Who bears the risk of an overclaim | Research Credit Integrity Alliance

Key points

If a credit is disallowed, the tax it offset becomes tax the business owes, and interest runs on unpaid tax at the underpayment rate from the original due date until it is paid.12
An accuracy-related penalty of 20 percent of the relevant part of an underpayment can apply, subject to a reasonable cause and good faith exception.34
A separate penalty of 20 percent of the excessive amount can apply to a claim for refund or credit that is excessive, unless the excess is due to reasonable cause.5
A paid preparer can face a penalty too, but it is measured by the preparer's income from the return or claim, not by the tax, and it does not repay anything to the business.6
Whether the adviser's fee is reduced or refunded depends on the engagement letter, not on federal tax law.

The short answer

A federal research credit reduces the tax that a business owes. If the IRS later decides that some or all of the credit was not allowable, the tax that the credit offset is still owed. The business, as the taxpayer, owes it.

The adviser who prepared the claim is not the taxpayer. The federal statutes discussed below place the tax, the interest and the taxpayer's penalties on the taxpayer, and set a separate, differently measured penalty for preparers. Whether the adviser gives back any of the fee is a matter for the engagement letter.

This article explains each of those pieces in plain language. It states rates and conditions only as the statutes state them. It is general information, and how the rules apply to a particular business depends on the facts. Our sourced analysis is in the white paper Who pays for an overclaim.

Repaying the credit

When a credit is reduced or disallowed, the tax that the credit was used to offset is tax the business owes for that year. This is so whether the credit was claimed on an original return or through an amended return or refund claim, although the procedures differ. How the IRS assesses or recovers the tax is outside the scope of this article.

Interest

Interest is separate from any penalty. It is charged for the time the tax went unpaid.

The rule is in section 6601 of the Internal Revenue Code. If any amount of tax is not paid on or before the last date prescribed for payment, interest on that amount at the underpayment rate "shall be paid for the period from such last date to the date paid".1 The last date prescribed for payment is determined without regard to any extension of time for payment.1

That timing matters for research credits. The period runs from the original payment date for the year in question, not from the date the IRS raised the issue. A claim that is examined a few years after it was filed can carry several years of interest.

The rate

Section 6621 sets the underpayment rate as the federal short-term rate plus 3 percentage points.2 The federal short-term rate is set by the Secretary of the Treasury for the first month of each calendar quarter.2 So the rate can change every quarter.

For a C corporation, a higher rate can apply. If a C corporation's underpayment for a taxable period exceeds $100,000, it is a "large corporate underpayment", and for periods after an applicable date the statute substitutes 5 percentage points for 3.2 The applicable date is generally the 30th day after the IRS sends the first letter of proposed deficiency that allows an appeal to the IRS Independent Office of Appeals, or the deficiency notice, whichever is earlier.2 There are special rules for letters involving small amounts and for amounts paid within 30 days.2

Section 6662 adds to the tax an amount equal to 20 percent of the portion of an underpayment to which the section applies.3 It applies to the portion of an underpayment attributable to one or more listed causes. The two most relevant to research credits are:3

Negligence or disregard of rules or regulations. Negligence "includes any failure to make a reasonable attempt to comply" with the tax law, and disregard includes "any careless, reckless, or intentional disregard".3
A substantial understatement of income tax. For most taxpayers this means an understatement that exceeds the greater of 10 percent of the tax required to be shown or $5,000. For a corporation other than an S corporation or personal holding company, it means an understatement that exceeds the lesser of 10 percent of the tax required to be shown (or, if greater, $10,000) or $10,000,000.3

In working out whether an understatement is substantial, the statute reduces the understatement for items where there is or was substantial authority for the taxpayer's treatment, and for items whose relevant facts were adequately disclosed and for which there is a reasonable basis, except for items attributable to a tax shelter.3

The reasonable cause exception

Section 6664 provides that no penalty is imposed under section 6662 on any portion of an underpayment "if it is shown that there was a reasonable cause for such portion and that the taxpayer acted in good faith".4 This exception does not apply to certain kinds of transaction listed in the statute, such as those lacking economic substance.4

Whether reliance on an adviser amounts to reasonable cause depends on the facts, and this article does not try to answer that question.

The erroneous refund claim penalty: section 6676

Section 6676 deals with claims for refund or credit rather than returns. If a claim for refund or credit with respect to income tax "is made for an excessive amount", the person making the claim is liable for a penalty "equal to 20 percent of the excessive amount", unless it is shown that the claim for the excessive amount is due to reasonable cause.5

The excessive amount is the amount by which the claim for the year exceeds the amount allowable.5 The penalty does not apply to any portion of the excessive amount that is subject to a penalty under the part of the Code that contains section 6662.5 In other words, the two penalties are coordinated so that the same amount is not penalized under both.

Section 6676 applies to "the person making such claim".5 A research credit refund claim is made by the taxpayer that files it, not by the adviser who prepared it. IRS Chief Counsel has said that such a claim needs a declaration signed under penalties of perjury, and that in most cases the signature on the amended return (Form 1040-X or Form 1120-X) serves this function.7 This is why refund claims carry their own risk, discussed further in Amended and refund claims.

For contrast: the preparer penalty, section 6694

Federal law also penalizes paid preparers for certain understatements. A "tax return preparer" is any person who prepares for compensation, or employs others to prepare for compensation, any return or any claim for refund. Preparing a substantial portion of a return or claim counts.8

Section 6694 has two tiers:6

Unreasonable positions. If a preparer prepares a return or claim for refund where any part of an understatement is due to an unreasonable position, and the preparer knew or reasonably should have known of the position, the penalty for each return or claim is the greater of $1,000 or 50 percent of the income derived (or to be derived) by the preparer with respect to it. A position is generally unreasonable unless there is or was substantial authority for it. For a properly disclosed position, the test is whether there is a reasonable basis. No penalty applies if there was reasonable cause and the preparer acted in good faith.
Willful or reckless conduct. If the understatement is due to a willful attempt to understate the liability, or to reckless or intentional disregard of rules or regulations, the penalty is the greater of $5,000 or 75 percent of the income derived (or to be derived) by the preparer.

Two differences stand out.

What the penalty is measured by. The taxpayer's penalties under sections 6662 and 6676 are measured by the underpayment or the excessive amount.35 The preparer's penalty is measured by the preparer's own income from the return or claim, with a dollar minimum.6
Where the money goes. A preparer penalty is paid to the government. Nothing in sections 6601, 6662, 6676 or 6694 moves the taxpayer's tax, interest or penalty onto the preparer.1356

What happens to the adviser's fee

Federal tax law does not decide whether an adviser keeps a fee after a claim is reduced. The engagement letter does. Letters differ, and the following points are general.

Fee base. A fee calculated on the credit as claimed is fixed when the claim is filed. A fee calculated on the credit as allowed can fall if the credit falls. See How success fees work.
Refund or clawback terms. A letter may promise to refund part or all of the fee if the credit is disallowed, or it may not. Treasury's rules for practitioners treat a promise to reimburse the client's fee if a position is challenged or not sustained as a form of contingent fee.9
Audit support. A letter may include help in responding to an IRS examination, or it may charge separately for that help or exclude it. Even where it is included, its scope can vary: answering information requests, attending meetings, or representing the business before the IRS Independent Office of Appeals.
Indemnities. A promise to cover the taxpayer's tax, interest or penalties is different from a promise to refund the fee. A business can read which one, if either, the letter contains, and what conditions and caps apply.

An illustration

The figures below are invented round numbers. They show how the pieces fit together and are not a calculation for any real case.

A business claims a research credit of $100,000 and pays its adviser 20 percent of the credit claimed, or $20,000. On examination, the full credit is disallowed. The business owes the $100,000 of tax, plus interest from the original payment date. If the accuracy-related penalty applies to the whole underpayment, it adds $20,000.3 If the engagement letter has no refund term, the adviser keeps the $20,000 fee. If the adviser also faced a preparer penalty, that penalty would be paid to the government and would not reduce what the business owes.6

Questions a business can ask

Is the fee calculated on the credit claimed or the credit allowed?
If the IRS reduces the credit, is any part of the fee refunded, when, and on what conditions?
Does the fee include support during an IRS examination? Up to what stage?
Does the letter contain any promise about tax, interest or penalties, or only about fees?
Who prepared the claim, and will they be the ones who answer the IRS?

See our disclaimer.

More questions are in Information gaps for businesses.

Our position

Swanson Reed, the publisher of this site, is a fixed-fee R&D tax adviser with a direct commercial interest in how advisers are paid. Our position is that Congress should prohibit contingent fees in federal research credit engagements under Section 41. Under federal law the tax, interest and taxpayer penalties on a disallowed credit fall on the business. In our view an adviser's pay should not grow with the size of a claim whose downside the adviser does not carry. See Our position.

Sources

Office of the Law Revision Counsel, 26 U.S.C. 6601, Interest on underpayment, nonpayment, or extensions of time for payment, of tax, subsections (a) and (b)(1), United States Code 2024 edition published by the Government Publishing Office. https://www.govinfo.gov/content/pkg/USCODE-2024-title26/html/USCODE-2024-title26-subtitleF-chap67-subchapA-sec6601.htm (accessed 11 October 2026). Back
Office of the Law Revision Counsel, 26 U.S.C. 6621, Determination of rate of interest, subsections (a)(2), (b)(1) and (c), United States Code 2024 edition published by the Government Publishing Office. https://www.govinfo.gov/content/pkg/USCODE-2024-title26/html/USCODE-2024-title26-subtitleF-chap67-subchapC-sec6621.htm (accessed 11 October 2026). Back
Office of the Law Revision Counsel, 26 U.S.C. 6662, Imposition of accuracy-related penalty on underpayments, subsections (a), (b), (c) and (d)(1) to (d)(2), United States Code 2024 edition published by the Government Publishing Office. https://www.govinfo.gov/content/pkg/USCODE-2024-title26/html/USCODE-2024-title26-subtitleF-chap68-subchapA-partII-sec6662.htm (accessed 11 October 2026). Back
Office of the Law Revision Counsel, 26 U.S.C. 6664, Definitions and special rules, subsection (c)(1) and (c)(2), United States Code 2024 edition published by the Government Publishing Office. https://www.govinfo.gov/content/pkg/USCODE-2024-title26/html/USCODE-2024-title26-subtitleF-chap68-subchapA-partII-sec6664.htm (accessed 11 October 2026). Back
Office of the Law Revision Counsel, 26 U.S.C. 6676, Erroneous claim for refund or credit, subsections (a), (b) and (d), United States Code 2024 edition published by the Government Publishing Office. https://www.govinfo.gov/content/pkg/USCODE-2024-title26/html/USCODE-2024-title26-subtitleF-chap68-subchapB-partI-sec6676.htm (accessed 11 October 2026). Back
Office of the Law Revision Counsel, 26 U.S.C. 6694, Understatement of taxpayer's liability by tax return preparer, subsections (a) and (b), United States Code 2024 edition published by the Government Publishing Office. https://www.govinfo.gov/content/pkg/USCODE-2024-title26/html/USCODE-2024-title26-subtitleF-chap68-subchapB-partI-sec6694.htm (accessed 11 October 2026). Back
IRS Office of Chief Counsel, Memorandum 20214101F, I.R.C. 41 Research Credit Refund Claims, dated 17 September 2021, released 15 October 2021, Short Answers, answer 2. https://www.irs.gov/pub/irs-lafa/20214101f.pdf (accessed 11 October 2026). Back
Office of the Law Revision Counsel, 26 U.S.C. 7701, Definitions, subsection (a)(36)(A), United States Code 2024 edition published by the Government Publishing Office. https://www.govinfo.gov/content/pkg/USCODE-2024-title26/html/USCODE-2024-title26-subtitleF-chap79-sec7701.htm (accessed 11 October 2026). Back
Treasury Department, Circular No. 230, 31 CFR 10.27, Fees, paragraph (c)(1). https://www.ecfr.gov/current/title-31/subtitle-A/part-10/subpart-B/section-10.27 (accessed 11 October 2026). Back

This article discusses fee practices in general terms. It is not a statement about any particular adviser.