New R&E Rules: 2017 Tax Law Eliminates Immediate Deduction of R&E Expenditures Paid or Incurred in Tax Years Beginning After 2021.

• Author: Josephs, Stuart R.

Section 13206 of the 2017 Tax Cuts and Jobs Act (the "Act") amended IRC Sec. 174, for research and experimental (R&E) expenditures paid or incurred in tax years beginning after 2021.

Old Law

Under the old law, a taxpayer could treat R&E expenditures paid or incurred during a tax year in connection with the taxpayer's trade or business as expenses which were allowed as a current deduction.

New Law

Sec. 174(a)(1) no longer allows current deductions for specified R&E expenditures for any tax year except for the amortization deduction allowed under Sec. 174(a)(2) which provides that these expenditures be:

* Charged to a "capital account"; and

* Amortized ratably over five years, or 15 years if attributable to research conducted outside the U.S., Puerto Rico or any U.S. possession [Sec. 41(d)(4)(F)], beginning with the midpoint of the tax year in which the expenditures are paid or incurred. This capital account must be a separate one for these expenditures.

Specified R&E expenditures are those paid or incurred by the taxpayer for a tax year in connection with the taxpayer's trade or business [Sec. 174(b)]. R&E expenditures include amounts paid or incurred to develop software [Sec. 174(c)(3)].

Treatment Upon Disposition, Retirement or Abandonment

If any property, with respect to which specified R&E expenditures are paid or incurred, is disposed, retired or abandoned during the period these expenditures are being amortized, no deduction is allowed for these expenditures on account of that disposition, retirement or abandonment. However, the amortization deductions continue for those expenditures [Sec. 174(d)].

Change in Method of Accounting

Under Act Section 13206(b), the Act's amendments to Sec. 174 are treated as an accounting method change for Sec. 481 purposes and that this change is:

(1) Treated as initiated by the taxpayer;

(2) Treated as made with IRS consent; and

(3) Applied only on a cut-off basis for any R&E expenditures paid or incurred in tax years beginning after 2021.

Also, no Sec. 481(a) adjustments are made. Rev. Proc. 2023-11, Section 2.03(4), pertinently states that when an accounting method change is made on a cut-off basis, no amounts are duplicated or omitted, and therefore, a Sec. 481(a) adjustment is not necessary or permitted.

Automatic Method Change

Section 3 of Rev. Proc.2023-11 contains procedures for an automatic change in method of accounting to comply with amended Sec. 174. Under these procedures, a statement must be...