Final regs. on capitalization of intangibles.

• Author: Jagdman, Laura

The IRS has recently issued Sec. 263(a) final regulations (TD 9107) to explain deducting versus capitalizing amounts paid to acquire or create intangible assets, effective for amounts paid or incurred after 2003. The final regulations made some modifications to 2002 proposed regulations.

Four classes of expenditures require capitalization under Kegs. Sec. 1.263(a)-4(b)--amounts paid to:

1. Acquire or create an intangible;

2. Create or enhance a separate and distinct intangible;

3. Create or enhance a future benefit identified in published guidance as an intangible requiring capitalization under Sec. 263(a); and

4. Facilitate the acquisition or creation of an intangible described in Regs. Sec. 1.263(a)-4(b)(3).

   Definitions

   Regs. Sec. 1.263(a)-4(c)(1) defines acquired intangibles as amounts paid for items such as ownership interests in a corporation, partnership, etc.; debt instruments; leases or patents; and other Sec. 197 intangibles, such as goodwill. Under Regs. Sec. 1.263(a)-4(d)(1), created intangibles are amounts paid for the creation, origination or negotiation of a financial interest, such as an ownership interest in a corporation, partnership, etc., debt instrument or credit agreement. They also include prepaid expenses.

   According to Regs. Sec. 1.263(a)-4(b)(3), a "separate and distinct" intangible is one (1) with ascertainable and measurable value, (2) subject to protection under law and (3) for which possession and control can be sold, transferred or pledged. The following items may appear to create a separate and distinct intangible, but need not be capitalized, under Regs. Sec. 1.263(a) 4(b)(3)(iii) and (v):

1. Payments in performance of services under an agreement;

2. Payments for the development of computer software (although this may be capitalized under other published guidance); and

3. Payments to develop a package design.

   Future Benefits

   In INDOPCO, Inc., 503 US 79 (1992), the Supreme Court held that expenses that produce significant future benefits must be capitalized, even if they do not create or enhance separate and distinct assets. The new regulations help define the "significant future benefits" standard. If an expense is not otherwise required to be capitalized by the regulations, it is not required to be capitalized solely because it produces future benefits, unless other published guidance specifies a capital requirement.

   Amounts paid to facilitate the acquisition or creation of an intangible are generally referred to as...