Industrial History and R&D Tax Credit Case Studies in Burlington, North Carolina

The economic topography of Burlington, North Carolina, represents a dynamic evolution of industrial adaptation. To fully comprehend the application of federal and state R&D tax incentives within this region, it is necessary to examine the specific historical mechanisms that established Burlington’s primary commercial sectors. The following five case studies detail the genesis of these industries in Alamance County and apply current Internal Revenue Code (IRC) Section 41 regulations and North Carolina Department of Revenue (NCDOR) guidelines to their modern research initiatives.

Advanced Textiles and Performance Fabrics

The foundation of Burlington’s industrial identity is inextricably linked to the textile sector. The city originated in the 1850s as “Company Shops,” a centralized repair and maintenance depot for the North Carolina Railroad. When the railroad relocated its operations to Spencer, North Carolina, in 1886, the municipality faced an economic vacuum. The citizens rebranded the town as Burlington in 1893 and leveraged the hydraulic power of the nearby Haw River to attract early cotton mill operators, such as E.M. Holt, who had already established a foothold in Alamance County. The true catalyst for global dominance occurred in 1923 when industrialist J. Spencer Love relocated textile machinery from Gastonia to Burlington, founding Burlington Mills. Facing a depressed market for traditional cotton goods, Love executed a highly successful, experimental pivot to a novel synthetic fiber known as rayon. By engineering rayon bedspreads, Burlington Mills catalyzed a period of explosive growth, eventually rebranding as Burlington Industries in 1955 and becoming the largest textile manufacturing corporation in the world by the 1960s, employing over 65,000 individuals globally. Concurrently, the local Gant family, who founded Glen Raven in 1880 as a cotton mill, drove further innovation, inventing pantyhose in 1958 and the renowned performance fabric Sunbrella in 1961. Following the devastation of domestic commodity apparel manufacturing precipitated by the North American Free Trade Agreement (NAFTA) in the 1990s, Burlington’s surviving textile entities transitioned entirely into advanced manufacturing, focusing on high-tech synthetics, nanotechnology-enhanced textiles, and specialized performance fabrics.

In a modern context, a Burlington-based textile engineering firm initiating a project to develop a novel, inherently flame-retardant (FR) polymer blend for tactical military gear demonstrates a prime candidate for the R&D tax credit. The firm requires a fabric that maintains high moisture-wicking capabilities and survives one hundred industrial wash cycles without degrading its thermal protection. Under the federal IRC Section 41 four-part test, this activity qualifies seamlessly. The business component test is satisfied because the firm is developing a new proprietary fabric formulation intended for sale. The elimination of uncertainty test is met because, at the project’s inception, the firm possesses no empirical data establishing the exact mathematical ratio of FR chemical additives to base polymers that will achieve the required thermal protection without compromising the yarn’s tensile strength during the extrusion process. The technological in nature test is fulfilled as the research relies fundamentally on polymer chemistry and materials science. Finally, the process of experimentation is satisfied through a documented, systematic methodology. The engineers extrude fifteen different pilot-scale yarn formulations, weave them into fabric swatches, and subject them to thermal manikin testing and chemical degradation assays. They track variables such as denier, elongation, and char length, actively discarding failed formulas until the optimal blend is achieved.

From a state tax perspective, North Carolina historically provided the Article 3F Research and Development Tax Credit, which expired in 2015 but allows unused credits to be carried forward for fifteen years. If the textile firm generated massive credits during the development of this fabric prior to 2016, they may still utilize these carryforwards against their current franchise or corporate income tax liability, provided they continuously meet NCDOR administrative mandates. These mandates require the firm to maintain the state wage standard, provide health insurance for all full-time employees at the Burlington facility, and uphold immaculate environmental and Occupational Safety and Health Act (OSHA) compliance records. The environmental compliance mandate is particularly critical for textile manufacturers in the Haw River watershed, given recent regulatory scrutiny over the historical use of per- and polyfluoroalkyl substances (PFAS) in fabric treatments. Looking forward, under the pending 2025 Senate Bill 354 (the NC Breakthrough Act), if the firm contracts specific thermal testing to the College of Textiles at North Carolina State University, those specific expenditures could qualify for a highly lucrative 20% state credit rate reserved for university-affiliated research.

Biotechnology and Diagnostic Life Sciences

As traditional textiles faced offshore competition, Burlington actively fostered the growth of knowledge-based industries, most notably biotechnology. The genesis of this sector in Burlington is directly attributed to Dr. Jim Powell and his brothers, who founded Biomedical Laboratories in 1969. While attending medical school at Duke University, Dr. Powell grew deeply frustrated with the inefficiencies of clinical diagnostics; local hospitals routinely shipped samples to laboratories in California, resulting in turnaround times of up to two weeks, by which point the data was often clinically useless. Operating initially out of the basement of Alamance General Hospital in Burlington, the Powell brothers designed localized logistical and testing processes aimed at delivering results within twenty-four hours. Through decades of strategic acquisitions—including the 1983 merger to form Roche Biomedical Laboratories and the 1995 merger with National Health Laboratories—the Burlington-based operation evolved into Laboratory Corporation of America (Labcorp). Today, Labcorp is a global Fortune 500 life sciences leader generating over $13 billion in annual revenue, employing 70,000 people globally, and operating its massive Center for Esoteric Testing in Burlington. The presence of Labcorp transformed Alamance County into a pivotal node in North Carolina’s broader life sciences ecosystem, which is recognized globally for biomanufacturing and contract research.

Consider a scenario where a Burlington-based biopharmaceutical laboratory initiates an R&D project to develop a new “liquid biopsy” molecular diagnostic assay. The objective is to detect circulating tumor DNA (ctDNA) indicative of early-stage pancreatic cancer using highly degraded, low-volume blood plasma samples. This endeavor easily satisfies the federal four-part test. The business component is the creation of a new diagnostic testing technique and its underlying bioinformatic software algorithm. The elimination of uncertainty requirement is met because the laboratory faces fundamental unknowns regarding the appropriate chemical method for extracting scarce genomic material from low-volume plasma without destroying the sample, as well as the algorithmic design required to filter out background genomic noise that causes false positive results. The technological in nature prong is satisfied as the research relies entirely on molecular biology, genetics, and computer science. The process of experimentation is demonstrated as researchers test varying reagent concentrations for DNA extraction, executing polymerase chain reaction (PCR) cycles across hundreds of blind clinical samples. They iteratively adjust the bioinformatics algorithm to optimize the assay’s sensitivity and specificity.

The financial expenditures associated with this research qualify as Qualified Research Expenses (QREs) under Section 41. The primary QREs will be the W-2 Box 1 wages paid to the Ph.D. geneticists and laboratory technicians conducting the iterations in Burlington. Additionally, the costs of the chemical reagents, specialized test tubes, and biological samples consumed and destroyed during the failed testing iterations qualify as supply QREs. Regarding North Carolina tax administration, the NCDOR has historically subjected complex corporate structures to intense audit scrutiny. However, recent case law protects the biotechnology firm’s ability to utilize state tax credits. In instances where the laboratory might utilize structured investment partnerships to finance the heavy capital expenditures of genomic sequencing equipment, the North Carolina Business Court’s ruling in N.C. Farm Bureau Mut. Ins. Co. v. NCDOR establishes that state tax administrators cannot arbitrarily import federal anti-abuse doctrines—such as the “economic substance” doctrine—to disallow state credits if the statutory definitions of research have been strictly met.

Aerospace and Aviation Manufacturing

The aerospace manufacturing sector in Burlington developed through a complex interplay of wartime necessity and strategic geographic positioning. During World War II, the federal government recognized the strategic value of the Piedmont region and leased a twenty-two-acre site in Burlington to the Fairchild Aircraft Corporation in 1942 for the construction and testing of military aircraft. Following the war, the site transitioned to the Firestone Tire Company for tank rebuilding, and subsequently to Western Electric, which utilized the facility to manufacture and test emerging defense technologies, including radar systems and guided missile components during the Cold War. Although Western Electric (later Lucent Technologies) closed its doors in 1991, the generational presence of these firms established a highly specialized workforce trained in precision engineering and defense manufacturing. This legacy made Burlington an attractive destination for modern aerospace entities. In 2004, Honda Motor Company and General Electric formed a joint venture to commercialize jet engines. Leveraging the existing infrastructure and talent pool, Honda Aero announced in 2007 that it would establish its global headquarters and state-of-the-art jet engine manufacturing plant adjacent to the Burlington-Alamance Regional Airport. With an initial capital investment of $27 million, the Burlington facility became the exclusive production site for the highly advanced GE Honda HF120 turbofan engine, which powers the HondaJet manufactured in nearby Greensboro.

An aerospace manufacturer in Burlington undertaking a project to redesign the bypass duct of a turbofan engine provides a clear R&D tax credit case study. The goal of the research is to utilize advanced ceramic matrix composites (CMCs) instead of traditional titanium to reduce engine weight by eight percent and significantly improve overall fuel efficiency. The business component is the improved bypass duct. To satisfy the elimination of uncertainty test, the firm must adhere to the stringent documentation standards highlighted in recent federal case law, such as the Tax Court’s ruling in Phoenix Design Group, Inc. v. Commissioner. The engineering firm must formally document its initial uncertainty prior to commencing work: it is unknown if the specific CMC material formulation can withstand the extreme acoustic vibrations and thermal stresses of the engine bypass environment without micro-fracturing. The research is technological in nature, relying on aerospace engineering, thermodynamics, and materials science.

The process of experimentation requires meticulous tracking to satisfy the IRS’s “substantially all” requirement, which dictates that at least eighty percent of the claimed activities must be experimental. As demonstrated in the Little Sandy Coal Co. v. Commissioner decision, the IRS and federal courts will reject claims based on post-project estimates. Therefore, the Burlington manufacturer utilizes precise project accounting software. Engineers utilize finite element analysis (FEA) software to digitally simulate thermal and aerodynamic loads on various computer-aided design (CAD) models of the duct. Prototypes are subsequently fabricated and subjected to destructive physical testing on custom thrust stands and in wind tunnels. The documented iterative loop between digital simulation, prototype failure, redesign, and physical retesting clearly establishes the scientific experimentation process. If this manufacturing facility is geographically situated within a certified “Eco-Industrial Park,” the pending North Carolina Senate Bill 354 would allow the firm to claim a highly lucrative 35% state tax credit on these qualified expenses, incentivizing the retention of advanced aerospace manufacturing within the Alamance County corridor.

Food Science and Processing Formulation

North Carolina boasts the second-largest food and beverage industry cluster in the United States, and Burlington has historically been a central player in this sector’s development. The local food manufacturing industry traces its roots back to agricultural processing in the early 20th century. In 1927, Ralph H. Scott expanded his father’s modest butter-churning business by establishing Melville Dairy, which quickly became the dominant provider of milk and cream to Alamance County. The critical inflection point for technological innovation occurred in 1959 when the facility was selected as a franchise producer for a revolutionary new packaging concept: Reddi-wip. By mastering the complex physics and chemistry of aerosol delivery systems for dairy products, the company evolved into Alamance Foods, Inc. The firm expanded its manufacturing capabilities throughout the late 20th century to include flavored syrups, freeze pops, and the pioneering “Triton” brand of multi-pack bottled water. Today, Alamance Foods operates multiple massive facilities in Burlington, recently executing a $42 million expansion to enhance its warehousing and production capabilities, solidifying food science as a pillar of the local economy.

In the contemporary food processing environment, a Burlington-based food science company aiming to develop a first-of-its-kind, shelf-stable, oat-milk-based aerosol whipped cream engages in heavily qualified R&D activities. The business component is both the novel food product formulation and the highly specialized manufacturing process required to package it. The elimination of uncertainty is rooted in physical chemistry; the company does not know how to achieve a stable emulsion using plant-based oat proteins that will properly aerate when expelled through a pressurized aerosol nozzle, nor do they know how to prevent the product from separating or spoiling at room temperature without the use of traditional dairy preservatives. The activity relies on the hard sciences of organic chemistry, microbiology, and food science.

To satisfy the process of experimentation test, the Burlington firm must carefully distinguish its activities from routine quality control. In the federal tax case Siemer Milling Company v. Commissioner, the Tax Court completely disallowed an R&D credit claim because the flour company’s activities consisted merely of routine testing to ensure product consistency, lacking a formulated hypothesis and systematic evaluation of alternatives. Learning from this judicial precedent, the Burlington food science company meticulously documents the formulation of forty distinct batches of oat milk, systematically varying the concentration of emulsifiers and the pressure ratios of the propellant gas. Laboratory technicians test each batch at specific time intervals for pH levels, viscosity, and microbial growth, formally documenting the failure of formulas that curdle or fail to whip. This rigorous documentation proves true scientific experimentation. For state tax purposes, the company must ensure its manufacturing plant maintains a strict, violation-free OSHA record, which is a mandatory prerequisite for utilizing North Carolina R&D credits. Furthermore, if the company hires new food scientists to execute this specific research during an expansion, they can strategically layer state job creation grants (such as the Job Development Investment Grant) with federal R&D credits that capture the wages of those newly hired scientists.

Precision Machining and Advanced Manufacturing

The precision machining and advanced metal fabrication industry in Burlington evolved as a necessary secondary support sector. During the height of the textile boom in the mid-20th century, the massive spinning and weaving mills required constant mechanical maintenance, specialized parts fabrication, and rapid tool repair. This necessity cultivated a dense local ecosystem of highly skilled machinists and metalworkers. As the textile industry contracted in the late 1990s, these machine shops faced a critical juncture. Facilities such as P&S Machining and Fabrication, founded in Burlington in 1965, successfully pivoted their expertise. They upgraded their capabilities from basic repair work to advanced Computer Numerical Control (CNC) turning, horizontal and vertical milling, and robotic welding. By achieving ISO 9001:2015 certifications, these Burlington machine shops integrated themselves into the highly lucrative supply chains of the aerospace, defense, renewable energy, and medical device sectors, producing complex components that demand exact tolerances.

A scenario illustrating this involves a Burlington contract manufacturer tasked by a tier-one defense contractor to fabricate a complex titanium housing for a next-generation naval radar system. The business component is the development of a new manufacturing process, specifically the unique CNC machining toolpaths and robotic welding routines required to execute the design. The elimination of uncertainty exists fundamentally in the manufacturing methodology. While the machine shop possesses the blueprints and knows exactly what to build, they face deep technical uncertainty regarding how to build it. Titanium is notoriously difficult to machine due to its high strength and low thermal conductivity. The manufacturer is uncertain of the optimal CNC feed rates, spindle speeds, cutting fluid application methods, and robotic welding thermal parameters required to cut and fuse the titanium without inducing severe metallurgical warping or catastrophic tool breakage. The research is technological in nature, relying heavily on mechanical engineering, metallurgy, and thermodynamics. The process of experimentation involves running systematic trial programs on the CNC mill, actively adjusting tool paths and speeds based on vibration feedback. They test various inert gas mixtures for the robotic welder and use ultrasonic non-destructive testing to inspect weld integrity, iterating the parameters until the exact warp tolerance specified by the defense contractor is achieved.

When claiming the federal R&D credit, this Burlington machine shop must carefully navigate the “funded research” exclusion under Section 41(d)(4)(H). The IRS aggressively audits contract manufacturers to determine if they bear the economic risk of the research. Based on the precedent established in Smith v. Commissioner, the machine shop must ensure their contracts with the defense entity are structured as fixed-price agreements where payment is entirely contingent upon the successful delivery of a housing that meets exact specifications. If the shop is paid on an hourly time-and-materials basis regardless of success, the IRS will deem the research “funded” by the client and deny the credit. Furthermore, the shop must retain substantial rights to the intellectual property developed—specifically the proprietary machining process knowledge—to qualify for the credit.

Detailed Regulatory Analysis: United States Federal Tax Credit

The federal Credit for Increasing Research Activities, codified under IRC Section 41, is a permanent statutory incentive designed to stimulate domestic economic growth by rewarding taxpayers who bear the financial risk of attempting to innovate. Understanding the exact statutory mechanisms and the administrative guidance provided by the Internal Revenue Service (IRS) is crucial for Burlington industries seeking to monetize their intellectual capital.

The Section 41 Four-Part Test

The foundational architecture of the federal R&D tax credit is the conjunctive four-part test. A taxpayer must prove that the activities associated with a specific project satisfy every single element of this test; the failure of one element renders the entire activity ineligible.

The Section 174 Test (Elimination of Uncertainty):

Under IRC Section 41(d)(1)(A), the expenditures must be eligible for treatment as research and experimental (R&E) expenses under IRC Section 174. The Treasury Regulations stipulate that an activity meets this standard if it is intended to discover information that would eliminate uncertainty concerning the development or improvement of a product. Uncertainty exists if the information available to the taxpayer at the outset of the project does not establish the capability or method for developing or improving the product, or the appropriate design of the product. The IRS Audit Techniques Guide (ATG) instructs examiners to look for project initiation documents that clearly define the technical unknowns before capital is expended.

The Technological in Nature Test:

IRC Section 41(d)(1)(B)(i) requires that the research must be undertaken for the purpose of discovering information that is “technological in nature.” The process of experimentation used to discover this information must fundamentally rely on principles of the hard sciences. The statute explicitly limits these to physical sciences (e.g., physics, chemistry, metallurgy), biological sciences (e.g., genetics, microbiology), engineering (e.g., mechanical, aerospace, electrical), or computer science. Research that relies on soft sciences, such as economics, psychology, sociology, or aesthetic design, is strictly prohibited from claiming the credit.

The Business Component Test (Permitted Purpose):

Under IRC Section 41(d)(1)(B)(ii), the application of the research must be intended to be useful in the development of a new or improved “business component” of the taxpayer. The statute defines a business component as a product, process, computer software, technique, formula, or invention that is either held for sale, lease, or license, or used by the taxpayer in their own trade or business. Furthermore, the research must relate to a permitted purpose: achieving a new or improved function, performance, reliability, or quality. Research undertaken merely for aesthetic reasons, styling, or seasonal taste variations does not qualify.

The Process of Experimentation Test:

The most heavily litigated element is found in IRC Section 41(d)(1)(C), which mandates that “substantially all” of the research activities must constitute elements of a process of experimentation. The Treasury Regulations define “substantially all” as eighty percent (80%) or more of the activities. A process of experimentation is defined as a systematic, scientific approach to evaluating alternatives to achieve a result where the capability or method is uncertain. It requires the taxpayer to identify the uncertainty, formulate one or more hypotheses intended to resolve the uncertainty, conduct a process of evaluating the alternatives (through modeling, simulation, or physical trial and error), and refine or discard the hypotheses based on the results.

Qualified Research Expenses (QREs)

If a project satisfies the four-part test, the taxpayer may aggregate the specific costs associated with that project. Under IRC Section 41(b), Qualified Research Expenses (QREs) are strictly categorized into three distinct buckets:

Statutory Exclusions and Legislative Accounting Updates

Section 41(d)(4) provides a definitive list of activities that are statutorily excluded from the definition of qualified research. These exclusions include research conducted after the beginning of commercial production (e.g., routine quality control or debugging), the adaptation of an existing business component to a specific customer’s requirement, the duplication of an existing product through reverse engineering, surveys and market research, foreign research conducted outside the United States or its territories, and funded research.

The accounting treatment of R&D expenses has undergone massive legislative volatility. Under the Tax Cuts and Jobs Act (TCJA) of 2017, a revenue-raising provision went into effect for tax years beginning after December 31, 2021, requiring taxpayers to capitalize and amortize their domestic Section 174 R&E expenses over a five-year period (and over fifteen years for foreign research), rather than deducting them immediately. This severely impacted the cash flow of innovative companies. However, the One Big Beautiful Bill Act (OBBBA) enacted in 2025 retroactively eliminated this burden for domestic research. Starting with the 2025 tax year, U.S. businesses are once again permitted to immediately expense their domestic R&D costs in the year they are incurred, providing massive liquidity relief to manufacturers in Burlington, though foreign research remains subject to the fifteen-year amortization schedule.

Federal Judicial Precedent and Administrative Enforcement

The IRS utilizes specific frameworks, such as the Audit Techniques Guide (ATG) and the ASC 730 Directive for large corporate taxpayers, to aggressively examine R&D claims. Federal case law provides critical guidance on how the courts interpret the boundaries of the four-part test, underscoring the absolute necessity of contemporaneous documentation.

The Strict Enforcement of the “Substantially All” Rule

The landmark ruling in Little Sandy Coal Co., Inc. v. Commissioner (7th Cir. 2023) represents a significant tightening of judicial standards. The taxpayer, a shipbuilder, claimed credits for the design of a novel tank barge. While the court agreed the taxpayer engaged in experimentation, it denied the claim entirely because the taxpayer failed to prove that substantially all (at least 80%) of the employees’ activities were experimental rather than routine production. The taxpayer relied on post-project estimates and interviews to allocate wage percentages. The Seventh Circuit rejected this, stating that Section 41 requires the court to “walk by sight, not by faith.” The court also refused to apply the “shrinking-back rule” (which allows a taxpayer to isolate the experimental sub-component of a larger project) because the taxpayer lacked the detailed, component-level time tracking required to do so. This case dictates that Burlington manufacturers must implement rigorous, real-time tracking systems to isolate experimental labor from standard production labor.

Defining Uncertainty at the Outset

In Phoenix Design Group, Inc. v. Commissioner (T.C. Memo 2024-113), the Tax Court evaluated an engineering firm claiming credits for designing mechanical, electrical, and plumbing (MEP) systems for complex buildings. The court ruled in favor of the IRS, noting that the taxpayer failed to identify specific, technological uncertainties before the research commenced. General uncertainties inherent to the construction industry—such as routing ductwork around structural beams—did not qualify. The IRS demands documented evidence of a specific technological unknown at the project’s inception, proving that the engineering firm is fundamentally challenging its existing knowledge base rather than merely applying known engineering principles to a new floor plan.

Distinguishing Routine Quality Control from Experimentation

The distinction between production and research was heavily analyzed in Siemer Milling Company v. Commissioner (T.C. Memo 2019-37) and Union Carbide Corp. v. Commissioner (2009). In Siemer Milling, a food processing entity claimed credits for developing a flour heat-treatment process. The Tax Court disallowed the credits, characterizing the activities as routine quality assurance. The court noted the absence of a methodical plan involving a series of trials to test a formal hypothesis. In Union Carbide, the court similarly disallowed the costs of chemical supplies consumed during routine production testing, drawing a strict line between the consumption of materials during the experimental design validation phase and the consumption of materials during early-stage commercial runs. Burlington food processors and chemical manufacturers must ensure their testing protocols are scientifically structured and cease claiming supply QREs once a product design is finalized.

Navigating the Funded Research Exclusion

The federal courts addressed the complexities of contract manufacturing in Smith v. Commissioner (2025). An architectural firm faced IRS disallowance under the argument that its clients “funded” the research through their payments, thereby removing the firm’s economic risk. The Tax Court denied the IRS’s motion for summary judgment by closely analyzing the underlying contracts. Because the contracts stipulated that the firm would only be paid upon the successful achievement of specific design milestones, the court found that the firm did, in fact, bear the financial risk of failure. Furthermore, the firm retained substantial rights because local laws vested copyright protection of the designs in the architect. This ruling is vital for contract manufacturers in Burlington, such as aerospace machine shops, confirming that fixed-price performance contracts can shield a taxpayer from the funded research exclusion.

North Carolina State R&D Tax Credit Framework

While the federal R&D credit provides a baseline of support, state-level incentives dictate regional competitiveness. North Carolina’s approach to subsidizing innovation is currently in a state of complex transition, balancing the legacy of expired statutes with aggressive pending legislation.

Article 3F: Historical Application and Carryforwards

The primary vehicle for state R&D incentives was the North Carolina Research and Development Tax Credit, codified under Article 3F of Chapter 105 of the General Statutes. Although the North Carolina General Assembly allowed Article 3F to expire for tax years beginning on or after January 1, 2016, the statute’s mechanics remain highly relevant today due to its generous carryforward provisions. Article 3F allowed taxpayers to carry forward unused R&D credits for up to fifteen succeeding years. Consequently, a Burlington biotechnology firm or textile manufacturer that generated substantial credits in 2014 or 2015 can legally continue to utilize these historical carryforwards through the 2029 and 2030 tax returns to offset up to fifty percent of their North Carolina corporate income or franchise tax liability.

To legally claim these lingering carryforwards, taxpayers must adhere strictly to the compliance mandates enforced by the North Carolina Department of Revenue (NCDOR). Unlike the federal credit, Article 3F conditioned eligibility on broader corporate behavior. Taxpayers must continuously meet the state’s designated wage standard, provide health insurance for all full-time employees at the specific physical locations where the historical research was incurred, and maintain immaculate environmental and Occupational Safety and Health Act (OSHA) records. A significant OSHA violation or a citation from the Department of Environmental Quality could trigger a forfeiture of the remaining carryforward balance.

The Legislative Horizon: Senate Bill 354 (The NC Breakthrough Act)

Recognizing that the absence of an active state R&D credit places North Carolina at a disadvantage when recruiting high-tech industries, the General Assembly introduced Senate Bill 354, known as the “NC Breakthrough Act,” during the 2025–2026 legislative session. If enacted, SB 354 will reenact and modernize Article 3F, extending its sunset date to January 1, 2040.

SB 354 explicitly conforms its definition of “Qualified North Carolina Research Expenses” to the federal IRC Section 41 definitions, meaning the federal four-part test will directly govern state eligibility. However, the bill introduces a highly targeted, tiered credit rate structure designed to direct capital toward specific state economic goals:

• Small Business and Low-Tier Research: A flat 3.25% credit rate for entities meeting federal small business definitions or operating in economically distressed Tier 1 counties.
• General Research Expenses: A tiered structure based on volume, granting 1.25% for the first $50 million of expenses, scaling up to 3.25% for expenses exceeding $200 million.
• University Research: A highly incentivized 20% credit rate for research expenditures paid directly to North Carolina research universities, designed to foster academic-corporate synergies in hubs like the Research Triangle and surrounding areas.
• Eco-Industrial Parks: A massive 35% credit rate for research conducted within state-certified Eco-Industrial Parks, aiming to spur sustainable advanced manufacturing.

To balance the fiscal impact of these generous rates, SB 354 introduces a stricter utilization cap, reducing the allowable tax offset from the historical 50% limit down to 15% of the taxpayer’s state liability, while preserving the critical fifteen-year carryforward mechanism.

North Carolina Judicial Precedent and Administrative Guidance

The enforcement posture of the North Carolina Department of Revenue has recently been checked by the state’s judiciary, providing significant protections for corporate taxpayers relying on complex credit structures.

In a landmark 2023 ruling, N.C. Farm Bureau Mut. Ins. Co. v. N.C. Dep’t of Revenue, the North Carolina Business Court addressed the NCDOR’s attempt to disallow state renewable energy tax credits. The NCDOR utilized federal tax doctrines—specifically the “economic substance” and “disguised sale” doctrines—to argue that the investors in a tax credit syndication were not “bona fide partners” and thus ineligible for the pass-through credits. The Business Court decisively ruled against the NCDOR, holding that federal tax doctrines cannot be arbitrarily imported into state statutes without a clear, specific legislative mandate from the General Assembly. The court ruled that if the partnership met the literal statutory requirements of the state law, the NCDOR could not invalidate the transaction based on subjective federal anti-abuse theories. This ruling serves as a vital protective shield for R&D taxpayers in Burlington, ensuring that state audits of Article 3F carryforwards must remain grounded in the literal text of the North Carolina statutes rather than subjective federal common law doctrines.

Furthermore, in Philip Morris USA, Inc. v. N.C. Department of Revenue (2024), the North Carolina Supreme Court ruled in favor of the taxpayer regarding the mechanics of tax credit carryforwards. The NCDOR had reinterpreted an export tax credit statute to apply an annual cap not only to the amount of credit a company could utilize in a given year but also to the total amount of credit the company could generate and carry forward. The Supreme Court rejected the NCDOR’s stance, holding that the clear statutory language capped only the annual utilization, permitting the unlimited generation and carryforward of earned credits. The Court sharply criticized the NCDOR for altering its interpretation without providing public guidance, reaffirming that taxpayers have a right to rely on consistent statutory interpretations. For Burlington businesses holding substantial 15-year Article 3F R&D carryforwards, this ruling prevents the NCDOR from retroactively inventing administrative mechanisms to artificially shrink the value of their accrued tax assets.

Through a nuanced understanding of federal Section 41 requirements, the evidentiary standards demanded by federal courts, and the protective rulings of the North Carolina judiciary, industries operating in Burlington can successfully navigate the administrative complexities of the tax code. By aligning their sophisticated engineering and scientific endeavors with these statutory frameworks, Burlington’s legacy and emerging sectors secure the vital capital necessary to fund the next generation of technological advancement in the Piedmont Triad.

The information in this study is current as of the date of publication, and is provided for information purposes only. Although we do our absolute best in our attempts to avoid errors, we cannot guarantee that errors are not present in this study. Please contact a Swanson Reed member of staff, or seek independent legal advice to further understand how this information applies to your circumstances.