioned to Maine for tax purposes.25

When calculating the R&D credit, the taxpayer must ensure that the QREs are not only “technological in nature” but also geographically tied to Maine.1 MRS defines the “costs of performance” as direct costs determined in a manner consistent with generally accepted accounting principles.25 In cases where it is difficult to determine the exact location of service performance, the ratio of time spent in Maine to total time spent on the project is used as a measure.25 This is particularly relevant for software development teams where engineers may be split between an Augusta office and remote locations.2

Combined Reporting and Unitary Businesses

Maine utilizes a “water’s edge” combined reporting methodology for unitary businesses.25 If a corporation is part of an affiliated group that constitutes a unitary business, the State Tax Assessor may aggregate the activities of all members to determine the credit amount and the base amount.1

Under 36 M.R.S. § 5219-K(4), a credit generated by an individual member of a combined group must first be applied against that specific company’s tax liability.10 Any excess credit from one member can then be applied to another member’s tax due, provided it stays within the overall corporate limitations.10

Qualified Research Expenses (QREs): A Maine-Specific Deep Dive

The definition of QREs under Maine law follows IRC Section 41(b), but the application is filtered through state administrative priorities.1 QREs are categorized into three buckets: wages, supplies, and contract research.2

Qualified Wages in the State of Maine

Wages represent the largest component of most R&D claims.2 Under Section 41(b)(2)(D), “wages” are generally those subject to federal income tax withholding.5 To be includable, these wages must be paid for “qualified services,” which include:

• Direct Conduct: The actual performance of experimentation and research.5
• Direct Supervision: First-line management of the research process.13
• Direct Support: Activities such as cleaning lab equipment or compiling technical data that support the research.13

MRS guidance mirrors the federal “substantially all” rule: if an individual spends 80% or more of their time in Maine on qualified services, 100% of their Maine-sourced wages can be counted as QREs.1

Qualified Supplies for Maine Innovation

Supplies include any tangible property used in the conduct of qualified research, provided it is not land or depreciable property.5 In Maine’s manufacturing and biotechnology sectors, this often includes materials used to construct prototypes.2

It is important to note that Maine provides a separate sales and use tax exemption for machinery and equipment used primarily and directly in research and development.30 While the same piece of equipment cannot be a “supply” for the income tax credit (because it is depreciable), the cost of acquiring that equipment can be offset by the sales tax exemption, creating a multi-layered tax benefit for Maine researchers.2

Contract Research Expenses

Contract research involves payments to third parties to perform qualified research on the taxpayer’s behalf.2 Per federal rules adopted by Maine, only 65% of these expenses are typically includable in the credit calculation.29 However, if the research is performed by a “qualified research consortium” (such as a 501(c)(3) scientific organization), the includable amount is higher.5

Maine businesses often leverage this by partnering with local institutions like the Roux Institute or the University of Maine system.2 If these payments meet the criteria for “basic research payments” under Section 41(e), they may qualify for the 7.5% credit instead of the standard 5% incremental credit.1

Exclusions and High-Risk Activities: Audit Considerations

Both the IRS and Maine Revenue Services identify specific activities that are legally excluded from the definition of qualified research.5 Understanding these exclusions is vital for audit defense.

Research After Commercial Production

Any research conducted after the business component has entered commercial production is disqualified.5 Activities such as trial production runs, pre-production planning, and troubleshooting existing production equipment are considered routine business operations rather than qualified research.13

Adaptation and Duplication

The credit does not apply to the adaptation of an existing business component to a specific customer’s needs.5 This is often a point of contention in the software industry, where “customizing” an existing platform for a new client is categorized as a service rather than R&D.14 Similarly, the “Reverse Engineering” exclusion prohibits credits for activities related to reproducing a component from an existing model or blueprint.5

Internal-Use Software (IUS)

Software developed solely for internal use—such as for general and administrative functions—must pass an additional “high threshold of innovation” test to qualify.21 This requires the software to be innovative, involve significant economic risk, and not be commercially available.31

The IRS Audit Techniques Guide classifies “Maintenance of existing software” and “Software application configuration” as high-risk activities that usually fail to constitute qualified research.31 Maine Revenue Services typically follows these federal guidelines during state audits.4

Statistical Profile: Credit Usage and Economic Impact

The Maine Research Expense Tax Credit is a significant component of the state’s tax expenditure budget, though it affects a relatively small number of taxpayers compared to broader incentives.3

Revenue Impact and Participation

According to the Maine State Tax Expenditure Report 2024–2025, the credit’s impact on the General Fund has shown a steady upward trend.32

Source: 3

This data suggests a concentration of R&D activity among a small, dedicated group of innovation-focused firms, primarily in the manufacturing, technology, and biotechnology sectors.2 The relatively low number of participants (175) indicates that many Maine SMEs may be missing out on the credit, potentially due to the complexity of the federal four-part test or the administrative burden of tracking in-state versus out-of-state expenses.4

Economic Context and Innovation Goals

Evaluation reports from the Office of Program Evaluation and Government Accountability (OPEGA) highlight that while the credit is a common tool in 35 other states, Maine’s overall R&D performance has historically lagged behind regional and national averages.4

OPEGA noted that the incremental structure of the credit might exclude some businesses that have high but stable R&D budgets.4 Furthermore, the lack of a “startup provision” similar to the federal payroll tax offset for new companies means that the Maine credit primarily benefits entities that have reached a level of state tax liability.2

The Impact of the One Big Beautiful Bill Act (OBBBA) on Conformity

A major development in 2025 has been Maine’s response to the federal One Big Beautiful Bill Act (OBBBA), which introduced significant changes to the Internal Revenue Code.16

The Conformity Challenge

Maine achieves tax conformity by adopting the federal definition of “Adjusted Gross Income” as of a certain date—currently December 31, 2024.17 When federal law changes mid-year, it creates a “disjunction” between federal and state tax bases.16

In response to the OBBBA, Governor Janet Mills utilized newly enacted authority under P.L. 2025 c. 336 to issue temporary conformity directives.16

Source: 16

The Section 174 Disjunction

The OBBBA allowed for certain retroactive and prospective adjustments to the treatment of Research and Experimental (R&E) expenditures under Section 174.16 For federal purposes, taxpayers must now capitalize and amortize these expenses.15

Maine’s current stance is particularly complex:

• The Governor’s directive reflects nonconformity with accelerated expensing for R&E expenditures incurred after 2024.16
• However, it does allow small businesses that file amended federal returns for 2022, 2023, or 2024 to claim a state-level deduction for unamortized expenditures from those years.16

This means that a Maine corporation may have to maintain separate R&D amortization schedules for federal and state purposes, adding another layer of complexity to the already difficult task of calculating the Maine Research Expense Tax Credit.16

Comprehensive Practical Example: Maine Biotech Solutions, LLC

To illustrate the integration of these rules, consider a hypothetical biotechnology firm based in Portland, Maine.

Project Description: “Bio-Polymer Synthesis”

The firm is developing a new biodegradable polymer for surgical applications.

1. Section 174 Test: The firm faces technical uncertainty regarding the structural integrity of the polymer during the 48-hour degradation window.6
2. Technological in Nature: The project relies on molecular biology and chemical engineering.6
3. Business Component: The component is the proprietary polymer blend intended for license to medical device manufacturers.12
4. Process of Experimentation: The firm uses computer-aided molecular modeling and 50 discrete laboratory trials to evaluate 5 different chemical formulations.6

Expenditure Identification (Maine-Only)

For the current tax year, the firm identifies the following QREs:

• Wages: $500,000 for three researchers in Portland (all spend 90% of their time on this project).1
• Supplies: $100,000 in chemical reagents and experimental substrates.5
• Basic Research: $50,000 paid to the University of Maine for advanced spectroscopy.1

Total Maine QREs (Incremental): $600,000 (Wages + Supplies).1

Basic Research Payment: $50,000.1

Base Amount Calculation

The firm’s Maine QREs for the prior three years were:

• Year -1: $550,000
• Year -2: $400,000
• Year -3: $250,000

Maine Base Amount = $\frac{\$550,000 + \$400,000 + \$250,000}{3} = \$400,000$.1

Credit Calculation

1. Incremental Credit (5%):
   $(\$600,000 – \$400,000) \times 0.05 = \$10,000$.1
2. Basic Research Credit (7.5%):
   Assuming the payment exceeds the federal base, $\$50,000 \times 0.075 = \$3,750$.1
3. Total Credit Generated:
   $\$10,000 + \$3,750 = \$13,750$.1

Application to Tax Liability

The firm has a Maine income tax liability of $15,000.

• Limitation: For a liability of $15,000 (which is $\leq \$25,000$), the limitation is the total tax due.1
• Net Tax Due: $\$15,000 – \$13,750 = \$1,250$.1

The firm pays $1,250 in Maine tax and has successfully reduced its effective tax rate by nearly 92% through R&D activities.1

Comparison with the Repealed “Super Credit” (36 M.R.S. § 5219-L)

While the Research Expense Tax Credit (5219-K) is the primary active credit, many established Maine businesses still deal with the residual effects of the “Super Credit”.9

The Super Credit was designed for “substantial expansions” of R&D and was repealed for tax years beginning after December 31, 2013.8 However, it allowed for a 10-year carryforward period.33

Source: 2

The Super Credit was more restrictive, prohibiting a taxpayer from reducing their tax liability below the amount of the previous year’s liability.11 Businesses reviewing old tax assets should ensure that any Super Credit carryforwards are reaching their 10-year expiration limit.33

Strategic Implications for Tax Planning and Compliance

The intersection of Section 41(d) and Maine law requires a high level of strategic coordination.

Nexus and Remote Work Risks

As businesses shift to hybrid and remote models, the “conducted in Maine” requirement becomes a significant audit risk.1 Maine Revenue Services Instruction Pamphlets and Rule 801 emphasize that only the portion of research performed in the state is eligible.1 If a Maine company’s lead developer resides in New Hampshire, their entire wage base may be excluded from the Maine QRE calculation, even if the “business component” is held by a Maine entity.2

Aggregation of Controlled Groups

Under 36 M.R.S. § 5219-K(1), the State Tax Assessor may aggregate the activities of all entities that are members of a controlled group as defined by IRC Section 41(f)(1)(A).10 This aggregation can significantly impact the “base amount” calculation.1 Companies with multiple subsidiaries must calculate the base amount at the group level and then apportion the credit to the individual members, a process that mirrors federal Form 6765 but requires state-specific isolation of Maine data.1

Substantiation and Documentation Standards

The Maine Research Expense Tax Credit is “administered by Maine Revenue Services through the normal tax filing process”.4 However, MRS has the authority to request additional information before a return can be processed.1

To survive an MRS audit, businesses should maintain:

• Project Narratives: Descriptions of how each project satisfies the four-part test.8
• Contemporaneous Time Records: Data linking employee hours to specific, qualified projects in Maine.8
• Prototypes and Lab Notes: Physical or digital evidence of the “process of experimentation”.8
• University Agreements: Written contracts for any basic research payments to ensure they meet the Section 41(e) criteria.1

Future Outlook: Legislative and Administrative Shifts

The Maine tax landscape is currently in a state of high volatility due to federal shifts and internal evaluations.4

OPEGA Recommendations

The Office of Program Evaluation and Government Accountability (OPEGA) has recommended that the Legislature review the R&D credit’s goals and amend its design to ensure intended beneficiaries—particularly startups—can better access the credit.4 There is also a push for Maine to collect better data on R&D activity to measure the credit’s actual return on investment for the state’s economy.4

Potential Doubling of the Credit

Proposed legislation has historically aimed to double the credit percentages (from 5% to 10%) and increase the maximum claimable amount.3 While such bills have faced budgetary hurdles, the consistent surplus in the Maine General Fund—$152 million in FY 2025—may provide the fiscal room needed for such an expansion in upcoming sessions.35

Conclusion

The Maine Research Expense Tax Credit represents a sophisticated synchronization between state economic policy and federal tax code. By tethering its eligibility to IRC Section 41(d), Maine ensures a high bar for innovation, rewarding only those businesses that engage in genuine technological discovery through a systematic process of experimentation. However, the state’s requirement for a strict geographic nexus and its unique incremental calculation method mean that federal compliance is no guarantee of state eligibility. For the 175-plus taxpayers who currently utilize the credit, success depends on a granular understanding of Maine Revenue Services worksheets, the nuances of Rule 801 apportionment, and the evolving landscape of federal-state conformity in the wake of the OBBBA. As Maine continues to evaluate its R&D performance, this credit will remain a cornerstone of the state’s strategy to attract and retain high-growth industries in an increasingly competitive national landscape.

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/