Beginning January 1, 2022, all companies—from multi-billion-dollar corporations to small business owners—must capitalize all IRC §174 expenses, spreading the amortization of those expenses either five or 15 years. These changes hit Q1 estimates.
By Davinia Lyon
The Tax Cuts and Jobs Act (TCJA) of 2017 had a revenue-raising provision to begin amortizing §174 deductions beginning in 2022, including software development costs. Beginning January 1, 2022, all companies—from multi-billion-dollar corporations to small business owners—must capitalize all IRC §174 expenses, spreading the amortization of those expenses either five or 15 years.
This Congressional change primarily impacts:
- Businesses making use of §174 expense deductions
- Businesses claiming R&D credits
- Companies preparing income tax provisions
- Companies who make quarterly estimated tax payments
Make sure you are claiming the credits you can, and should, under the law. Read more on the changes and reach out to your TaxOps adviser for more guidance.
§174 expenses in 2022
The previous law allowed taxpayers to plan whether they wanted to use deductions in the current year or defer them based on facts and circumstances. Additional provisions allowed taxpayers to amortize over 10 years expenses that might otherwise be tagged as deductible under §174(a). Under the new law, §174 will take items incurred in the current year and spread them over five years.
§174 costs are more expansive than R&D costs. Wages, supplies, outside contract and leased computer costs are eligible for research tax credits. The items to be capitalized under §174, however, include: computer expenses, office expenses, professional fees (including contract labor and temporary help), R&D travel expenses, rent, R&D, salaries and benefits, utilities and miscellaneous expenses.
This change requires business taxpayers to evaluate their expenses and start to track those expenses, in some cases for the first time. To prepare for 2022 changes in §174 deductions, work with your TaxOps adviser directly.
Provisions, NOLs and taxable income
Capitalization could cause a loss entity to be taxable or increase taxable income for a profitable entity. For companies generating NOLs, §174 cost capitalization will reduce the NOL generated and possibly result in cash taxes due.
Entities who have generated taxable losses and have therefore put off calculating an R&D credit due to those losses, may want to consider calculating these credits. An R&D credit may offset the potential cash taxes resulting from the capitalized §174 expenses.
Taxpayers have lost current year deductibility in 2022 and need to reflect the impact on Q1 financial statements. Amortization has a midyear start, creating a significant impact in 2022.
These changes could impact a company’s first quarter estimates so there is a need to assess the implications of these changes sooner rather than later.
Contact your TaxOps adviser for assistance in considering and implementing best practices for moving forward with §174 capitalization in 2022 and beyond.