The Tax Cuts and Jobs Act of 2017 (TCJA) included a deferred “gift” to manufacturers and other taxpayers in the form of one of its revenue raisers. For tax years beginning prior to December 31, 2021, taxpayers had the choice to either deduct R&D expenses or amortize them over five years.
The TCJA takes away this choice and mandates that taxpayers amortize R&D expense over five years (with a mid-year convention) for R&D performed in the U.S. and 15 years (with a mid-year convention) for R&D performed outside of the U.S. As a result, companies with significant R&D expenditures will likely be facing higher taxable income and tax liability in 2022.
This change in the tax law may also have far-reaching consequences for manufacturers and other taxpayers beyond the delaying of tax deductions. Because the types of expenses that qualify as 174 R&D deductions are often deductible under IRC Sec. 162 or other Sections of the Code (wages, supplies, attorneys’ fees, etc.), taxpayers may not have focused intently on breaking out Section 174 R&D expense prior to this year. Book classification of expenses as R&D or QREs from an R&D credit study may help; however, the expenses that qualify under IRC Section 174 are likely broader than what has been broken out under these classifications. As a result, taxpayers should be currently performing an analysis of which expenses will be amortized under these new rules.
Taxpayers should also be aware of the ancillary effects of this treatment of R&D expenditures. For example, the potential need for new deferred tax amounts for C corporations and changes to expected outcomes for any limitations or other calculations that are based upon taxable income (e.g., the 163(j) limitation, among others).
While a full analysis is beyond the scope of this article, taxpayers should also consider the effect of these new rules on developed software, as capitalization and amortization may now be necessary.
Please contact a member of the Schneider Downs Manufacturing Industry Group if you have any questions or would like more information on this subject.
About Schneider Downs Manufacturing Services
Schneider Downs understands the manufacturing industry from a regional, national and international perspective. Our experience in engineering-based cost segregation studies, state and local tax services, including nexus studies, as well as research and development tax credits, provides manufacturers the expertise needed to run their businesses more effectively.
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Material discussed is meant for informational purposes only, and it is not to be construed as investment, tax, or legal advice. Please note that individual situations can vary. Therefore, this information should be relied upon when coordinated with individual professional advice.