Unlocking R&D Tax Credit Opportunities in the Consumer Packaged Goods Industry

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Key Takeaways:

• Consumer Packaged Goods companies operate in a constant cycle of innovation, often optimizing formulation, improving shelf-life, packaging, and performing other process improvements that may qualify for valuable R&D tax credits.
• Under IRC §41, the federal R&D tax credit can generate meaningful cash-flow benefits by reducing income tax or, in some cases, payroll tax liabilities, even when projects are incremental or do not result in commercial success.
• Recent legislative changes allowing the immediate expense of domestic R&E costs further enhance the financial impact of the R&D credit for eligible CPG companies.
• With proper evaluation and documentation of qualified activities, these everyday innovative efforts can be transformed into a valuable and often underutilized tax opportunity.

Consumer Packaged Goods (CPG) companies operate in a constant state of innovation. Changing consumer expectations, evolving regulatory requirements, supply‑chain pressures, and margin constraints require companies to continuously improve products and production processes. So how can these companies benefit from the investments they are already making to stay competitive? One often‑overlooked opportunity is the Research & Development (R&D) tax credit.

The R&D tax credit, governed by Internal Revenue Code (IRC) Section 41, is available to businesses across a wide range of industries, including those engaged in developing and improving consumer products. When evaluated through the proper statutory framework, many everyday CPG activities may qualify for meaningful tax benefits.

What Is the R&D Tax Credit?

The federal R&D tax credit, governed by Internal Revenue Code (IRC) Section 41, is intended to encourage U.S. businesses to invest in innovation. The credit provides a dollar-for-dollar reduction of federal income tax liability and, in certain cases, can be used to offset payroll taxes. Many states also offer their own R&D credits, that can be claimed in addition to the federal R&D credit, further increasing the potential benefit.

Recent legislative changes under the One Big Beautiful Bill Act (OBBBA), created the new Section 174A, which allows domestic research and experimental (R&E) expenditures to be immediately deducted in the year they are incurred, rather than capitalized and amortized, improving cash flow and enhancing the value of the R&D credit.

For CPG companies, the R&D tax credit can:

• Improve cash flow
• Reduce current-year tax liability (income tax or payroll tax withholdings, as applicable)
• Free up capital for reinvestment in operations and growth
• Deliver value even when projects do not result in commercial success

Product and process improvements and technical development efforts may qualify when they meet the statutory requirements.

Qualifying Activities Under IRC §41

IRC §41 sets out a four-part test to determine whether an activity qualifies for the R&D tax credit. When evaluating CPG activities for credit qualification, the focus should be on technical development efforts undertaken to solve identified challenges.

1. Permitted Purpose

The activity must seek to develop a new or improved product or process, or to improve function, performance, reliability, or quality. CPG examples may include technical formulation efforts, shelf-life improvements, packaging performance enhancements, or production process improvements.

2. Technological in Nature

The activity must rely on principles of physical or biological science, engineering, or computer science. In the CPG context, this often involves food science, chemistry, materials science, or industrial and mechanical engineering.

3. Elimination of Technical Uncertainty

At the outset, there must be uncertainty regarding the appropriate design, capability, or method of achieving the desired result. Examples include uncertainty around product stability, ingredient interactions, packaging durability, or production scalability.

4. Process of Experimentation

The activity must involve a systematic process to evaluate alternatives and resolve technical uncertainty. This may include formulation trials, pilot runs, packaging tests, line adjustments, or iterative process changes.

Activities that meet all four elements may qualify for the R&D tax credit, even if the effort is incremental, spans multiple tax years, or does not ultimately result in a successful outcome.

While IRC §41 expressly excludes research conducted solely for style, taste, cosmetic, or seasonal design, substantial opportunity remains for CPG companies when development activities are grounded in scientific or engineering principles and involve technical experimentation. For example, technical development efforts required to achieve consistency, stability, shelf life, packaging or manufacturability of a product may qualify when the activity involves technical uncertainty and experimentation driven by food science, chemistry, materials science, or engineering principles.

Qualified Research Expenses

Once qualifying activities are identified, IRC §41 allows companies to include certain costs as Qualified Research Expenses (QREs), including:

• Wages paid to employees for directly performing, supporting, or supervising qualified research, such as food scientists or engineers developing formulations, and manufacturing personnel involved in process trials and testing;
• Supplies consumed during qualified research, such as ingredients or raw materials used in test batches, and packaging materials consumed during performance or validation testing;
• Certain contractor costs for third-party qualified research, including payments to external laboratories for shelf-life or stability testing, or to contract manufacturers performing development-stage pilot testing.

The R&D tax credit is claimed on Form 6765, Credit for Increasing Research Activities, which is filed with the company’s federal income tax return. Form 6765 is used to calculate the amount of the credit based on qualified research expenses and formally reports the credit to the IRS. The form includes sections detailing the nature of the qualifying research activities, the associated costs, and the method used to compute the credit. It must be supported by appropriate documentation demonstrating compliance with the requirements of IRC §41.

The ability to substantiate the identified costs is critical. The documentation should clearly show how the activities meet the requirements of IRC §41 and substantiate the related costs, including evidence of the technical objectives, the uncertainties encountered, and the experimentation performed to resolve those uncertainties. Clear, organized documentation not only supports eligibility under IRC §41 but also helps ensure that qualified costs are accurately captured and defensible.    

How Bennett Thrasher Can Help Turn Innovation into Opportunity

Innovation is embedded in the daily operations of many Consumer Packaged Goods companies. When properly evaluated under IRC §41 and supported by appropriate documentation, these efforts may represent a significant and often underutilized tax opportunity.

Bennett Thrasher brings together technical tax knowledge and industry experience to help CPG companies identify qualifying activities, document those efforts effectively, and claim available R&D tax credits with confidence. If your organization is investing in product or process improvements, we can help determine whether those efforts qualify and help you capture the associated tax benefits.

Contact Nina Desai at Bennett Thrasher to learn more about how we can support your R&D tax credit strategy.

Frequently Asked Questions

Which CPG activities are excluded from the R&D tax credit?

Under IRC §41, activities undertaken for style, taste, cosmetic, or seasonal design purposes, such as aesthetic packaging changes, or reformulations driven solely by consumer preference, are expressly excluded from qualifying research. Alternatively, many CPG companies undertake initiatives that could qualify for the R&D tax credit when efforts are grounded in applied science and engineering, such as resolving technical uncertainty related to formulation stability, ingredient interactions, or scalability through systematic experimentation.

Can state R&D credits be combined with the federal credit?

Yes. State R&D credits can generally be claimed in addition to the federal R&D credit, allowing taxpayers to benefit at both the federal and state level for the same underlying qualified research activities. However, each state applies its own rules, including different calculation methods, limitations, caps, refundability provisions, and carryforward periods, so the benefit and mechanics can vary significantly by state.

When should a CPG company engage a tax advisor for R&D credit evaluation?

CPG companies should engage a tax advisor for an R&D credit evaluation early in the process when developing or reformulating products, improving manufacturing processes, or experiencing growth or operational changes. Involving an advisor helps identify eligible activities, maximize benefits, and ensure proper documentation and compliance.

How does the R&D tax credit interact with other tax incentives or deductions?

The federal R&D tax credit can be claimed alongside other tax incentives and deductions, such as state R&D credits, payroll tax offsets, cost capitalization methods provided the underlying expenditures are properly coordinated to avoid double-counting. In light of the OBBBA updates under IRC §174A  eliminating the requirement to amortize domestic research expenditures, companies now have greater flexibility to align R&D credit claims with other available incentives and deductions. It is imperative that companies work with experienced tax advisors who can appropriately coordinate R&D credit claims with other incentives and deductions to ensure accuracy, compliance, and optimal tax outcomes.

Nina Desai
Bennett Thrasher LLP
Phone: (770) 396-2200

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