Biotech Company Challenges Research Tax Credit Reduction

United Therapeutics Corporation,
Petitioner
v.
Commissioner of Internal Revenue
Respondent

UNITED STATES TAX COURT

PETITION

United Therapeutics Corporation hereby petitions for a redetermination of the deficiency asserted by the Commissioner of Internal Revenue (“Respondent”) in a Notice of Deficiency dated April 22, 2021 (the “Notice,” attached as Exhibit A) relating to the tax year ending December 31, 2014. Petitioner alleges as follows:

1. Petitioner is a Delaware corporation that maintains principal places of business in Silver Spring, MD and Durham, NC. For purposes of this case, Petitioner's mailing address is: 1040 Spring Street, Silver Spring, MD 20910.

2. Petitioner timely electronically filed its consolidated corporate income tax return for the tax year ending December 31, 2014 with the Internal Revenue Service.

3. The Notice is dated April 22, 2021, and was issued by the Internal Revenue Service Small Business/Self Employed office at Nashville, Tennessee.

4. Respondent determined a deficiency in income taxes for the tax year ending December 31, 2014 in the amount of $1,212,655. Petitioner disputes all of the asserted tax deficiency in the Notice.

5. The determination of the tax deficiency set forth in the Notice is based upon the following errors:

a. Respondent erroneously determined that United Therapeutics must include its prior year qualified clinical testing expenses in its prior year qualified research expenses for purposes of calculating the research credit. See §§ 38(b)(4), 41 (the “Research Credit”).¹

b. As a result of the foregoing error, Respondent erroneously reduced Petitioner's Research Credit for 2014.

6. The facts on which Petitioner relies are as follows:

a. United Therapeutics is a biotechnology company primarily focused on the development and commercialization of unique products to address the unmet medical needs of patients with chronic and life-threatening conditions. During the tax year at issue and the preceding 2011 through 2013 tax years, United Therapeutics continued its longtime work in developing treatments for pulmonary arterial hypertension (which ultimately leads to heart failure and death) and neuroblastoma (a rare form of brain cancer that predominantly affects children and infants).

b. In claiming its 2014 Research Credit, United Therapeutics elected to use the Alternative Simplified Credit calculation under Section 41(c)(5), and the reduced credit under Section 280C(c)(3).

c. For tax year 2014, United Therapeutics incurred $42,062,405 of qualified research expenses within the meaning of Section 41.

d. United Therapeutics' average qualified research expenses for the 3 years preceding 2014 (i.e., years 2011–2013) was $22,605,492.

e. Accordingly, United Therapeutics claimed an adjusted Research Credit of $2,799,129 — equaling 65 percent of 14 percent of its 2014 qualified research expenses that exceeded 50 percent of its average qualified research expenses for the 3 years preceding 2014 (i.e., years 2011–2013).

f. In preparing and filing its 2014 tax return, in accordance with Section 45C(c)(1), United Therapeutics did not include its 2014 qualified clinical testing expenses when calculating its 2014 qualified research expenses. United Therapeutics calculated its average qualified research expenses for the 3 years preceding 2014 (i.e., years 2011–2013) the same way.

g. The Notice asserts that United Therapeutics should not have excluded its 3-preceding-year qualified clinical testing expenses when calculating its 3-preceding-year average qualified research expenses.

h. Under Respondent's calculation, United Therapeutics' average qualified research expenses for the 3 years preceding 2014 (i.e., years 2011–2013) is increased by $26,651,752 by including qualified clinical testing expenses for those years, which reduces the 2014 Research Credit to $1,586,474.

7. Congress encourages investment in scientific research by providing a tax credit for companies that increase their research activities in a given year. See §§ 38(b)(4), 41. If the taxpayer elects to claim the “Alternative Simplified Credit,” § 41(c)(5) — an easier way to calculate the Research Credit — the credit equals 14 percent of all “qualified research expenses” for the credit year that exceed 50 percent of the average qualified research expenses over the 3 preceding years, § 41(c)(5)(A). A taxpayer may elect a reduced Research Credit in order to take a greater deduction for qualified research expenses. § 280C(c)(3).

8. Congress also encourages companies to develop drugs to treat rare diseases by providing a tax credit equal to 50 percent of “qualified clinical testing expenses” for such “orphan drugs” (the “Orphan Drug Credit”). See §§ 38(b)(12), 45C.

9. Section 45C(c)(1) states that “[e]xcept as provided in paragraph (2),” when a taxpayer claims qualified clinical testing expenses in calculating the Orphan Drug Credit, those expenses “shall not be taken into account” when calculating qualified research expenses for the Research Credit. The sole exception in paragraph (2) is for “base period research expenses,” which is not part of the Alternative Simplified Credit calculation and therefore is inapplicable here.

10. Section 41(c)(6) reinforces this conclusion. That section requires “consistent treatment” of qualified research expenses between the credit year and preceding years. In other words, preceding-year research expenses must be calculated in the same manner as credit-year research expenses. Treasury Regulation Section 1.41-9(c)(2) applies this consistency rule to the calculation of the Alternative Simplified Credit.

11. Respondent's determination is erroneous.

a. Section 45C(c)(1)'s plain text requires exclusion of qualified clinical testing expenses from the calculation of qualified research expenses, subject only to an exception that is not applicable here.

b. Moreover, Section 41(c)(6) and Treasury Regulation § 1.41-9(c)(2) require preceding-year qualified research expenses to be calculated in the same manner as credit-year qualified research expenses. Because the 2014 qualified research expenses calculation must exclude qualified clinical testing expenses, the 3-preceding-year (i.e., years 2011–2013) qualified research expenses calculation must exclude the 3-preceding-year qualified clinical testing expenses too.

Petitioner requests that this Court:

(i) Determine that no deficiency in income tax exists with respect to Petitioner United Therapeutics' 2014 tax year; and

(ii) Grant such further relief as the Court deems just and appropriate.

Dated: June 7, 2021

Respectfully submitted,

Thomas H. Dupree Jr.
Tax Court Bar No. DT0290
TDupree@gibsondunn.com

Lucas C. Townsend
Tax Court Bar No. TL0165
LTownsend@gibsondunn.com

Gibson, Dunn & Crutcher LLP
1050 Connecticut Ave., N.W.
Washington, D.C. 20036-5306
202-955-8500

David L. Sinak
Tax Court Bar No. SD0612
DSinak@gibsondunn.com

Gibson, Dunn & Crutcher LLP
2001 Ross Ave., Suite 2100
Dallas, TX 75201
214-698-3107