New changes were introduced in Section 174 of the U.S. Jobs and Tax Relief Act, which are applicable to U.S. taxpayers starting in 2022, which, if not taken into account, may be corrected retroactively.


Prior to the amendments, entities could deduct all research and experimental expenses incurred in the year in which they were incurred. Section 174 establishes that, from now on, expenses incurred in research and experimentation must be capitalized and amortized over a period of 5 years, provided that the expenses are incurred within the United States, otherwise they may be amortized over a period of 15 years. 


In the first year, only up to 10% of expenses may be amortized, by application of the semiannual convention, which assumes that a fixed asset has been in service for half of its first year, regardless of the date of acquisition.

‍

What expenses constitute research and experimentation?

Research and experimentation expenses are considered to be all those costs that seek to improve products or processes, either to be more efficient, to improve their operation or to add a new or innovative function.

These include, among others: salaries and social security contributions, materials and supplies, travel and representation expenses, rents, taxes, repairs and maintenance, security and any other expense directly related to such improvement.


This change represents a major disadvantage for U.S. companies, which will have higher taxable income due to the reduced deductibility of expenses.

‍

What are the implications for the software industry?

Entities belonging to the software industry are not unaffected by these changes, since Section 174 places particular emphasis on them, establishing that research and experimentation expenses are also understood as all expenses corresponding to software development, including testing expenses within this concept.


In the case of software that is already developed and used internally by the taxpayer -as long as they do not constitute an improvement- the following expenses will not be considered as research and experimentation:

  • Training
  • Maintenance (including diagnostics and bug fixes)
  • Data conversion
  • Installation


In the case of software that is available for sale, research and experimentation expenses will not be considered:

  • Advertising and marketing
  • Maintenance
  • Distribution
  • Support


These new provisions require taxpayers to pay particular attention when allocating expenses in their accounting and tax returns in order to comply with the requirements established by the Internal Revenue Service (IRS).


Innovation Legal, Tax & Tech has a team of highly qualified professionals in the field, who are available for any questions or queries.