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R&D preparation may become a necessity

By Stephen Yarbrough, Polk Advisors 

5 min read 

As the legislative session gets later into the year, time is running out for Congress to reverse course on the capitalization of R&D that will go into effect in 2023… and just when you thought you were getting ahead on your tax filings, a piece of new legislation goes and throws a monkey wrench in your process, am I right?

If you haven’t heard, the Tax Cuts and Jobs Act of 2017 included a change to tax deductions that affects R&D expenditures, after December 21, 2021. Prior to this R&D capitalization rule, startups didn’t need to worry about capitalizing R&D expenditures. Rather, this was more of an “add-on” for companies with qualified research and development expenses that claimed the R&D tax credit. 

Well, it’s after December 21, 2021 now, so what does this mean for companies?

  1. Taxpayers are required to capitalize R&D expenditures and amortize them over 5 years.
  2. There is a 15 years amortization period for foreign research expenses. 
  3. Startups need to pay extremely close attention to how they're categorizing R&D expenses. 

So it’s more than likely that companies are going to have to analyze their R&D expenditures in order to complete their 2022 tax returns. Well, unless Congress gets it together, but we’re not holding our breath on that.. 

Now, here’s where it gets even more complicated. 

There are different definitions of R&D. For instance, the definition of R&D according to Accounting Standards Codification differs from the definition in Internal Revenue Code 174, Research for Tax deduction/capitalization; which differs from the definition of R&D in IRC 41, Research for Tax Credit. This article from Grant Thornton gives a great summary of these differences among other great information about R&D capitalization. 

Another complicating factor: some states follow the same rules as federal tax law to determine income, and other states (such as California) lag ‌federal tax law. This means companies in lagging states will not only have to capitalize and amortize R&D for the federal return, but they also need to reverse all those changes and deduct R&D for state tax purposes! 

We get it, it’s a lot of information, which is why we will continue to update you on the R&D capitalization rules and what to expect.

For now, here are the main points you need to know about R&D capitalization: 

  1. Congress is delaying the reversal of the R&D capitalization rule
  2. Regardless of whether you are claiming your R&D credit or not, as of right now your company will need to capitalize and amortize R&D expenditures when filing 2022 taxes
  3. Companies, startups specifically, need to pay ‌very close attention to R&D expenses for the coming tax year

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