Return to R&D Expensing Crucial for Manufacturing and Technology Investment

December 7, 2022

The tax treatment of research and development (R&D) expenses is one of the biggest issues facing Congress as the year winds down. Since the beginning of 2022, companies have had to spread deductions for R&D costs out over five years, instead of deducting them immediately. This policy, known as R&D amortization, reduces economic growth by penalizing investment generally, especially in R&D-intensive industries.

R&D investment is not spread evenly across the economy—it is concentrated heavily in a few sectors. Manufacturing accounts for most private sector R&D, at 58 percent, while the Information industry (composed largely of software and data processing) accounts for another 22.4 percent, and Professional, Scientific, and Technical Services accounts for 10.8 percent.

R&D expensing and R&D amortization R&D manufacturing and R&D technology impact

Correspondingly, these industries would see the largest benefits from returning to full expensing for R&D investment, according to Tax Foundation’s industry modeling.

All three industries would see a reduction in tax liability of over 20 percent in 2023. Meanwhile, Wholesale Trade would see the fourth-largest tax reduction, at just over 5 percent. Unsurprisingly, this modeling shows that these industries are the most negatively impacted by the existing policy of R&D amortization.

R&D expensing and R&D amortization R&D manufacturing and R&D technology impact

In dollar terms, manufacturing faces the largest tax increase as a result of R&D amortization, at $31.7 billion in 2023, followed by Information at $3.7 billion and Professional, Scientific, and Technical Services at $2.0 billion (see Table 2). 

Industrial policy has become a major topic of debate in policy circles today. While many disagree over what constitutes industrial policy, it generally involves a strategic government effort to reallocate resources towards industries of interest, often in the manufacturing sector, as a strategy to improve long-run growth. At least in theory, those industries of interest are ones with high potential for productivity growth and technological development.

The industrial policy advocate might argue that certain high-tech industries should receive specific subsidies, due to their potential for new, innovation-enhancing technology. The CHIPS and Science Act, passed and signed into law this year, included one such policy, creating a tax credit for semiconductor manufacturers. The critic would argue that such subsidies are unneeded, reflect a handout to well-connected incumbent firms, and ultimately undermine that industry’s ability to stand on its own.

But no matter which side of the industrial policy debate you take, R&D amortization looks foolish. It is a targeted penalty on exactly the types of high-tech industries industrial policy advocates want to support. Meanwhile, from the perspective of the industrial policy critic, the policy violates neutrality across industries, as it punishes industries that rely on R&D investment over ones that do not. If anything, R&D amortization is an example of de-industrial policy: a government policy choice that distorts markets against manufacturing and technology.

Take semiconductors, for example. According to detailed industry-level data from the National Science Foundation, semiconductor and other electrical components manufacturers performed over $35 billion in domestic R&D in 2019, a staggering 7 percent of the total $492 billion domestic R&D businesses performed that year. Semiconductor industry R&D dwarfed the R&D spending of entire major sectors of the economy, including Finance and Insurance, Wholesale Trade, Retail Trade, and Transportation and Warehousing.

Therefore, forcing companies to amortize R&D costs, rather than deduct them immediately, disproportionately penalizes the R&D-intensive semiconductor industry, even though politicians of both parties have made government support for semiconductors a priority.

R&D amortization hurts investment broadly and punishes the very cutting-edge industries needed to maximize long-run economic growth.

Table 1: Domestic R&D Performance by Industry
Sector Domestic R&D Performed (2019), billions Corresponding NAICS Codes
Manufacturing $285.67 31–33
Mining $2.72 21
Utilities $0.28 22
Wholesale Trade $1.19 42
Transportation and Warehousing $9.89 48–49
Information $110.23 51
Finance and Insurance $8.92 52
Real Estate, Rental, and Leasing $1.37 53
Professional, Scientific, and Technical Services $53.23 54
Health Care Services $2.27 621–23
All Other Sectors $17.20 23, 44-45, 55-56, 624, 71-72, 81
Total $492.96  
Source: National Center for Science and Engineering Statistics, “Business Enterprise Research and Development: 2019,” National Science Foundation, Apr. 28, 2022, Author’s calculations.
Table 2: Estimated Change in Tax Liabilities from Canceling R&D Amortization, by Industry
  2023 Reduction in Tax Liability from Canceling R&D Amortization ($ Billions) 2023 Percent Reduction in Tax Liability from Canceling R&D Amortization Corresponding NAICS Codes
Mining $0.21 1.4% 21
Construction $0.05 2.7% 23
Manufacturing $31.69 25.4% 31-33
Wholesale Trade $1.24 5.2% 42
Retail Trade $0.94 2.3% 44-45
Transportation and Warehousing $0.04 0.6% 48-49
Information $3.67 23.1% 51
Finance, Insurance, and Management Services $0.51 0.7% 52, 55
Real Estate, Rental and Leasing $0.02 0.5% 53
Professional, Scientific, and Technical Services $1.97 29.4% 54
Administrative and Waste Management Services $0.01 0.3% 56
Accommodation and Food Services $0.07 1.7% 72
Miscellaneous Services $0.13 1.9% 61, 62, 71, 81
Agriculture and Utilities $0.04 0.6% 11, 22
Source: Tax Foundation Taxes and Growth Model, October 2022.

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