Tell HN: New IRS guidance on software development for Section 174 amortization
Ask HN: How are you handling Section 174 changes for bootstrapped companies? (https://news.ycombinator.com/item?id=34627712)
Software firms across US facing tax bills that threaten survival (https://news.ycombinator.com/item?id=35614313)
In those two threads there was some confusion as to whether or not all software development would need to be amortized under the new Section 174 rules, or if only "research and development" specific activities would need to be amortized.
Well the IRS has recently released new guidance on the topic in Notice 2023-64 (https://www.irs.gov/pub/irs-drop/n-23-63.pdf) and the results are not looking good. Based on the guidance it appears that almost all software development related activities will fall under Section 174 amortization rules. See the quoted section below:
"Section 5.03 - Activities that are treated as software development. Activities that are treated as software development for purposes of § 174 generally include but are not limited to:
(1) Planning the development of the computer software (or the upgrades and enhancements to such software), including identification and documentation of the software requirements;
(2) Designing the computer software (or the upgrades and enhancements to such software);
(3) Building a model of the computer software (or the upgrades and enhancements to such software);
(4) Writing source code and converting it to machine-readable code;
(5) Testing the computer software (or the upgrades and enhancements to such software) and making necessary modifications to address defects identified during testing, but only up until the point in time that:
(a) In the case of computer software developed for use by the taxpayer in its trade or business, the computer software is placed in service; and
(b) In the case of computer software developed for sale or licensing to others, technological feasibility has been established, product masters(s) have been produced, and the computer software is ready for sale or licensing to others; and
(6) In the case of computer software developed for sale or licensing to others (or the upgrades and enhancements to such software), production of the product master(s)."
What is not considered software development: marketing and promotional activities, maintenance activities that do not give rise to upgrades and enhancements, distribution activities, and customer support activities.
If the law stays like this it's going to create a record keeping nightmare for software companies that will have to start tracking how much labor is going into the development of new software or features (subject to section 174) vs bug fixes (not subject to section 174).