The Tax Cuts and Jobs Act of 2017 (TCJA) has been effective for more than four years now, but it is still making new impacts to the corporate tax environment. One provision that businesses must navigate and implement — for now, at least — is the capitalization and amortization of research and experimentation (R&E) expenses.
Previously, these expenditures could be deducted, but the TCJA eliminated the credit — along with many other deductions — in favor of lowering corporate tax rates across the board. The new requirement to capitalize and amortize R&E expenses in the year they are incurred, however, went into effect on December 31, 2021.
It’s still possible this change will be further delayed, but until that’s a reality, businesses should prepare and implement the change for upcoming returns. Here are a few common questions we’re hearing:
What counts as an R&E expense?
These expenditures are those that represent research and development (R&D) costs in the “experimental or laboratory sense,” generally including “all such costs incident to the development or improvement of a product,” according to § 1.174-2. Along with direct R&E costs, expenses can include the cost of obtaining a patent and administrative costs. There are also several categories of expenditures that are excluded, including quality control testing, advertising, consumer surveys.
How to begin implementation?
The amortization period for the expenses is five years for U.S.-based R&E activity and 15 years for activity outside the U.S. Before that, businesses may need to file an Application for Change in Method of Accounting (Form 3115) to begin capitalizing and amortizing the expenditures. The IRS has yet to provide information on what determines whether a business will need to file this form.
Will it be delayed?
There is bipartisan support for delaying the implementation of this provision. The best recent chance for that to happen was through the White House’s proposed Build Back Better Act, which would have delayed the effective date to December 31, 2025, but Congress could not come to an agreement on the plan and its chances to eventually pass as originally envisioned is unlikely. It is still possible Congress will pass legislation that delays the measure, but it’s not something corporations should count on until it actually occurs.
In the meantime, we expect the IRS to release guidance addressing how taxpayers must comply with the new rule for the 2022 tax year. For businesses that perform a significant amount of R&D in experimental or laboratory settings, it’s time to begin implementation of the rule if they have not yet.
McClintock & Associates tax experts are available to provide guidance — reach out today.