Is it eligible?

Is building on a third-party AI model's API eligible R&D?

Rarely eligible

Rarely. AusIndustry says using AI in software development does not make an activity eligible, and integrating a hosted model through its documented API, then refining prompts, usually applies known tools. A core activity needs an outcome no competent professional could determine in advance, such as whether your method works or how the model behaves in unstudied conditions, tested by experiment.

Reviewed by George WalchFacts last verified

When it qualifies

Catching invented doses before a pharmacist sees them

An illustrative pharmacy software company uses a hosted model to turn scanned prescription text into structured dosing instructions. The model is off the shelf; the open question is whether a verification method combining constrained output with cross-checks against product data can catch at least 99.5% of unsupported dose values while flagging under 5% of correct ones. Nothing published addresses that error class. The team seeds 3,000 known errors into a test set and runs planned comparisons of verification designs.

When it does not

An email drafting feature tuned by prompt

A CRM vendor adds a button that drafts sales follow-up emails through a model provider's API. Over six weeks the team iterates on the prompt, adds retrieval of the last three emails, and switches to a newer model version when quality dips. Each change follows documented behaviour, and the risk was whether customers would like it, which is commercial, not technical.

The evidence that supports it

  • A dated review of the provider's documentation and published evaluations showing what the model was already known to do for your task.
  • The technical question and the proposed answer to it (about your own method or the model's behaviour in unstudied conditions), with a numeric threshold, written before testing.
  • Pinned model versions and prompt templates for every run, so results stay comparable when the provider changes the model.
  • Fault-injection or labelled test sets built for the experiment, with how they were constructed.
  • Separate API keys or projects for experiment traffic, which also support the cost apportionment.
  • Results per design variant and the evaluation that chose the next one.

Most AI products in Australia are built on a model someone else trained, reached through an API. That is a sensible engineering choice, and it is also why most of that work is not R&D. AusIndustry's guidance on AI-related activities says "using AI in software development does not make an activity eligible", and its software sector guide treats integrating third-party APIs from vendor documentation as routine.

Why calling the API is not, by itself, the experiment

Sending a hosted model requests, parsing its structured output and showing the result in your product is integration. AusIndustry lists integrating known model outputs (scores, labels, recommendations) into applications through predefined logic as unlikely to be core, where the model's behaviour and the integration approach are established. The ATO's software alert TA 2017/5 describes the same pattern from the other side: claims that rest on using existing technologies as they were intended to be used.

Rand's reading applies that guidance to calling a hosted model and adjusting prompts against documented behaviour: usually not core, though either can be supporting work for a genuine experiment.

Not being able to see or change the weights, training data or architecture is not itself the reason. The law asks whether the outcome could be known in advance, not what you are able to modify, and a black-box model can be the subject of an experiment, with your inputs, constraints or verification as the things you vary. The practical difficulty is that providers document their models and publish evaluations, so the question has to be one that this material, and an experienced engineer's judgement, leaves open.

Where a real question can sit

A genuine question can involve a hosted model in four ways:

  • A method of your own that uses the model as a component, such as a verification layer, a decoding constraint or a retrieval method, where its effect on a measurable error rate is not established. Retrieval work has its own page on RAG systems.
  • An outcome in another field. If a hosted model delivers a health coaching intervention, whether it changes a clinical endpoint is a scientific question even though the software is ordinary. That is assessed against the clinical literature, not engineering practice.
  • A changed model. If you adapt the model itself, the question moves to LLM fine-tuning.
  • The model's behaviour in conditions nobody has studied, where the answer is not in the provider's documentation or published evaluations, tested by planned runs against a proposed answer.

In each case the new knowledge must be something a competent professional could not have determined in advance. Confirming that a provider's model does what its documentation says does not meet that bar, and nor does variable output on its own: answers that change between runs are not, by themselves, an unknown outcome.

Where such an experiment exists, the API work around it changes character. Wiring the model into a test harness, building the seeded test set and logging every response so runs can be compared can all be supporting work, because they exist to run the experiment. The same wiring in the shipped product is ordinary development, and if it also serves customers it must pass the dominant purpose test before any of it counts.

Traps specific to building on APIs

  • Model version churn. When a provider updates or retires a model and your outputs shift, re-tuning prompts and tests is usually maintenance.
  • Reliability plumbing. Retries, caching, rate-limit handling and fallbacks between providers are usually standard patterns.
  • Function calling and structured output used as documented are configuration.
  • Benchmarking providers. Running the same prompts through three vendors and keeping the best is usually selection between known options.
  • API spend. Only the share used for registered experiments counts; see cloud compute costs for how that share is worked out.

For how AI companies usually find their genuine core activities, see R&D for AI companies.

Frequently asked questions

Is prompt engineering R&D?
Rarely on its own. Rewording instructions and examples until a model behaves as its documentation suggests it can is configuration, and writing a hypothesis down does not change that. Prompt variants can be test conditions inside a genuine experiment, where the question itself (about your own method, or about the model's behaviour in conditions nobody has evaluated) could not be answered in advance.
Can we claim our model API bill?
Only the part used for registered R&D activities. Running experiment traffic through separate keys or projects gives you the clearest basis. Customer traffic in production is usually not R&D; where an experiment genuinely runs on live traffic, only its share and window count. Your accountant confirms the amount claimed.
Our product is an AI agent. Does that change anything?
The setting is not the hurdle, though AusIndustry's software guide does name integrating a new AI agent into a platform as a place a technical hurdle can arise. Wiring tools, memory and retries into an agent with a framework's documented patterns is routine. A specific reliability or safety threshold that published agent results do not show to be reachable, tested by planned runs, can be core.

Sources

  1. AusIndustry (business.gov.au): Artificial intelligence-related activities and the R&D Tax Incentive
  2. AusIndustry (business.gov.au): Software development sector guide
  3. ATO: Taxpayer Alert TA 2017/5

The R&D Tax Incentive is a self-assessment program. This page is general information, not tax, legal or financial advice; eligibility depends on your circumstances and you should seek independent advice for them.