Software Development - Opportunities for Tax Benefits
Analysis of software development costs can generate significant tax benefits by accelerating or deferring tax deductions for use when needed, and identifying tax credits related to software development or systems implementations.
Timing Deductions to Make Them Available When Needed
Expenditures for the development of software are often capitalized for book purposes and amortized over the useful life of the software. Taxpayers have several alternatives for the tax treatment of these expenses. Expenses for software development can be deducted currently or capitalized and amortized depending on the taxpayer’s circumstances and the need to accelerate or defer tax deductions. Eligible software development expenses may include enterprise resource planning (ERP) implementation costs, e-commerce costs, and other large or small scale software development efforts.
Research and Development Tax Credits
In 2015, the Treasury Department issued new regulations that make it easier for taxpayers to claim the federal R&D tax credit for software development activities. Prior to these regulations, IRS presumed that software that was not developed for sale, lease, or license to third parties was ineligible for the R&D tax credit unless a high threshold of innovation test was met. Under the new regulations, software that is third-party-facing (e.g., software developed to enable third parties to initiate functions, track the progress of goods, search a taxpayer’s inventory for goods, receive services over the internet, etc.) is eligible for the R&D tax credit without meeting the high threshold of innovation test. The regulations define dual function software as software developed for both internal and third-party use (customers, suppliers, investors, etc.). A new safe harbor allows taxpayers to claim credits for 25% of their dual function software development expense if it is anticipated that third parties will comprise at least 10% of the software’s user base. Finally, the new regulations clarify circumstances in which ERP implementation expenses can qualify for the R&D tax credit. The ERP guidance applies to all open tax years since 2003.
Partners in Creating Value
Andersen Tax’s tax professionals work with in-house client personnel to optimize the tax treatment of software development expenditures. Our team will analyze your specific circumstances to align tax deductions with years in which you have taxable income and defer tax benefits for years in which you have losses. We will also prepare all necessary tax filings.
Our deliverable includes IRS examination-ready binders, including a summary of each project and related costs, our recommendations on the appropriate tax treatment of these costs, and a detailed technical report supporting the tax return positions with any required support documentation. Additionally, Andersen Tax can provide full IRS examination support to help sustain the tax benefits identified through our study.
Andersen Tax will also perform and/or review the reserves analysis required by FASB ASC 740-10 (accounting for income taxes) that are related to the tax benefits associated with our study, and the likelihood that these benefits will be sustained on examination.
Software and workplace productivity tools undoubtedly add value to your organization. Including Andersen Tax in your analysis of the expenses incurred to acquire or develop these tools can augment the value of these solutions by establishing the optimal tax treatment for these expenses.