Section 174 & 174A

Section 174 governs the tax treatment of research and experimental expenditures. Historically taxpayers could deduct these costs immediately, but the Tax Cuts and Jobs Act eliminated that option for amounts paid or incurred in tax years beginning after December 31, 2021, requiring capitalization and amortization over five years for domestic research and fifteen years for foreign research, with amortization beginning at the midpoint of the year the costs were incurred.

The effect was severe and widely felt. Software development costs are treated as research expenditures by statute, so technology companies with substantial engineering payrolls and modest revenue found themselves with taxable income despite operating losses. The five-year amortization with a mid-year convention meant only ten percent of domestic costs were deductible in year one.

The One Big Beautiful Bill Act, enacted in July 2025, enacted new Section 174A restoring immediate expensing of domestic research and experimental expenditures paid or incurred in tax years beginning after December 31, 2024, on a permanent basis. Taxpayers may alternatively elect to capitalize and amortize domestic costs over not less than sixty months. Critically, the fifteen-year amortization requirement for foreign research remains in place under legacy Section 174 - so the domestic-versus-foreign allocation of research costs continues to carry real consequence, particularly for companies with offshore engineering teams.

Transition relief allows eligible small businesses to apply the change retroactively to 2022 and permits other taxpayers to accelerate remaining unamortized domestic amounts. Practitioners should also note that Section 174 identification is broader than the Section 41 research credit definition: costs can be Section 174 expenditures without qualifying for the credit, so the two analyses must be run separately.