An International Meeting of the American Accounting Association American Accounting Association 2006 Annual Meeting August 6–9, 2006 Washington, D.C.

Jennifer Brown
University of Texas at Austin

Linda K Krull
University of Texas at Austin

Abstract: This paper examines whether the tax benefits of stock options increase R&D expenditures by increasing the proportion of non-option R&D expenditures eligible for the R&D tax credit. Firms can include the tax deduction from R&D related stock options in the calculation of the R&D tax credit. Because the R&D credit is incremental, meaning that credits can be generated only on R&D expenditures in excess of a base amount, we expect that the tax deduction from R&D related stock option exercises helps firms establish the base amount for the R&D credit without exhausting cash resources or financial statement earnings, thus decreasing the incremental cost of non-option R&D and increasing the amount of such expenditures. In support of our hypothesis, we find that non-option related R&D expense is increasing in the present value of the R&D credit rate, and this relationship is increasing in the tax deduction from stock options.

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