A landmark U.S. Tax Court decision issued June 16, 2026 confirmed that architecture and other technical services firms can legitimately claim federal R&D tax credits under IRC Section 41 even when work is performed under client contracts. The case, Smith v. Commissioner (T.C. Memo. 2026-50), involved Adrian Smith + Gordon Gill Architecture (AS+GG), an internationally recognized firm known for designing supertall, ultra-sustainable towers. The IRS had disallowed the firm’s research credits entirely; the Tax Court restored credits on four of six sample projects and ruled that the partners’ compensation was fully reasonable. The decision reinforces that innovation doesn’t only happen in labs or software companies, and that the difference between winning and losing an R&D credit claim often comes down to contract language and documentation.
What Is Smith v. Commissioner — and Why Does It Matter?
On June 16, 2026, the U.S. Tax Court released T.C. Memo. 2026-50, Smith v. Commissioner, a significant decision for any company that performs technical or innovative work under client contracts. The case pits the IRS against Adrian Smith + Gordon Gill Architecture (AS+GG), the Chicago-based firm whose portfolio includes some of the most complex, technologically ambitious buildings in the world, including supertall towers and net-zero energy design concepts that push the boundaries of what architecture, structural engineering, and environmental science can achieve.
The IRS audited AS+GG’s research credits claimed during the 2008, 2009, and 2010 tax years and disallowed them entirely. The agency argued that because AS+GG performed the research under contracts with paying clients, the credits were excluded by the “funded research” rule under Section 41(d)(4)(H) of the Internal Revenue Code.
The Tax Court largely disagreed. While the ruling is nuanced (ie. the court didn’t hand AS+GG a clean sweep) the decision delivers meaningful wins that have implications well beyond architecture.
What Were the Key Issues Before the Court?
The trial narrowed to two central questions:
- Whether AS+GG’s architectural research qualified for R&D credits at all, or whether the contracts with clients constituted “funded research” that excludes the credit under Section 41(d)(4)(H)
- Whether the compensation paid to the firm’s partners in 2008 was “reasonable” under Section 174(e), which governs the deductibility of research-related wages
Notably, before the trial even began, the IRS conceded a crucial point: AS+GG’s work did satisfy the four-part test for qualified research under Section 41(d). That means the government acknowledged that the firm’s projects involved genuine technical uncertainty, a process of experimentation, and a technological purpose. The fight became about whether the funded research exclusion stripped the credits away, not whether the work was real R&D.
What Is the “Funded Research” Exclusion and Why Does It Trip Up So Many Companies?
The funded research exclusion is one of the most consequential and misunderstood rules in R&D tax credit law. It says that if someone else (typically a client) funds your research, you generally can’t claim the credit for it.
Treasury regulations (Treas. Reg. § 1.41-4A(d)) define “funded” research through a two-part test:
- Contingency on success: Was payment to the taxpayer contingent on the research succeeding? If the client pays regardless of whether the innovation works, the research is likely “funded.”
- Substantial rights: Did the taxpayer retain substantial rights to use the research results in its own business? If the client owns everything and the taxpayer has no right to apply what it learned elsewhere, the research is likely “funded.”
Only if a taxpayer clears both hurdles (that is, bearing financial risk AND retaining rights) can it claim full credits on the work. AS+GG failed the first test (contingency) on all six projects but passed the second test (substantial rights) on four of them. The result: partial credits available on those four, where AS+GG can claim credits to the extent its qualified research expenses exceed what the client paid.
The Loper Bright Challenge and Why the Court Rejected It
AS+GG made a bold administrative law argument that the Treasury regulations defining “funded research” should no longer be binding after the Supreme Court’s 2024 decision in Loper Bright Enterprises v. Raimondo, which overturned the decades-old Chevron doctrine of judicial deference to agency rule-making.
Judge Weiler rejected this argument. The court found that prior federal circuit courts had already validated the funded research regulations, and that statutory stare decisis (whichis the doctrine of respecting prior judicial interpretations) kept those rulings in force even after Loper Bright. As a result, the regulations stand.
This matters for taxpayers broadly, as Loper Bright has created uncertainty about which tax regulations may be challenged. Smith v. Commissioner signals that well-settled R&D credit regulations, backed by multiple circuit court decisions, are unlikely to fall on Loper Bright grounds alone.
The Substantial Rights Win: What the Court Actually Decided
The heart of the taxpayer victory in Smith is the court’s analysis of which contracts let AS+GG retain “substantial rights” in its research.
For two projects (Kingdom Tower and Plot 14) the contracts vested all copyright and intellectual property absolutely with the clients. The firm would need the client’s written approval to use anything it developed, with no guaranteed right to reuse it. The court held AS+GG lacked substantial rights in these projects; those credits were denied.
For four projects (Atrium City Tower, Masdar HQ, Atrium City Masterplan, and Plot R2) AS+GG retained copyrights or secured licenses allowing the firm to market and reuse the underlying research and design knowledge. The court affirmed that the right to use research results, even without exclusivity, constitutes substantial rights. Therefore in this instance, these credits survived court scrutiny.
The practical lesson for claimants is that small differences in contract language can produce drastically different tax outcomes. The court parsed IP provisions, copyright clauses, confidentiality language, and use restrictions project by project. Put simply, boilerplate matters.
The Reasonable Compensation Win: Good News for Owner-Operated Businesses
A second major win for the taxpayers came on the question of partner compensation. The IRS argued that the 2008 wages claimed by AS+GG’s partners as qualified research expenditures (QREs) were excessive and should be reduced.
Because the case was appealable to the Seventh Circuit, the Tax Court applied the Seventh Circuit’s “independent investor test” (established in Exacto Spring Corp.), rather than the IRS’s preferred multi-factor approach. Under this test, compensation is presumed reasonable if an independent, passive investor in the business would earn a far higher-than-expected return, suggesting the principals are generating enormous value.
The IRS’s own expert, applying the independent investor framework, calculated that AS+GG’s partners generated a 939% return on equity for the firm. On those numbers, the court found it difficult to conclude the partners were overpaid and ruled in the taxpayers’ favor.
For owner-operated businesses where the founders or principals are also the key researchers, this holding is important, as the wages of technical leaders who drive R&D can be included in QREs when properly substantiated and reasonably set relative to the value they create.
What Does Smith v. Commissioner Mean for R&D Credit Claimants?
For Architecture, Engineering, and Design Firms
The decision is an explicit validation that client-facing design and technical work can qualify as R&D. The projects at issue involved wind studies, solar orientation analysis, thermodynamics, geotechnics, fluid dynamics, and microclimate research applied to architectural challenges. If your firm is doing work at the frontier of what’s technically possible in building design, sustainability, or performance engineering, the R&D credit is worth examining.
For Professional Services Firms Broadly
Law firms, consulting firms, engineering companies, specialty manufacturers, and technology consultancies that perform sophisticated technical work under client contracts all face the same funded research question. Smith v. Commissioner reinforces that the answer isn’t automatically “no credit available”; rather, it depends on contract structure and retained rights.
For All R&D Credit Claimants
Several practical lessons emerge from the decision:
- Contract language is a tax document. What your client agreements say about IP ownership, copyright, right of reuse, and termination will directly determine your R&D credit eligibility. These provisions should be reviewed with R&D credit exposure in mind before you sign.
- Documentation must be project-level. The court noted that winning the legal issue is not enough. Taxpayers still need expense substantiation at the project level to calculate the allowable credit. Winning on the law but losing on the numbers is a real risk.
- Retain the right to reuse your research. Even without exclusivity, the right to apply what you learned on one engagement to future work is a substantial right that can preserve credit eligibility.
- The funded research analysis happens contract by contract. You can win on some projects and lose on others even with the same client. Granular review matters.
- Owner-operator compensation in R&D wages deserves attention. For founder-led companies where the principals are doing the technical work, correctly structuring and substantiating compensation as QREs can significantly increase the credit.
Frequently Asked Questions
What This Means for Your R&D Tax Credit Strategy
Smith v. Commissioner is a reminder that R&D credits are not just for software companies and pharmaceutical labs. Architecture firms, engineering consultancies, design-intensive manufacturers, and a wide range of technical service businesses may be leaving significant non-dilutive funding on the table because they assumed their client-facing work doesn’t qualify.
Boast has helped more than 2,000 companies across North America secure over $900 million in R&D tax credits. Our team combines deep technical expertise with an understanding of the legal and regulatory nuances that determine which activities qualify and how to document them in a way that holds up to scrutiny.
If your business performs complex, innovative work (whether for clients or internally) and you haven’t recently reviewed your R&D credit position, the Smith decision is a good reason to start that conversation now.
