The federal research and development (R&D) tax credit, formally the Credit for Increasing Research Activities under Section 41 of the Internal Revenue Code, supports qualifying technological research. Enacted in 1981, it has generated substantial litigation over research performed for customers. Populous Holdings, Inc. v. Commissioner, Docket No. 405-17, illustrates a taxpayer-favorable application of the funded research exclusion. This study examines the ruling, related cases, and implications for architects, engineers, and other contractors. The Populous ruling was a nonprecedential Tax Court order, rather than a generally binding rule for fixed-price contracts.

The Statutory Architecture of the Research Credit

To appreciate the significance of the Populous ruling, one must first understand the rigorous statutory requirements imposed by Section 41. The credit is intended to offset the costs of “qualified research,” which is defined through a cumulative four-part test applied at the level of the discrete “business component“.

The Four-Part Qualification Test

Even if an activity satisfies these four requirements, it may still be disqualified if it falls under one of the several exclusions listed in Section 41(d)(4). These exclusions range from research conducted after the commencement of commercial production to research in the social sciences or arts. However, for service-oriented firms like Populous Holdings, Inc., the most contentious exclusion is Section 41(d)(4)(H), which denies the credit for any research “to the extent funded by any grant, contract, or otherwise by another person”.

The Funded Research Doctrine: Risk and Rights

The funded research exclusion is addressed in Treasury Regulation Section 1.41-4A(d), incorporated by Section 1.41-4(c)(9). Two central questions are whether payments depend on research success and whether the performer retains substantial rights in the results. These questions concern the funding exclusion; satisfying them does not establish every other requirement for a research credit. Where substantial rights are retained but payments constitute funding, research may be excluded only to the extent funded under the applicable allocation rules.

The Standard of Financial Risk

The risk standard focuses on the “contingency of payment.” Research is considered funded if the taxpayer is paid regardless of whether the research is successful. Conversely, research is unfunded if the payment is contingent upon the success of the research, meaning the taxpayer bears the expense even if the research fails to produce the desired result. Historically, this has created a divide between “fixed-price” and “cost-plus” contracts, though recent jurisprudence has moved toward a more granular analysis of specific contractual clauses.

The Standard of Substantial Rights

The rights standard requires the taxpayer to retain “substantial rights in the research.” If a taxpayer performs research for another person and retains no substantial rights under the agreement, the research is treated as fully funded. The benchmark for this test was established in Lockheed Martin Corp. v. United States, where the Federal Circuit held that the right to use research results in the taxpayer’s own business without paying the client constitutes a substantial right. Crucially, these rights do not need to be exclusive; the taxpayer can share rights with the client and still qualify for the credit, provided they are not required to pay a royalty or license fee to use the innovations they developed.

Case Analysis: Populous Holdings, Inc. v. Commissioner

Populous provides architectural design services and claimed research credits relating to more than 100 contracts and subcontracts for 2010 and 2011. The order addressed the funded research issue for 2011, including a disputed $132,539 research credit and a $151,494 general business credit carryforward from 2010. Judge Joseph Robert Goeke granted Populous’s summary-judgment motion in an order dated December 6, 2019, served December 9, 2019. The parties were directed to submit a Rule 155 computation.

Factual Background and Contractual Review

The parties selected five representative contracts: McEnery, Houston Dynamo, University of Arkansas, University of South Florida, and Pico Hall. They stipulated how resolution of those contracts would resolve the funding issue. The IRS disputed payment contingency for all five and substantial rights for three. The order’s analysis concerned funded research, rather than independently establishing the four-part qualification test for every architectural activity.

The Tax Court’s Reasoning on Economic Risk

The court emphasized the fixed-price arrangements and Populous’s obligation to incur additional expenses without additional compensation if its research failed. It also considered payment, review, revision, termination, and other contract provisions. Its observation that clients purchased a work product rather than expressly commissioning research formed part of that analysis; a product or service contract is not automatically unfunded.

The court identified several critical mechanisms that shifted the risk to Populous:

Revision Obligations: Contracts for Houston Dynamo and Pico Hall expressly required Populous to revise documents at its own expense if the work failed to meet the client’s satisfaction or specific design milestones.

Phase Approval: The USF contract required payment only “upon approval of each phase and/or deliverable of work for services performed,” implying that if a phase failed to meet the technical requirements, Populous would not be paid for that portion of the work.

Fixed-Price Risk: The order treated the obligation to remedy unsuccessful research at Populous’s own expense as evidence of research risk. Later appellate decisions make clear that fixed pricing alone does not establish the required contingency.

The Tax Court’s Reasoning on Substantial Rights

The IRS challenged substantial rights under three contracts, focusing on client ownership of documents and architectural copyrights. Treasury Regulation Section 1.41-4A(d)(2) distinguishes substantive rights in research results from incidental benefits such as increased experience.

The court disagreed, distinguishing between the ownership of the documents and the right to use the technology-related research results. The court found that Populous retained substantial rights because:

The contracts did not contain any provisions prohibiting Populous from using the related researched technology or design methods in its future business.

Populous was not required to pay the client any fee or royalty to use the innovations developed during the project.

Populous retained copies of the documents for its internal use, enabling the firm to apply the technical knowledge gained to subsequent projects.

The court found sufficient retained rights despite the document-ownership provisions. This does not mean general experience or possession of copies always establishes substantial rights; the contractual ability to use the actual research results matters.

Comparative Jurisprudence: Contract Terms and Different Outcomes

Related cases show how different agreements and legal issues produce different outcomes under the funded research rules. Populous must be read in light of its limited procedural status and the applicable appellate authorities.

Foundational Precedents: Fairchild and Lockheed Martin

The root of the risk standard is Fairchild Industries, Inc. v. United States (1995), where the Federal Circuit held that the sole inquiry is who bears the costs upon failure. Fairchild’s contract with the Air Force included over 1,000 pages of specifications, and the court found that the firm’s obligation to meet these specs placed the risk squarely on Fairchild, despite receiving progress payments. Similarly, Lockheed Martin v. United States (2000) established the modern “rights” test, rejecting the government’s claim that a researcher must be able to exclude others from the research results.

Other Funding Decisions: Dynetics and Geosyntec

Dynetics, Inc. v. United States (2015) and Geosyntec Consultants, Inc. v. United States (2015) illustrate unsuccessful funding arguments. Dynetics examined payment entitlement and retained rights under representative contracts; its analysis cannot be reduced to a single work-for-hire clause. Geosyntec’s appellate dispute concerned capped contracts and distinguished general professional-performance obligations from research-success conditions. A cost ceiling and potential overruns do not themselves establish that payment depends on research success.

Later Appellate Decisions: Meyer, Borgman & Johnson and Grigsby

In Meyer, Borgman & Johnson, Inc. v. Commissioner (2024), the Eighth Circuit affirmed the rejection of an engineering firm’s credits under the funding exclusion. Its contracts did not make payment depend on research success either expressly or by clear implication. The decision therefore does not impose an absolute requirement for particular explicit wording.

These cases distinguish ordinary commercial exposure from the allocation of unsuccessful research costs:

Cost-of-Performance Risk: A contractor may exceed its expected hours or budget while remaining entitled to payment. That possibility alone does not establish unfunded research.

Research-Failure Risk: The relevant inquiry concerns who bears research costs when the research fails. Nonpayment, rejection, uncompensated corrective work, and refund provisions must be evaluated within the complete agreement, rather than treated as isolated guarantees of eligibility.

Implications for Future R&D Tax Credit Applications

For service providers, the different outcomes reinforce the need to examine the complete contract and supporting evidence. The cited decisions do not establish that all architecture, engineering, or software work is funded, and industry classification does not itself establish qualification.

Determining Whether Payment Depends on Success

MBJ emphasizes the distinction between research success and compliance with professional standards. Its express-or-clear-implication formulation leaves room for analysis of the complete agreement. Specific acceptance criteria can help clarify the parties’ obligations, but no universal refund clause or set of magic words guarantees a credit.

Substantial Rights in the Age of “Work for Hire”

Populous illustrates why ownership of deliverable documents and rights in research results must be analyzed separately. Dynetics preceded Populous; Grigsby followed it. Broad assignments of research results can defeat retained-rights arguments. Any reservation must establish meaningful rights under the actual agreement, rather than merely describe the performer’s accumulated experience.

Strategic Contract Drafting Post-Populous and MBJ

Contract review should accurately identify the parties’ commercial allocation of risk and research rights. The examples below are discussion points, not safe-harbor provisions. They must reflect genuine, enforceable obligations and actual conduct; inserting tax-oriented wording cannot convert nonqualifying activities into qualified research.

Comparative Contractual Provisions

Practical Techniques for A&E Firms

Apply the four-part test first at the business-component level. Under Treasury Regulation Section 1.41-4(b)(2), shrinking back to the most significant qualifying subset is appropriate when the component as a whole does not meet the test; it is not mandatory for every project. A stadium roof or mechanical subsystem may warrant separate analysis when supported by the facts. Modeling iterations, simulations, alternative designs, and test results can substantiate experimentation. Novel appearance or project complexity alone is insufficient, and expenses must be linked to qualifying activities.

IRS Enforcement Trends and Administrative Guidance

IRS administrative materials explain examination and filing positions but do not amend the statute or establish binding judicial precedent. Their dates and scope must be distinguished from the dates of later court decisions.

FAA 20223401F: Contract Analysis in IRS Advice

Field Attorney Advice 20223401F was dated November 12, 2021, and released August 26, 2022. It concluded that research under five reviewed contracts was funded on payment-contingency and retained-rights grounds. It expressly states that it may not be cited as precedent. It predates the 2024 MBJ appellate ruling and cannot be described as a response to that ruling. The memorandum does not establish a blanket prohibition on settling funded-research issues.

Revision of Form 6765 and New Disclosure Requirements

The IRS initially specified five information items for research-credit refund claims in FAA 20214101F. Effective June 18, 2024, it waived the filing-stage requirements to name each researcher and describe the information each individual sought. Claims must still identify the business components, their research activities, and total qualified wage, supply, and contract-research expenses. The waived information may still be requested on examination. Separately, the December 2025 Instructions for Form 6765 make Section G optional for tax years beginning before 2026 and required for years beginning after 2025, subject to the stated exceptions and guidelines. Refund-claim substantiation and Form 6765 disclosures are distinct requirements.

Sections 174 and 174A: Changes to Research-Cost Treatment

The TCJA generally required capitalization of specified research expenditures for tax years beginning in 2022 through 2024, with five-year domestic and 15-year foreign amortization. Public Law 119-21, enacted July 4, 2025, added Section 174A, generally allowing immediate deduction of domestic research or experimental expenditures for tax years beginning after 2024, with an elective amortization alternative. Foreign research remains subject to 15-year amortization under Section 174. Revenue Procedure 2025-28 provides election, accounting-method, and transition procedures, including options for certain previously capitalized domestic costs. The current Section 41 expenditure test refers to Section 174A; historical claims require the law applicable to their tax years. Deductibility alone does not establish credit eligibility, and Section 280C coordinates deductions with the credit.

The Interaction of Contract Law and Tax Law

Populous demonstrates the importance of interpreting the parties’ obligations together. The order assessed who would incur additional research costs and whether Populous could use the results. Contract labels, expectations, and descriptions in an R&D study do not substitute for the enforceable agreement and evidence of the work performed.

As a practical inference from these cases, greater clarity about payment conditions and research rights can improve the quality of a funding analysis. Clarity cannot guarantee a favorable result. Ordinary project completion obligations must still be distinguished from research-success conditions, and clear implication remains relevant under MBJ.

Final Thoughts

Populous is a useful example of a taxpayer-favorable funded research determination. It is a nonprecedential order under Tax Court Rule 50(f), a limitation expressly noted by the Eighth Circuit in MBJ. It should not be characterized as binding authority that fixed-price architectural work automatically qualifies.

A defensible research-credit position requires attention to three connected areas:

Contractual Analysis: Determine who bears unsuccessful research costs by examining payment, acceptance, revision, termination, and other operative provisions.

Activity Documentation: Identify business components and document technical uncertainty, alternatives, experimentation, and associated expenses. Apply the shrink-back rule where its conditions are met.

Rights Analysis: Establish meaningful retained rights to use research results, taking account of assignments, confidentiality restrictions, licenses, and fees. General know-how alone may be insufficient.

Service-sector work can qualify for the research credit when all statutory and regulatory requirements are met. Populous informs the contract analysis, but each claim depends on its facts, the relevant tax year, and controlling law.