Definition
Section 174 sets the tax treatment of research and experimental (R&E) expenditures. For tax years beginning after 2021 and before 2025, domestic R&E had to be capitalized and amortized over five years, using a midpoint convention, and foreign R&E over 15 years. Software development costs were treated as R&E. Public Law 119-21 added section 174A, which lets a taxpayer deduct domestic R&E paid or incurred in tax years beginning after December 31, 2024, or elect to amortize it over at least 60 months. Foreign R&E is still amortized over 15 years. Rev. Proc. 2025-28 explains how to treat amounts capitalized for 2022 through 2024, including an option to deduct the unamortized balance in one year or over two, and a retroactive election for eligible small businesses.
Why it matters in an audit or review
The rules drive current tax, the deferred tax asset for capitalized costs, and the book-tax reconciliation. Auditors test which costs management treated as R&E, such as wages and software, and whether the transition election was made and reflected.
Example
Illustrative: a company capitalized $600,000 of domestic R&E in 2023. Amortization was $600,000 / 5 x 0.5 = $60,000 in 2023 and $120,000 in 2024, leaving $420,000. A two-year election deducts $210,000 in each of 2025 and 2026.
Common mistakes
- Applying 174A to foreign research.
- Forgetting that the deferred tax asset reverses as the balance is deducted.
Sources
- Public Law 119-21 (2025), section 70302, adding Internal Revenue Code section 174A
- IRS, Revenue Procedure 2025-28 (Internal Revenue Bulletin 2025-38): https://www.irs.gov/pub/irs-drop/rp-25-28.pdf
- FASB ASC 740-10-25, Recognition of income taxes
Definitions paraphrase AICPA and FASB guidance; read the standard itself before relying on a requirement. Example figures are illustrative. This page is guidance, not professional advice. Report an error