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How Section 174 Impacts Corporate Taxes

February 8, 2024

Taylor Davidson
Taylor Davidson
Managing Director / Founder

DALL·E, A multi-storied office building with large glass windows, each window depicting different office scenes, including workers at their desks, meetings in

The One Big Beautiful Bill Act signed on July 4, 2025 reinstated expensing of US-based research and development (R&D) costs. The backstory to why this matters is below, updated with the changes implemented in the act.

A change in tax laws in the USA has created a lot of chatter recently:

Ben Thompson at Stratechery explained it in April 2023, Startups and the R&D Tax Credit:

For many years research and development costs have effectively counted as normal expenses, which means they decrease a company’s tax liability (because they reduce profits).

Because the 2017 "Tax Cuts and Jobs Act" was passed via the reconciliation process (in order to avoid a filibuster), it had to be budget neutral after 10 years; one tactic used to accomplish this is to make future changes to the tax code that increase revenue, even though the bill’s drafters anticipate those changes will be rolled back before they are implemented.

One of these changes was to change research and development costs from expenses that could be realized immediately to expenses that could only be amortized over a minimum of 5 years (and 15 years for international research and development) starting in 2022; this amortization schedule also starts on July 1 of the year in which the expenses are incurred.

Why this matters

The reason why this has created some panic is that it significantly impacts corporate income taxes for companies where software development is a major expense; previously you could deduct the full cost of software development (primarily salaries for software engineers you employ) as an expense, but now you have to amortize it, over either 5 years for domestic expenses or 15 years for foreign expenses. Here's an example of the math:

How it used to work: If a company had $1.5 million in revenue and $1 million in expenses (let's say it was entirely domestic R&D), it would pay taxes on its $500,000 profit.

How it works now: In the same example, the company would have to amortize the $1 million in expenses over five years, so it would deduct only $200,000 (one fifth) and would pay taxes on $1.3 million in profit.

The implications on this for technology companies investing in software development with revenues operating close to break-even on a cash flow basis are enormous, and the industry has been lobbying for Congress to amend the law. While the IRS has been providing updating guidance (Dec 22, 2023) providing limited relief, Congress has yet to pass legislation addressing the core concern of companies.

The impact is real. The elimination of expensing research and development (R&D) disincentivizes companies to spend on software development (and software engineers). And while companies do get the benefit of amortizing the expenses in years 2-5 (meaning, that over time companies get the benefit from the amortization of previous years expenses), startups that are not around in five years will not see that benefit.

There is hope; as part of the Tax Relief for American Families and Workers Act of 2024, there would be temporary reprieve by (a) delaying the change to Section 174 to Jan 1 2026 and (b) applying the reprieve retroactively, allowing companies to amend their 2022 tax filings. On January 31 the bill passed the US House of Representatives, but it is unknown if or when it could pass in the US Senate.

The One Big Beautiful Bill Act

The uncertainty is now over. The One Big Beautiful Bill Act (OBBBA) signed July 5, 2025 addresses the issues raised above and reinstates expensing of US-based R&D costs in the period when the expenses occur, but foreign R&D must still be amortized over a 15-year period. While the change will require some adjustments for companies that have already filed quarterly reports, the act eliminates the issues raised above and provides clarity for companies in how to handle their research and development budgeting.

Confirmed IRS treatment

The September 21, 2026 Internal Revenue Bulletin includes Revenue Procedure 2026-32, which expands and modifies the automatic accounting-method-change procedures associated with the 2025 tax-law changes to Sections 174 and 174A. This bulletin confirms the IRS procedure for implementing the changes enacted in the 2025 OBBBA legislation.

Domestic R&D expenditures incurred in tax years beginning after December 31, 2024 are deductible under Section 174A, while foreign R&D remains capitalized and amortized over 15 years under Section 174. The new procedure gives taxpayers routes for obtaining automatic IRS consent for the relevant accounting-method changes and extends certain eligibility-rule waivers through tax years beginning before 2028.

Questions, ask anytime.