Strategic Impact of Corporate Restructuring on the Maryland Research and Development Tax Credit: A Comprehensive Analysis of Base Amount Inclusion and Successor Rules

In Maryland tax law, the “Base Amount Inclusion” requirement for acquisitions, consolidations, or mergers mandates that a successor entity incorporate the historical research expenditures and gross receipts of an acquired firm into its own calculation to determine credit eligibility. This mechanism ensures that tax benefits are awarded only for incremental research growth that exceeds the combined historical baseline of all involved entities, thereby preventing the artificial inflation of credits through corporate restructuring.1

The Maryland Research and Development (R&D) Tax Credit program, established under Section 10-721 of the Tax-General Article, is a cornerstone of the state’s economic strategy to attract and retain high-growth technology sectors. By providing a credit against state income tax for qualified research expenses (QREs) incurred within Maryland, the state incentivizes a broad range of industries, from biotechnology and aerospace to software engineering and cybersecurity.1 However, the program’s effectiveness relies on its “incremental” design, which requires businesses to demonstrate that their current year’s research investment surpasses a statistically derived historical baseline, known as the Maryland Base Amount.1 When companies merge or acquire one another, the continuity of this baseline becomes a complex accounting and legal challenge. The Department of Commerce and the Comptroller of Maryland provide rigorous guidance on how these transactions must be reported to ensure that the “successor in interest” carries forward the research legacy of the predecessor.1

Theoretical Foundation and Legislative Intent of the Maryland R&D Tax Credit

The legislative purpose of the Research and Development Tax Credit Program is to foster increased research activities and expenditures specifically within the geographic boundaries of Maryland.4 This regional focus is critical; unlike the federal R&D credit, the Maryland version strictly excludes any expenses or gross receipts generated outside the state.1 The program seeks to reward companies that choose Maryland as their center for innovation, recognizing that R&D activities often generate high-paying jobs and long-term economic stability. To achieve this, the statute defines a “small business” as a for-profit entity with net book value assets totaling less than $5 million at the beginning or end of the taxable year, a definition that plays a pivotal role in determining the refundability of the credit.1

The program has evolved through various legislative sessions, with recent updates such as Senate Bill 196 in 2021 altering the credit structure by eliminating the “Basic” credit and focusing more heavily on the “Growth” component.8 Currently, the program is divided into two primary categories of credits, both of which are subject to a statewide aggregate cap of $12 million.1 The first $3.5 million of this cap is specifically reserved for small businesses, providing them with a refundable credit if their tax liability is less than the credit amount—a significant cash-flow advantage for early-stage ventures.1 For non-small businesses, the remaining $8.5 million is allocated, though these credits are typically non-refundable and must be carried forward if they exceed current-year tax liability.2

Comparative Statutory Framework: Maryland vs. Federal § 41

Maryland largely adopts the federal definition of “qualified research” as defined by Section 41(b) of the Internal Revenue Code (IRC). This alignment is intended to simplify compliance for multistate corporations, allowing them to use much of the same documentation for both federal and state claims.1 However, while the definitions of activities align, the calculation of the base amount and the treatment of corporate transactions have unique state-level nuances that require careful navigation of Maryland-specific regulations.

Data derived from.1

Mechanics of the Maryland Base Amount Calculation

The Maryland Base Amount is the threshold that a company must exceed to qualify for the 10% Growth R&D Tax Credit. It is not a fixed number but a dynamic figure calculated by multiplying the company’s “Fixed-Base Percentage” by its average annual Maryland gross receipts for the preceding four years.1 This approach ensures that as a company grows in size and revenue, its required “skin in the game” regarding R&D investment increases proportionally.

The Fixed-Base Percentage (FBP)

For most established businesses, the FBP is the ratio of the aggregate Maryland QREs for the four taxable years immediately preceding the credit year to the aggregate Maryland gross receipts for those same years.2 For a business that has existed for fewer than four years, the percentage is based on the years it was in operation.1 If a firm has no research history, the FBP is effectively zero in its first year of research, allowing it to claim 10% of its total QREs as a credit for that inaugural year.1

$$\text{Fixed-Base Percentage} = \frac{\sum (\text{Maryland QREs for preceding 4 years})}{\sum (\text{Maryland Gross Receipts for preceding 4 years})}$$

Deriving the Base Amount

The final Base Amount is determined by applying this FBP to the average annual Maryland gross receipts over the same four-year look-back period.2 For partial or short tax years, the Base Amount must be adjusted by multiplying it by a fraction based on the number of days in the short year divided by 365.1 This adjustment prevents businesses from claiming an outsized credit for only a few months of operation.

Acquisition, Consolidation, and Merger: The Successor Rule

The “Successor Rule” is arguably the most critical regulatory provision for businesses involved in mergers and acquisitions (M&A). Maryland Regulation.10 specifically mandates that in determining the carryover of unused credits and the effect of a merger or acquisition, federal law shall be applied as if the entities were separate corporations.2 This means that the surviving corporation inherits the tax attributes—including the R&D base amount history—of the acquired or merged entities.1

Meaning of Base Amount Inclusion

When Company A acquires Company B, it does not simply start fresh. For the purposes of the R&D credit, Company A must merge Company B’s historical Maryland QREs and gross receipts into its own four-year look-back data.1 This “Base Amount Inclusion” ensures that the combined entity’s baseline reflects the historical innovation output of both firms. Without this rule, a large corporation could acquire a research-heavy startup and claim a massive “growth” credit by comparing the startup’s current year spending against its own (the buyer’s) unrelated historical baseline.

Successor in Interest Dynamics

The Department of Commerce guidance clarifies that if Company A buys Company B, it can count Company B’s current Maryland QREs, but it must also count Company B’s expenses from previous years when determining the base amount.1 This applies regardless of whether the transaction is a merger, a consolidation, or a certain type of acquisition where the buyer is deemed the “successor in interest.” The legal and accounting reality is that the research DNA of the target entity becomes inseparable from the buyer for the duration of the look-back period.

Stock vs. Asset Purchases: Portability of Credits

A major distinction exists between stock purchases and asset purchases regarding the transfer of existing unused credits. In a stock purchase, the credits generally carry over to the extent allowed by federal law because the legal entity that earned the credits remains intact.1 However, in an asset purchase, the unused credits typically do not carry over.1 The entity that sold the assets remains the legal holder of the credits. If that seller entity ceases to exist or has no tax liability, those credits may effectively be stranded and lost.1

Data derived from.1

Local State Revenue Office Guidance: The Comptroller and Department of Commerce

The administration of the Maryland R&D credit is a two-stage process. The Maryland Department of Commerce is responsible for the certification of the credit, while the Comptroller’s Office is responsible for the actual application of the credit against the tax return and the issuance of any refunds.1

Department of Commerce Certification (The “Gatekeeper”)

Every firm wishing to claim the credit must apply to the Department of Commerce by November 15 of the calendar year following the tax year in which the expenses were incurred.1 For businesses involved in M&A, the application must reflect the consolidated data of all entities treated as a single taxpayer under controlled group rules.2 The Department issues a certification letter by the following February 15, which the taxpayer must then attach to an amended return (or original return) to claim the credit.3

Comptroller’s Administrative Release No. 18: Successor Attributes

Administrative Release No. 18 provides essential guidance on the tax status of attributes in M&A. It establishes a “Subject to Maryland Tax” threshold: if a liquidated or acquired corporation was not subject to Maryland income tax law when its tax attributes (such as Net Operating Losses or, by extension, research histories) were generated, then the acquiring corporation cannot use those attributes to offset its Maryland income.12 This prevents corporations from “importing” research expenses from other states into Maryland through the acquisition of out-of-state firms that had no prior Maryland nexus.

The “Add-Back” Requirement: Tax-General § 10-205

A critical, often overlooked requirement is the mandatory “addition modification.” Under Tax-General Article § 10-205, any taxpayer claiming a Maryland R&D credit must add the amount of the credit back to their federal adjusted gross income to determine their Maryland adjusted gross income.12 This “add-back” prevents a double tax benefit—where a company would otherwise deduct the research expense from its income and then also receive a credit against the tax on that same income.9 For an acquiring company, this means the effective value of the credit is slightly reduced by the state’s marginal tax rate.

Detailed Example: The Merger of TechCorp and InnovateBio

To visualize the complexities of base amount inclusion, consider a merger between two Maryland-based technology firms occurring on January 1 of Year 5.

Pre-Merger Profiles

Entity A (TechCorp): A steady, mature software firm with consistent research spending and moderate revenue.

• Average Maryland QREs (Years 1-4): $2,000,000
• Average Maryland Gross Receipts (Years 1-4): $20,000,000
• Fixed-Base Percentage (FBP): 10%

Entity B (InnovateBio): A high-growth biotech startup with significant research investment relative to its early revenue.

• Average Maryland QREs (Years 1-4): $1,000,000
• Average Maryland Gross Receipts (Years 1-4): $2,000,000
• Fixed-Base Percentage (FBP): 50%

Post-Merger Consolidation (Year 5)

In Year 5, the combined entity (NewCo) incurs $4,000,000 in Maryland QREs and has Maryland Gross Receipts of $25,000,000. Under the “Base Amount Inclusion” rule, NewCo must calculate its credit using the combined history of both predecessors.

1. Combined Historical QREs: $2,000,000 (TechCorp) + $1,000,000 (InnovateBio) = $3,000,000.
2. Combined Historical Gross Receipts: $20,000,000 (TechCorp) + $2,000,000 (InnovateBio) = $22,000,000.
3. New Combined Fixed-Base Percentage: $3,000,000 / $22,000,000 = 13.64%.
4. Year 5 Base Amount Calculation: 13.64% (Combined FBP) × $25,000,000 (Current Receipts) = $3,410,000.
5. Incremental QREs Eligible for Growth Credit: $4,000,000 (Current QRE) – $3,410,000 (Base) = $590,000.
6. Growth Credit (10%): $59,000 (Subject to statewide proration).

Strategic Analysis of the Example

If NewCo had been allowed to ignore InnovateBio’s high-spending history and use only TechCorp’s 10% FBP, its base amount would have been only $2.5 million, yielding a much larger incremental credit of $150,000. The Base Amount Inclusion rule effectively “protects” the state treasury by recognizing that $1,000,000 of NewCo’s “new” R&D budget was simply the pre-existing budget of the acquired firm. For the owners of InnovateBio, the merger may actually dilute the percentage value of their R&D spend because TechCorp’s larger revenue base exerts “gravitational pull” on the combined FBP.

The Impact of Controlled Group Rules and Single Taxpayer Treatment

Maryland law explicitly treats all members of a “controlled group of corporations”—as defined by IRC § 41(f)—as a single taxpayer.2 This has profound implications for post-acquisition operations.

Consolidated Base Amounts

When a parent company acquires several subsidiaries, it cannot pick and choose which entities apply for the credit to maximize growth. Instead, the entire group’s Maryland QREs and gross receipts are aggregated into a single application.2 The credit is then allocated back to the individual members based on their proportionate share of the total QREs incurred by the group.2

Allocation Formula for Members

The credit allowed to each member of a controlled group is determined by the following ratio:

• Numerator: Maryland QREs incurred by the separate member.
• Denominator: Total Maryland QREs incurred by the entire controlled group.

This allocation ensures that the tax benefit is distributed fairly among the legal entities that actually performed the research, which is critical for subsidiaries that may have different minority owners or separate financial reporting requirements.2

Small Business Status and the Acquisition Cliff

For many Maryland startups, the most valuable part of the R&D credit is its refundability.1 A small business that spends $500,000 on research but has no income tax liability can receive a $50,000 check from the state (assuming no proration).1 However, this benefit is highly sensitive to M&A activity.

The $5 Million Asset Threshold

To qualify as a “small business,” the entity must have net book value assets of less than $5 million at the beginning or end of the year.1 In the context of an acquisition, the “single taxpayer” rule for controlled groups means that the assets of the entire group are typically aggregated to determine this threshold.2 If a large corporation with $100 million in assets acquires a small startup, that startup immediately loses its “small business” status for R&D tax purposes.4

Consequences of Losing Small Business Status

1. Loss of Refundability: The credit becomes non-refundable. It can only be used to offset actual Maryland income tax liability.2
2. The “Add-Back” Modification: While still required, the cash-flow timing changes. Instead of receiving a refund check, the company must wait until it has profitable years to utilize the carryforward.2
3. Proration Risks: Non-small businesses are subject to the $8.5 million pool, which is often more heavily oversubscribed than the small business pool, leading to lower effective credit rates.1

Data derived from.1

Statistics and Program Performance: Insight into the $12 Million Cap

The Maryland R&D tax credit is a victim of its own success. The program is routinely oversubscribed, meaning the actual credit received by a company is rarely the statutory 10%.1

Proration Realities

If the total credits applied for exceed the statutory caps ($3.5M for small, $8.5M for large), the Department of Commerce must prorate the awards.1 According to the 2024 Department of Legislative Services (DLS) evaluation, participation in the program has seen interesting shifts.9 While the number of businesses receiving the credit peaked at 450 in 2013, the concentration of awards has changed as the “Basic” credit was phased out and the $250,000 per-firm cap was enforced.3

Historic Award and Proration Rates

Data derived from.9

This statistical reality means that for an acquiring firm, the “pro-forma” value of the R&D credit must be discounted by approximately 60-70% when projecting future tax savings. A $100,000 growth credit entitlement often results in an actual certificate for $30,000 to $33,000.9

Interplay with Sales and Use Tax Exemptions

For businesses conducting R&D in Maryland, the income tax credit is only one part of the fiscal puzzle. The Comptroller’s “Business Tax Tip #9” clarifies that the state sales and use tax does not apply to purchases of tangible personal property used or consumed in research and development.15

Definition of R&D for Sales Tax Purposes

For sales tax, “research and development” is defined as basic and applied research in the sciences and engineering, and the design, development, and governmentally mandated pre-market testing of prototypes.15 This definition explicitly excludes market research, social sciences, or routine product testing.15

Asset Purchases and Sales Tax Savings

Unlike the income tax credit, which stays with the legal entity in an asset purchase, the sales and use tax exemption is a transactional benefit. When a successor buys R&D machinery or equipment as part of an asset acquisition, the purchase itself is exempt if the equipment will continue to be used predominantly (at least 50% of the time) in research.15 This provides immediate upfront savings of 6% on the transaction value of the research assets, often providing more certain value than the prorated income tax credit.15

Compliance, Documentation, and Audit Readiness

Successors in an acquisition must be prepared for a higher level of scrutiny from the Comptroller. Because the credit involves historical data spanning five years (the credit year plus the four-year look-back), the surviving entity must possess the records of the acquired firm to substantiate the claim.3

Necessary Documentation for Successors

The Department of Commerce and audit guidelines suggest maintaining the following records for at least four years 3:

• Payroll Records: Identifying specific employees and the percentage of their time dedicated to qualified Maryland research.
• General Ledgers: Clearly distinguishing Maryland-sourced expenses from out-of-state expenses.
• Technical Evidence: Innovation logs, bug fix records, testing protocols, and photographs of prototypes to satisfy the “process of experimentation” test.
• Gross Receipt Records: Maryland-specific revenue data for the four-year look-back period.
• Federal Form 6765: A copy of the federal R&D claim to ensure state/federal consistency.6

Failure to produce these records for an acquired subsidiary can result in the Comptroller disregarding the subsidiary’s historical QREs while still requiring their gross receipts to be included in the base—a “worst-of-both-worlds” scenario that artificially lowers the credit.3

Future Outlook: Federal Decoupling and Legislative Shifts

The landscape for R&D tax planning is currently undergoing significant turbulence due to shifts in federal tax law and Maryland’s response to those shifts.

Decoupling from the “One Big Beautiful Bill Act” (OBBBA)

In mid-2025, the federal “One Big Beautiful Bill Act” (OBBBA) introduced changes to the Internal Revenue Code, including provisions for the full expensing of domestic R&D costs under IRC § 174.17 However, the Maryland Comptroller released a “60-day Report” in September 2025, announcing that Maryland will automatically decouple from these federal provisions for the 2025 tax year.18

This decoupling means that while a company may be able to fully expense R&D for federal purposes, it must still capitalize and amortize those same expenses for Maryland state tax purposes.18 For an entity undergoing a merger, this creates a significant administrative burden, as the successor must maintain two sets of books for the R&D expenditures of both the buyer and the target to ensure accurate Maryland state tax reporting.18

Potential for Credit Transfers (HB 35)

Legislative efforts in early 2025, such as House Bill 35, have explored allowing eligible technology companies to “transfer” (sell) their unused R&D tax credits to other taxpayers in the state.20 While the R&D credit is currently non-transferable (except via the successor rule in M&A), such a change would revolutionize the valuation of research-heavy startups in acquisition scenarios. A startup with $15 million in unused R&D credits could potentially sell those credits for cash before being acquired, providing a pre-acquisition liquidity event.20

Conclusion: Strategic Imperatives for M&A and R&D

The Maryland Research and Development Tax Credit is a powerful but highly regulated incentive that requires sophisticated multi-year planning. In the context of acquisitions, consolidations, or mergers, the “Base Amount Inclusion” rule is the primary mechanism that governs the transition of tax benefits. Successors must recognize that they are not merely acquiring a target’s current research projects, but its entire five-year financial and innovation history.

Strategic due diligence must therefore include a thorough “look-back” audit of the target’s Maryland-specific expenses and gross receipts. A target with high historical spending can significantly increase the buyer’s base amount, potentially making it harder for the combined entity to achieve the “growth” necessary to earn the 10% credit in future years. Furthermore, the sensitivity of the “small business” refundability to the $5 million asset threshold means that mid-market acquisitions often result in a permanent loss of immediate cash refunds.

Ultimately, businesses that successfully navigate these successor rules can maximize their state tax offsets and maintain the cash-flow benefits that the Maryland legislature intended. However, this success requires a seamless integration of tax, legal, and operational data across the merger lifecycle, ensuring that the innovation subsidized by the state today remains a viable tax asset for the combined enterprise of tomorrow.

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