Section 174 Changes Impact R&D Tax Credits for Software
The new changes to Section 174 have a significant impact on software development costs. For tax year 2022, any cost that has been paid or incurred related to software development is now considered a Section 174 R&E expenditure. This means it must be capitalized and amortized over 5 years (15 years for foreign software development).
Many favorable provisions are made temporary due to the budgeting constraints of Congress, making yearly extensions normal and expected. It is important to note that the research expenses being addressed by this provision in the TCJA are not just the same as those provided for in the R&D tax credit rules. These general research costs are much broader.
If the current unfavorable tax treatment of research expenses does not get fixed, companies could see larger tax bills and therefore need the benefits of R&D tax credits even more.
Which Software Development Costs fall under the new Section 174 R&E Amortization rules?
While guidance related to what costs constitute Section 174 Expenditures is still vague, potential expenditures can include:
- Salaries and wages including employer costs
- Software licensing
- Equipment rental costs
- Occupancy costs, including office rent and research facilities costs
- Travel expenditures that have been incurred for R&E purposes
- Heat, light, telephone bills, and similar overhead utility costs
- Depreciation
- Dues and publication expenses that have been incurred for R&E purposes
- Attorney fees or filing fees related to patents
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