[HN Gopher] Ask HN: How are you handling Section 174 changes for...
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Ask HN: How are you handling Section 174 changes for bootstrapped
companies?
Hey everyone, Was just starting the tax process for 2022 and found
out about the changes that have been made to Section 174 that take
effect this year. Essentially, all R&E expenses must now be
amortized over 5 years (instead of taking them as a regular full
deduction in the year in which they are incurred), and on top of
that all "software development" is now an R&E expense. [1][2] This
seems like a disaster for any bootstrapped software company. As an
example, if you make $100k in income, and spend $90k making the
software, at first glance you've got a successful company bringing
in a 10% profit margin. Previously, you would have just paid tax on
that $10k in profit. Makes sense. Under these new rules, the US
actually says "that $90k you spent to make the software has to be
spread over 5 years, and you can actually only take 10% of it in
the first year." Suddenly you've gone from a profit of $10k to a
"profit" of $91k for tax purposes. Even at a 30% tax rate (which
isn't even close to the top rate in the US), you're staring down a
$27k tax bill that you're somehow supposed to pay out of the $10k
in actual cash you have left on hand. To be clear, you will
eventually get the taxes you pay back over the next 5 years. But
how are bootstrapped companies without access to large capital
reserves or investment supposed to come up with the money to pay
these tax bills while they wait it out? For every dollar you spend
on making software, you've now got to have 30+ cents in reserve
just to pay the tax bill for the year! I am completely
flabbergasted as to how this was thought to be a good idea...it
seems like it drastically increases the cost of starting a
bootstrapped software company in the US, which is just terrible
policy in general. Was just curious -- is this interpretation what
others are hearing from their own tax professionals? Is it
affecting others and if so how are you dealing with it? [1]
https://rsmus.com/insights/services/business-tax/looming-required-
capitalization-of-section-174-expenditures.html [2]
https://www.taxnotes.com/research/federal/usc26/174
Author : silverlight
Score : 248 points
Date : 2023-02-02 15:21 UTC (7 hours ago)
| dcow wrote:
| Why is everyone so confused? You only pay taxes on profit.
| Period. That hasn't changed and probably never will.
|
| If you do "R&D" you _can_ elect to receive a credit. This credit
| which used to come all in one year, now must be amortized over 5.
|
| If you don't want that to happen or cant afford it, don't take
| the credit. It's that simple. Not all software development is
| automatically forced to be R&D. That's absurd.
|
| IANAA just a poor misinformed internet soul and this is not tax
| advice.
| overrun11 wrote:
| > You only pay taxes on profit.
|
| That's the question isn't it? What is considered your profit
| depends on what costs you must amortize vs. expense in year
| one. I'm not super familiar with this legislation but the
| concern is that it shifts development costs that were
| previously expensed to now be amortized.
| silverlight wrote:
| I agree that you are making logical sense.
|
| I think you should review what I linked or talk to a CPA
| because this this indeed the change this year, and it is indeed
| nonsensical.
|
| This is not the same thing as the R&D tax credit.
| dcow wrote:
| From TFA
|
| > Generally, section 174 expenditures escape the application
| of being classified as "start-up costs" under section 195,
| which generally requires expenditures that qualify as an
| expenditure under section 162 to be capitalized and recovered
| over 15 years once the taxpayer begins their business.
|
| Startup costs are things paid to start the business. Once the
| business is up and running you are "carrying-on" even if
| you're not making money. It's unfortunate that we use the
| word startup colloquially to mean non-profitable company,
| because thats not what it means in the IRC.
| nodamage wrote:
| You appear to be conflating R&E expenses (Section 174) with the
| R&D credit (Section 41).
|
| Everyone knows taking the R&D credit (Section 41) is optional,
| that's not what is being discussed here.
|
| The actual question is: if you have incurred software
| development expenses (e.g. wages paid to software developers),
| are you required to treat them as R&E expenses under Section
| 174, or can you instead treat them as ordinary expenses under
| Section 162?
| usefulperstive1 wrote:
| > ...and spend $90k making the software
|
| Well, did you spend the $90k on W2 salaried employees, or to a
| vendor?
|
| > Essentially, all R&E expenses...
|
| The R&D tax credit was too good to be true anyway.
|
| The crazy loopholes are crazy. What were people expecting?
|
| Congress was not going to let people outsource "R&D", which in
| the bulk of cases is large companies like Accenture and small
| companies like bullshit agencies doing straight-up software
| customization that had little to do with real research or
| development.
|
| Insofar as it affects startups, the amended law seems to exist
| explicitly to rein in the pro-forma declarations / reports
| template-generated by non-specialists.
|
| Every tax or HR related firm in existence has been hawking this
| bullshit to tech companies for a while. Truly a bunch of
| parasites.
|
| Congress needs to repeal the R&D tax credit as it exists today
| and allow people to ordinarily expense whatever it is that they
| are doing.
|
| If it feels there is a good reason to make the money-to-US-
| salaries tax-reduced, it should make a simple blanket declaration
| checkbox for a narrow set of qualifications that would obviate
| the need of "R&D tax credit specialists."
| silverlight wrote:
| This is not the same as the tax credit. That is a different
| deal. Even if you do not claim the credit at all, you still
| have to do this amortization.
|
| > Well, did you spend the $90k on W2 salaried employees, or to
| a vendor?
|
| It wouldn't matter, if the expense is related to the business
| of developing software, it counts now.
| a5seo wrote:
| As a solo developer, I guess I'm going to start tracking how
| fast I type and the size of my code commits each day, and
| that, my dear IRS friend, is the only part of my day I spent
| "developing software."
|
| The reality is that even if you hire a "software developer,"
| they aren't going to spend 100% on it. So now you have a
| situation where the IRS is supposed to audit how? Watch how
| much support you did? How much training and coaching other
| developers? How much email/scheduling/admin bs? Was that
| meeting about software development or customer research? The
| fools who write these laws are just ridiculously out of
| touch.
| dboreham wrote:
| That's not what this is about. It's to do with a situation
| where companies were trying to make the IRS believe that
| money they spent on S/W dev _was_ a valid R &D expense (so
| they could claim some R&D credit and hence pay less tax),
| and the IRS said "nope, that seems to be not valid because
| we don't see S/W as really R&D". So...some campaign
| contributions later and voila there is a law saying
| definitively that S/W does count. Those companies _asked_
| for this change. Now, possibly the whole thing got lost in
| translation and became a terrible bad thing, but most
| likely not. Often these things need to be read in the
| context they apply, which is not "globally".
| nodamage wrote:
| You appear to be conflating R&E expenses (Section 174) with the
| R&D credit (Section 41). They are related but not the same
| thing, and the original question was about the former not the
| latter.
| danielrhodes wrote:
| There are obviously stupid loopholes in tax law that serve no
| wider benefit, but that's not the case here. This was very
| intentional and not crazy at all.
|
| The whole reason this tax credit exists is to promote more R&D.
| If you are doing heavy R&D you can pay less income taxes. It's
| an incentive for companies to not hoard cash but to put it into
| creating new business and opportunities and stay competitive.
| They still have to pay payroll tax, which is a substantial
| portion of the tax companies pay to the federal government
| anyways. But even that too is an incentive for companies to run
| more efficiently: the fewer people you have on payroll and the
| more R&D you do, the more your company is an innovation machine
| - that ends up being good for the economy.
|
| There are obviously lots of cases where American companies use
| loop holes to not pay taxes (especially on international
| income). That's a separate debate. But if you see a big company
| (like Amazon) not paying income taxes, it could mean they
| heavily invest in R&D. That's why when I hear politicians
| whining about this, I know they are not always doing so in good
| faith.
| ilamont wrote:
| Wow. I had no idea this was happening. Not a peep from my
| accountant, either.
|
| I have an S-Corp so "profit" would pass through to my personal
| taxes.
|
| I've found over the years that most people writing and
| administering tax and business regulations at the local, state,
| and federal level have little clue about the needs of small
| businesses, whether it's a software startup or a local pizza
| place.
| silverlight wrote:
| Correct, my company is a partnership LLC and these "phantom
| profits" are going to flow through to me personally to owe
| taxes on.
| edgyquant wrote:
| [flagged]
| hesdeadjim wrote:
| My expensive accountants didn't bother mentioning the Section
| 174 changes because like every year since the 50's that law has
| been delayed or overridden through other legislation.
|
| Manchin killed the bill last year that would have extended the
| protection from 174...
| lotsofpulp wrote:
| One politician cannot be held responsible for a bill not
| passing that requires the votes of many others.
| rootusrootus wrote:
| Sometimes I think we're better off when one party or the
| other has more of a majority in congress, so the whole
| institution isn't so vulnerable to the wingnuts.
| light_hue_1 wrote:
| Except that section 174 was fine until Republicans under
| Trump controlled every aspect of congress and passed the
| Tax Cuts and Jobs Act (TCJA) in 2017.
|
| That act changed section 174 in this stupid and extremely
| detrimental way.
|
| So no. It was exactly "one party" (the Republican party)
| whose fault this is.
| adamsmith143 wrote:
| Are you aware of how the Senate has been operating for the
| past few years? A single Senator can indeed scuttle entire
| legislation.
| agar wrote:
| A single senator _and an entire political party_
|
| OP is right. Manchin gets the blame but 50 others voted
| against it as well, many who would be willing to cross
| the aisle but for the toxic partisan environment in this
| country.
| bradlys wrote:
| It's all a horse and pony show. It's most definitely not
| just one politician deciding things - they just want you
| to think that. Ever notice how the villain changes ever
| few months?
|
| It's planned.
| eclipxe wrote:
| No it's not and no, I don't notice that the villain
| changes every few months. Example?
| goodSteveramos wrote:
| The overlap in donors between GOP and Democrats is
| insane. Its literally the same few thousand big donors
| directing policy and the Republican/Democrat thing is
| just pro-wrestling to entertain the low-information
| public.
| lotsofpulp wrote:
| What are the other 50 nay votes doing?
| adamsmith143 wrote:
| Being Republicans
| fareesh wrote:
| Not sure if this is widely known but none of those people
| read anything in the bills unless an important person tells
| them to care about a specific clause.
| ilamont wrote:
| True. The bills are literally hundreds of pages long.
| hesdeadjim wrote:
| It's an absolutely fucked situation. In what world is revenue
| taxed *before* expenses. It's a nuclear bomb for US innovation.
| Meanwhile China offers a 2x credit and the EU is almost as
| generous.
|
| Our accountants have been apologizing for a month now about the
| lack of heads up because they were confident congress would
| extend it like they always have. Nope.
| dcow wrote:
| That's not how it works. OP is misinformed.
| dheera wrote:
| That also is an issue. US tax law is so damn complicated
| people spend time on understanding taxes instead of science.
| freedomben wrote:
| Even the people who professionally do taxes (Accountants)
| can barely understand it and are debating it. It's utter
| insanity
| karmelapple wrote:
| There are a ton of people here telling you their accountants
| telling you otherwise, mine included.
|
| I think it would be much more helpful if you tried avoiding
| stating this as objective truth, and state more like your
| non-accountant opinion is that's how it works.
| CamperBob2 wrote:
| You said elsewhere that you're not an accountant. What _are_
| your qualifications?
| dcow wrote:
| Just another misinformed internet commenter. You are free
| to draw your own conclusions.
| hesdeadjim wrote:
| It essentially is, sorry. Having to amortize your R&D credits
| across five years is deadly to cash flow. The only EU country
| with a law like this is Belgium.
| thaumasiotes wrote:
| > It's an absolutely fucked situation. In what world is revenue
| taxed _before_ expenses.
|
| Ever heard of sales tax?
| Majromax wrote:
| > In what world is revenue taxed _before_ expenses.
|
| All of them, for capital expenditures.
|
| If I buy a widget-maker for $100,000 and use it to make a
| profit of $50k/yr on widget sales (net of staff and materials),
| then I don't have a $50k loss in my first year and $50k in
| profits thereafter.
|
| Instead, the cost of the machinery must be amortized
| (depreciated) over several years, with a five-year period being
| typical but not universal. In the latter case, even though I
| had a $100k cash outlay for the machinery, I'd still record a
| tax-time profit of $30k for the year ($50k operational net
| revenue less $100k/5 years).
|
| Is software an operational or a capital expense? There are
| arguments for each approach, and reasonable governments might
| decide the issue differently.
| silverlight wrote:
| I think the main difference is:
|
| 1) You can't just go get a loan for "a software" like you can
| "a widget maker." Most businesses with these large capital
| assets get loans on them and then it works out nicely as you
| pay back the loan on the asset while you depreciate it.
|
| 2) This would be like the law saying "anything you do in the
| business of making widgets at all is now a capital outlay"
| which is obviously ridiculous. It's not that they said "if
| you buy expensive tools to make software now you have to
| capitalize them", it's written that any expense at all in
| service to software development is something now capitalized.
|
| Not that you agree with what's been done and I appreciate
| your example, but I think it does give a good contrast to see
| the differences.
| alexb_ wrote:
| >I am completely flabbergasted as to how this was thought to be a
| good idea...it seems like it drastically increases the cost of
| starting a bootstrapped software company in the US, which is just
| terrible policy in general.
|
| Oh it's a terrible policy for you. Yes, for you, the person who
| may want to actually create something which threatens the people
| who own large businesses, this is quite terrible. But for the
| people with lobbyists who want to make sure competition is made
| almost impossible to happen, it's just amazing.
| leetrout wrote:
| It also says in Sec. 1.174-3 Treatment as expenses:
|
| > Research or experimental expenditures paid or incurred by a
| taxpayer during the taxable year in connection with his trade or
| business are deductible as expenses, and are not chargeable to
| capital account, if the taxpayer adopts the method provided in
| section 174(a)
|
| Seems like there could be room to challenge "all software dev is
| R&D"
| linuxftw wrote:
| There's an R&D tax credit. See [1]. I would aggressively pursue
| this option. Much better than a deduction anyway.
|
| 1: https://www.hklaw.com/en/insights/publications/2023/01/rd-
| co...
| codazoda wrote:
| Specifically, that law firm says...
|
| > Startups unable to utilize the credit under Section 41 should
| consider whether an amortizable expense under Section 174 or an
| immediate deduction under Section 162 is more appropriate.
|
| So, their interpretation seems to be that you have three
| options.
| linuxftw wrote:
| Right. And 'unable to utilize' I think just is about the
| credit being non-refundable. EG, if are otherwise already
| showing a loss, then you don't want to use the credit. If you
| have reportable income, then the R&D credit might be
| beneficial.
|
| Though, I'm not sure you can split the credit or carry any
| forward, etc. Every tax situation is different.
| nodamage wrote:
| Under the previous law it was not a mutually exclusive choice,
| you could deduct the R&E expense under Section 174 and also
| claim the R&D credit under Section 41.
|
| Under the current law you can no longer do both, if you want to
| take the R&D credit you have to instead amortize the R&E
| expense under Section 174.
|
| Or from the other comments in this thread it sounds like you
| can maybe skip the R&D credit and then continue to deduct the
| R&E expense under Section 162. But it's not clear (to me
| anyway) whether Section 174 _supercedes_ Section 162 in the
| case of software development costs, in which case you might no
| longer be allowed to apply Section 162.
| aclatuts wrote:
| I had no idea this is how it worked. The previous system
| sounds too good to be true as a Canadian.
| pclmulqdq wrote:
| I am not a tax expert at all, but I pay some tax experts a lot of
| money, because I do a lot of bootstrapped R&D and the tax laws
| around it are nuts. My accountant has suggested that I am totally
| fine, but my lawyer told me he wanted to do more research (not
| that this was an outright bad rule), but didn't think I would be
| stuck on this. I declined on the research (legal research is very
| expensive). My lawyer is very conservative, and my accountant is
| very liberal on this sort of thing, so that's the range of
| opinions I'm looking at.
|
| In general, I'm not so sure this is particularly apocalyptic
| unless you are bootstrapping with high expenses, and you are
| doing hard tech without a launched product. If you have a
| launched product, software development can be an operating
| expense. If you don't, it's harder to justify. If what you are
| doing has low technical risk, you can also put the number in a
| different spot on your income/loss statement and operationalize
| it. If what you are doing has low expenses, it probably doesn't
| matter much either way because it's not worth anyone's time to
| figure out if you can actually claim the credit.
|
| If you _are_ bootstrapping a hard tech product and have not
| launched anything yet, I hope you can afford the amoritzation,
| because you might not be able to afford your technical risk
| either.
| bombcar wrote:
| As a general reminder as long as you have a _reasonable_
| interpretation of the tax code; even if it is NOT the IRS 's
| (and the judge eventually rules _for_ the IRS), you will likely
| be clear of _penalties_.
|
| If you try to avoid _ever_ getting entangled with the IRS you
| will way overpay.
|
| E.g,: https://johntreed.com/products/aggressive-tax-avoidance-
| for-...
| notshift wrote:
| Would you recommend that book or any others on real estate /
| real estate taxes? I'm thinking about getting into the market
| soon.
| silverlight wrote:
| So you're saying that the advice you got was that if it's a
| launched product, you can treat software development as an
| operating expense and just ignore the fact that 174 says
| software development is an R&E expense?
|
| I mean that sounds great to me...I just also feel like it's
| probably a very "liberal" interpretation indeed.
|
| The part I'm getting hung up on is essentially, previously R&E
| expenses (as you note) were a lot more fungible, it depended on
| a number of factors including how risky the endeavor was.
| Things that you just do day-to-day in the service of keeping
| your company afloat (which for a launched SaaS for example
| would include fixing bugs or even developing basic features)
| were likely not R&E. Maybe if you embarked on a journey to
| develop a totally new product, it would have been.
|
| It seems like the most basic reading of this is pretty
| straightforward: they've taken that decision making away and
| said "if it's software dev, it's R&E." Not "if it's software
| dev for a new feature, but hey existing bug fixes and
| maintenance don't count," just, "software is R&E now always."
|
| Obviously everyone has their own risk tolerance for how they
| interpret things and what definition they use.
| pclmulqdq wrote:
| The key is that as long as your interpretation is reasonable,
| you won't be penalized, and as long as the numbers are fine,
| you probably won't even be audited. If you have a good
| representative, you may even be able to convince an auditor
| that your interpretation is correct.
|
| And yes, I would say that software that isn't continually
| developed rots, so if you have a launched product, you aren't
| really working out your technical risks, you're keeping your
| revenue stream alive. That sounds like a cost of goods sold
| to me.
|
| Previously, all of our accountants wanted our work to be R&D,
| which is why we include things like "all software
| development" in R&D. Now, we may not want it. There are a lot
| of other places you can put it.
|
| EDIT: CRUD apps have always been on the line between R&D and
| not R&D, so let's just put our toes on the other side for
| 2022 and beyond. In comparison, biotech and hard tech
| endeavors are screwed because that's not even arguable.
| nodesocket wrote:
| First I'm even hearing about section 174. I just pinged my
| managed accounting and tax service.
|
| Shameless plug, but if you have a small business and looking for
| somebody to manage S corp, payroll, accounting, taxes, I highly
| recommend http://collective.com. I just integrated with them for
| 2023. Use my promo code if you want, gives us both discounts.
| https://share.collective.com/JK2020
| silverlight wrote:
| Let us know what they say!
| arikr wrote:
| Slightly odd to plug them given they didn't seem to be on top
| of this issue
| mritchie712 wrote:
| Do you do your own taxes? Pilot is $500 a month, might be worth
| it if you're unsure how to handle this. I'm not associated with
| Pilot, just a big fan of outsourcing things like this.
|
| https://pilot.com/pricing
| ilikeatari wrote:
| Yes, it's a big issue. It's fascinating how little it's talked
| about. I think this requires that we organize grassroots
| visibility into this. Also, wouldn't YC have some mechanisms to
| organize? I mean, I think this impacts every tech business other
| than unicorns.
| silverlight wrote:
| I have also been surprised since I found out at the lack of
| discussion. Based on this post, it seems like many people
| didn't know. I assume a lot more are going to find out as we
| get closer to actually filing taxes.
|
| What I've heard is that there's already strong support for
| changing this but it's just a matter of Congress actually being
| functional, which political affiliation aside, it's not right
| now.
| mikestaszel wrote:
| Could this be a factor in tech industry layoffs?
| jedberg wrote:
| I have a tax pro for this very reason, but my understanding is
| that you have a choice on how you want the tax treatment -- you
| can deduct it now as a business expense or over five years as
| R&D, which gives you a better tax deduction in the long run but
| fewer up front benefits. But at the end of the day I pay the tax
| guy to worry about it for me.
| silverlight wrote:
| Did you talk to them about this specific change recently?
| Because how you're describing it is how it used to work, just
| not starting this year.
|
| Also thanks for Reddit ;)
| bryanlarsen wrote:
| > But how are bootstrapped companies without access to large
| capital reserves or investment supposed to come up with the money
| to pay these tax bills while they wait it out?
|
| You can go to the bank and take out a loan. It's called a "factor
| loan", and tax receivables are solid collateral.
| silverlight wrote:
| That may be one option, but now I'm paying interest to give the
| government an interest-free loan in an inflationary
| environment. Great.
| bryanlarsen wrote:
| Oh, it's worse. You also have to have your books in good
| enough shape for the bank, and submit them regularly. It's
| like doing taxes twice. Having your books in good shape is a
| good idea for many other reasons, but it's one more thing.
|
| Better than bankruptcy, though, and it's often better than
| accepting VC terms.
| voakbasda wrote:
| Gosh, doesn't this just reek of a move to entrench established
| big business by erecting regulatory hurdles, designed primarily
| to prevent anyone from following their path to success.
|
| That may not be a charitable take, but the politicians and
| corporations no longer deserve an ounce of beneficial doubt when
| it comes to the games they play.
| phphphphp wrote:
| I am not a tax expert but my understanding is that a business
| would claim expenditure as R&D _because_ of the beneficial tax
| treatment: it 's a choice you make to categorise expenditure as
| R&D, you're under no obligation to do so. If the tax treatment of
| R&D spend has changed to be less favourable in your circumstance
| (i.e: you can't afford the short term cost of amortisation) then
| you would not claim the spend to be R&D related. After all, a
| small technology company working on their revenue-generating
| product is not doing anything experimental: it's only
| experimental if you massage it as such.
|
| I could be far off the mark -- so please correct me if I am wrong
| -- but your framing suggests that if a business spends money on
| software development then they must amortise the cost which does
| not seem to be correct.
| silverlight wrote:
| This is how it worked in previous years. Previously, you could
| elect to take the R&E expenses either entirely in a single year
| or amortized over the longer period. This year the change is:
|
| 1) You can no longer take it all in the single year, and 2) All
| software development is now R&E automatically, no exceptions.
|
| Note that this is separate from the R&E tax credit that you can
| also claim, that's a different deal in addition to this.
| jacobsimon wrote:
| Reply from our CPA:
|
| "There's pretty widespread bipartisan distaste for that
| change and there have been multiple attempts to extend the
| deadline or amend the change, but they haven't picked up
| steam yet. Still possible it will be changed retroactively.
| The saving grace is that a lot of the expenses they are
| talking about you needing to amortize would qualify for the
| R&D credits you'll be getting. So there's often a substantial
| offset between the two."
| karmelapple wrote:
| There may be widespread bipartisan distaste, yet:
|
| 1. It passed in the 2017 tax changes
|
| 2. The Congress ending on Jan 3, 2023, did nothing about
| it, even though they totally could have
|
| 3. I think R&D credits will usually be significantly
| smaller compared to the salary paid
| silverlight wrote:
| This is what I've also heard from our CPA (that no one
| likes this and it shouldn't be happening), but since it's
| here and taxes are due in April, here we are.
| dcow wrote:
| You asked for advice and are ignoring it. ~~Don't take
| the R&D credit.~~ Don't use Section 174. Problem solved.
|
| EDIT:
|
| Let me elaborate: unless you are in the "start up phase"
| incurring _startup costs_ , you are not required to
| follow section 174. I suspect the confusion is between
| how we use "startup" colloquially vs how the IRC uses
| "startup costs". Once your business is up and running you
| are "carrying on" business, even if you aren't yet making
| a profit. You are only required to follow section 174 if
| you are choosing to classify your expenses as "startup
| costs" which in my experience would be very odd after the
| first year and even after the business is founded.
|
| Not an accountant of course, but nobody is going to tell
| me to pay taxes on revenue before expenses. And writing
| software does not automatically mean you are doing R&D.
| Not even in spirit. If you're writing a script that
| speeds up part of your business and makes you more money,
| thats not "R&E". It's just work.
|
| EDIT2:
|
| > In the meantime, the Section 174 amendment should not
| cause established taxpayers to adjust their accounting
| methods when applying Section 162. Existing taxpayers
| incurring R&E costs as part of their ordinary and
| necessary expenses while carrying on a trade or business
| can continue to make deductions with confidence that
| legislative and judicial history support that practice.
|
| https://news.bloombergtax.com/tax-insights-and-
| commentary/ch...
| [deleted]
| silverlight wrote:
| Again, I agree with everything you are saying in your
| edit. It's just not what my CPA is saying the actual tax
| code says anymore.
|
| Honestly my main reason for starting this discussion was
| a) to see if anyone else's professional advice (e.g. from
| a CPA) was different, and b) to hopefully drum up
| awareness so maybe in some roundabout fashion this gets
| changed.
| dcow wrote:
| That's all fair. You're pretty persistently knocking down
| alternative interpretations as "not what _my_ CPA said ",
| though. Maybe just let them be and let people draw their
| own conclusions since this is a discussion. Idk. People
| are trying to help out and you just keep saying "not what
| my CPA said". Obviously we should be having this
| discussion with your CPA, then (:
| silverlight wrote:
| If anyone knows of a CPA who thinks this isn't how it
| works now, please let me know their contact info, as I
| would love to pay them to advise me on this and get a
| third opinion.
| [deleted]
| giantg2 wrote:
| It really says a lot about the system when the people who
| pass laws bipartisanly are not happy about what they just
| passed. It's almost like they could have, I dunno, read and
| thought about what they were passing. Just imagine all the
| other BS slipping through.
| jlmorton wrote:
| The fact that there are unintended consequences in
| legislation does not mean no one read, or thought about
| it. These are thousands of Congressional staffers who
| read and study legislation, along with many more outside
| of Congress, but there are missed requirements,
| implementation bugs, and other problems in edge cases in
| legislation just like everything else, because the world
| is complex.
| giantg2 wrote:
| There's a difference between unintended consequences from
| something like an n-order affect on the system due to
| complexity vs a clearly written piece and uncomplex rule
| in the law. The latter suggests that due diligence was
| not performed. Of these thousands of staffers, it seems
| nobody bothered to read and understand it. We can look to
| history on how bills have been passed rapidly after
| introduction, without enough time to read and think about
| them. This makes me feel like the people in power don't
| really pay that much attention and don't care for careful
| deliberation.
|
| Sure, bugs happen. But in a system that holds immense
| power over people's lives, we should be striving for the
| level of bugs to be similar to life critical safety
| systems and not some glitchy business website.
| pirate787 wrote:
| The bugs are a feature. Insane complexity in the tax code
| creates room for legal corruption through special favors
| that no one understands.
| CH1jZci6jV wrote:
| I am a formal congressional staffer in both the House and
| the Senate and virtually no one reads any given bill or
| even cares much about what is in it other than memorizing
| the talking points about it. Bills are almost completely
| written by lobbyists and a bunch of 23 year old staffers
| are not knowledgeable enough to have any valid
| comprehension or input.
|
| The job of a congressional staffer is to ensure
| reelection so we spend almost our time getting the member
| on the most powerful committees (for more campaign
| contributions) and getting on tv (for free media).
|
| Committees do spend more time on the content of bills but
| each member usually only has one staffer for multiple
| committees and they are still told how to vote by the
| party.
| rkagerer wrote:
| This is one reason why I think there should be a cap on
| the total volume of legislation (measured in pages). If
| you want to pass a new law, you need to repeal an old,
| obsolete one.
|
| Nobody should be subject to a corpus of rules too
| volumous for them to read and understand.
|
| It's absolutely unforgivable that legislators don't even
| read the laws they pass.
| thaumasiotes wrote:
| A version of this system was apparently implemented in
| Iceland - under the traditional law, once a year a
| designated person had to recite the entire law, and
| whatever he forgot to include was no longer the law.
| ccleve wrote:
| This is true. I was a congressional staffer long ago, and
| before that I was an intern at the Legislative Digest, an
| official publication that summarizes legislation for the
| members of Congress. These summaries were often the only
| thing that members would read before they voted. If a
| member was really ambitious, he or she might read the
| committee report as well. But that's it.
|
| I wasn't 23 years old when I was writing these summaries.
| I was 21. There was no one in the office over 30, and no
| lawyers.
|
| https://en.wikipedia.org/wiki/Legislative_Digest
| toast0 wrote:
| Just because they're not happy with it doesn't mean they
| had a better alternative.
|
| It's easy to get a small change in when there's general
| agreement. But sometimes it's like immigration law ---
| few like the status quo, but there's no consensus on what
| direction to change it.
| giantg2 wrote:
| In general I agree. But in this case, their better
| alternative _was_ the status quo prior to the change.
| toast0 wrote:
| If it's the old status quo was that much better, it
| should be easy to get that one thing changed back.
| Legislation _can_ be quick when enough people want it to
| be, and there 's no mandatory business pending.
| iso1631 wrote:
| "It really says a lot about the system when the people
| who write code are not happy with the bugs they just
| wrote. It's almost like they could have, I dunno, read
| and thought about what they were writing. Just imagine
| all the other BS slipping through."
|
| Just because you write, read, and understand anything
| doesn't mean mistakes don't get through. Should we never
| release any code unless it's completely bug free?
| HillRat wrote:
| The 2017 TCJA was passed on pure party line votes (in the
| House, all Democrats and 12 Republicans opposed the
| bill), so it definitely wasn't bipartisan. More
| generally, big tax cut (the top 0.1% saw about $250K in
| lower taxes under the TCJA) and big spending bills jam in
| all sorts of random shenanigans to try and prove
| themselves revenue neutral, even though they almost never
| work out as described. One favored tactic, as we see
| here, is to kick big cans down the road and let a future
| Congress work out the problems. They (and this is one of
| those cases where both parties are equally complicit)
| know what they're doing, they just don't want to be
| honest about the fiscal implications of what they're
| doing.
|
| Fixing these tax issues, on the other hand, would have
| had to be attached to the NDAA or omni last session, both
| of which require bipartisan support; big bipartisan bills
| are so contentious that it's hard to get unrelated deals
| through, especially since everything goes down to the
| wire these days. In this case, a deal that would have
| expanded child tax credits in exchange for a bunch of
| corporate and high net-worth household goodies, including
| section 174 fixes, was on the table, but couldn't get
| through negotiations. (I'll note that, while the
| Republicans created the section 174 mess in the first
| place, they are now trying to repeal that and other TCJA
| changes, but aren't willing to add lower-income
| individual tax cuts into the mix, which is what stalled
| things in the last Congress.)
|
| It's a hell of a mess, and things are made crazier by the
| weird power dynamics in the current House leadership,
| where a small group of fiscal bomb-throwers have outsized
| power in the Republican party (and it's not clear that
| they care about tax minutiae, at least not while they're
| playing with a federal default on the national debt), but
| the inter-party margins are so slim that you could
| potentially cobble together a bipartisan majority on the
| edges. No one seems to like the section 174 situation, so
| it's at least theoretically possible that you could get a
| small coalition together to cut a deal at the last minute
| -- but I'm not sure we can count on that.
| silverlight wrote:
| Wow, thank you for that detailed explanation. Very
| interesting.
| riku_iki wrote:
| > it's a choice you make to categorise expenditure as R&D,
| you're under no obligation to do so
|
| Link provided by author says there is no choice:
|
| (3) Software development. For purposes of this section, any
| amount paid or incurred in connection with the development of
| any software shall be treated as a research or experimental
| expenditure.
| grumple wrote:
| I think the key words there are "For purposes of this
| section", which means if you're choosing to designate it as
| R&E for the purpose of taking the deduction, you can do that
| with all software related expenses. The core premise of this
| post seems nonsensical, you're not going to be taxed on
| revenue as though it was profit.
|
| Not in any way qualified to provide tax advice, don't take
| the above as anything but idle chat.
| phphphphp wrote:
| My understanding is that only applies _if_ you 're claiming
| that your expenditure is R&D, that is, it's saying that all
| software development costs are _permitted_ as part of R &D
| not that if you spend money on software development you must
| declare it to be R&D.
|
| There are other requirements to meet for expenditure to
| qualify as R&D, like experimentation and consideration of
| alternatives: if all software development is R&D and R&D must
| have alternatives considered and justified, are companies
| even permitted to engage in software development if suitable
| alternatives exist?
| [deleted]
| silverlight wrote:
| This is not what my accountant is telling me or what the
| articles I am finding from large accounting firms are
| saying...
|
| It is not a choice anymore, if it is software dev, it's R&E
| now. They added a specific callout for software development
| only right to the tax code.
|
| Example: if you are a restaurant and you buy an off the
| shelf point of sale software, this doesn't apply. If you
| are in the business of making a point of sale software to
| sell to restaurants, or your restaurant chain develops its
| own point of sale software internally, it applies to all
| costs related to the development of that software now.
| phphphphp wrote:
| Have you read this article:
| https://news.bloombergtax.com/tax-insights-and-
| commentary/ch...?
| silverlight wrote:
| I haven't! I will forward that one to my accountant,
| thanks for pointing it out.
| nodamage wrote:
| I am not sure the interpretation given in this article is
| correct. Specifically, this claim:
|
| > _" Is Section 174 Needed to Deduct R&E Expenses?"_
|
| > _" In a word, no. During the Supreme Court oral
| arguments regarding Section 174, the IRS commissioner
| said that any ongoing business with a history of R&E
| expenditures could use Section 162, regardless of whether
| the new activities were in the same trade or business."_
|
| This article seems to gloss over the fact that Section
| 174 was essentially crossed out and rewritten in the
| TCJA. You can compare the previous version with the new
| version here: https://law.justia.com/codes/us/2020/title-
| 26/subtitle-a/cha... (Compare the "Section Text" which
| applies pre-2022, to the amended version under "Editorial
| Notes" which takes effect in 2022.)
|
| Court rulings and IRS commissioner statements which
| referred to the _previous version_ of Section 174 may no
| longer be relevant. The previous version stated:
|
| > _" A taxpayer may treat research or experimental
| expenditures which are paid or incurred by him during the
| taxable year in connection with his trade or business as
| expenses which are not chargeable to capital account. The
| expenditures so treated shall be allowed as a
| deduction."._
|
| Okay, if it says a taxpayer "may", that does not mean the
| taxpayer "must", and it makes sense that the alternative
| Section 162 deduction is still available for the same
| expense.
|
| The new version states:
|
| > _" In the case of a taxpayer's specified research or
| experimental expenditures for any taxable year-- (1)
| except as provided in paragraph (2), no deduction shall
| be allowed for such expenditures"_
|
| Paragraph (2) then describes the allowed amortization
| process. Note that any language suggesting this treatment
| is optional was removed in the new version. This suggests
| to me that Section 174 is now intended to supercede
| Section 162 when applied to research or experimental
| expenditures and therefore the Section 162 deduction may
| no longer be available.
| twodave wrote:
| Spot on. This actually applies to most consultants like
| myself. Though I pay expenses in order to develop software,
| since I don't own the resulting IP I can't take advantage
| of the R&D credit.
| twodave wrote:
| Key verbiage here is "for purposes of this section". Section
| 174 can define software development expenses however it wants
| --that doesn't make amortization required.
| elicksaur wrote:
| > (a)(2)(B) be allowed an amortization deduction of such
| expenditures ratably over the 5-year period
|
| I'm not familiar with this tax law, why would the "be
| allowed" verbiage here not mean it's an election the taxpayer
| could choose to apply to their situation rather than a
| mandate as the OP is presenting it?
|
| i.e. software development is always an R&E expenditure but
| you are only "allowed" (not "required") to amortize it.
| silverlight wrote:
| The problem is the one above that at the start of the
| section:
|
| (1) except as provided in paragraph (2), no deduction shall
| be allowed for such expenditures, and
|
| What that means is, you can't take it as a normal business
| expense deduction, except by following (2) which is to
| amortize it.
| moneywoes wrote:
| So how would someone categorize those expenses differently?
| pclmulqdq wrote:
| On a launched product, cost of sales. On an unlaunched
| product, cost of inventory, etc.
|
| One of the key questions that defines "R&D" is technical
| risk: are you answering a question of "Can it be done?" or
| "How can we do it?" If you know how and you are just slapping
| it together, it's an opex.
| jay_kyburz wrote:
| "Software Use" rather than "Software Development"
| [deleted]
| vmc_7645 wrote:
| Can someone explain in more basic terms what is happening? I'm
| not the most experienced in this area.
| idlewords wrote:
| The answer is you spend part of the 10% profit on a CPA or tax
| lawyer. The legal deductions, they are so many. I've run a
| bootstrapped software business for 14 years and I never even
| heard of this one until your post.
| nightpool wrote:
| see https://news.ycombinator.com/item?id=34628269, this caught
| everybody by surprised because they assumed Congress would fix
| their mistake before tax season but it's new this year and it's
| seemingly pretty devastating. see some replies from actual CPAs
| in the thread.
| itake wrote:
| How do you deduct payroll / dev costs?
| idlewords wrote:
| Me personally? The same way any small business does; I forget
| the exact line number but the upshot is you tell the IRS who
| you paid and subtract that amount from gross revenue.
| itake wrote:
| I think what OP is saying is that all software development
| costs must be amortized now. Most small businesses are not
| developing their own software and would not be impacted.
| idlewords wrote:
| What I am saying is that this is a bad topic to take
| message board advice on.
| PaulDavisThe1st wrote:
| > you tell the IRS who you paid
|
| unless they are overseas and have no US tax liabilities.
| moneywoes wrote:
| Is there a list of these deductions somewhere for those who
| can't afford a cpa or tax lawyer
| remote_phone wrote:
| You're using the term "R&E". What does the E stand for? I've only
| heard the term R&D.
| pacificmint wrote:
| Research and Experimentation
| silverlight wrote:
| Research and Experimental. It's what the tax code calls it.
|
| https://www.taxnotes.com/research/federal/usc26/174
| rubyist5eva wrote:
| classic regulatory capture, thanks Trump!
| armatav wrote:
| Need you guys in larger, hard tech focused companies for
| impending strife.
| MissTake wrote:
| Granted I may be reading this wrong (dog knows I'm confused over
| the US tax code at the best of times), but I got the impression
| from reading this link (https://www.plantemoran.com/explore-our-
| thinking/insight/202...) that the 5 year rule wasn't yet in
| place.
| silverlight wrote:
| What that article is saying is that there was hope that they
| would act and do something so these rules didn't take effect.
| Congress did not act and so these rules are now in effect.
|
| These rules were established as part of the 2017 tax bill and
| take effect this year.
|
| FTA: "The short answer is that the conclusion of the current
| congressional session with no action on this issue means
| required capitalization of R&E expenditures remains applicable
| to the 2022 tax year."
| [deleted]
| worik wrote:
| I have been reading the comments, I cannot help.
|
| But it is a powerful argument for simple tax codes.
|
| I like the idea of tax. I'm happy to pay my share. I am in
| unhappy about all the leeching lawyers
|
| I expect in your country as in mine, rules are made by lawyers
| and mainly benefit them
| givemeethekeys wrote:
| What are some examples of R&D expenses that couldn't easily be
| categorized as regular expenses?
|
| If I run a software business that brings in 100k but spends 90k
| on developers, then thats money going for salaries or
| contracting, both of which are fully deductible.
| brentm wrote:
| According to Journal Of Accountancy[0] this seems to only apply
| to software expenses that are also treated as R&D expenses. So if
| you expense the costs and don't claim R&D credit you lose the
| credit but would also not have the cash flow issue being
| described. It's still a net negative but at least less negative
| for current year cash flow.
|
| [0]
| https://www.journalofaccountancy.com/issues/2022/nov/amortiz...
| silverlight wrote:
| I don't really see anywhere in that article where it says that
| you can have software development expenses that aren't R&E
| expenses under the new definition. Am I missing it or?
|
| In fact it says:
|
| > The TCJA added a special rule under Sec. 174(c)(3) for the
| treatment for software development costs, stating that "any
| amount paid or incurred in connection with the development of
| any software shall be treated as a research or experimental
| expenditure." Prior to this addition, taxpayers relied on Rev.
| Proc. 2000-50, which stated that the costs of developing
| computer software so closely resemble Sec. 174 R&E expenditures
| that a similar accounting treatment should be used. When this
| revenue procedure was issued, R&E expenditures were currently
| deducted. Under the TCJA, software development costs are
| treated as R&E expenses but are now subject to five- or 15-year
| amortization.
|
| ...which is what I am saying in my example -- software dev
| costs are now forced to be 5-year amortized.
| brentm wrote:
| You could be right. I was relying on some the other less
| formal language like:
|
| > companies engaged in research and development (R&D)
| activities should be implementing this significant change
|
| I think it might require backing up into tax code Sec 174
| "Amortization of research and experimental expenditures"[0]
| itself though. There it says:
|
| > (3)Software development - For purposes of this section, any
| amount paid or incurred in connection with the development of
| any software shall be treated as a research or experimental
| expenditure.
|
| Keying in on "For purposes of this section" I think we'd need
| to figure out is software development expense always required
| to be treated under this section, or is this just talking
| about software development expenses that are made in
| connection with R&D expenses which are under this section.
| It's hard to imagine all and any software development
| expenses are R&D. E.g. if you're running a software service
| company and have 10 engineers building something for a
| client, maybe it's R&D for the client but it's in not at all
| R&D for the service provider....right? I am not a lawyer or
| tax accountant so I may be way off base here.
|
| [0]https://www.law.cornell.edu/uscode/text/26/174
| jjk166 wrote:
| Sounds like you paid $9k for software development and $81k for
| other computer services.
| jollyllama wrote:
| IANAL but maybe marketing took up way more of your time this year
| silverlight wrote:
| Yes I assume the definition of "software development" is going
| to be stretched as far as possible by most companies this year.
| jollyllama wrote:
| Does customer support fall under a different category? That
| takes up a lot of time too.
| silverlight wrote:
| Yes absolutely. I put forth a very simplified example to
| illustrate the point, but I assume any competent CPA (of
| which I am not so this is not actual advice) is going to
| tell you to try and separate out as much as possible that
| you can reasonably claim isn't "actual software
| development".
|
| I'm more just frustrated at the need to do any of it, as
| the underlying principle is so anti-small-business. Why are
| we making anyone in the software field jump through all
| these extra hoops now just to keep their company viable?
| rglover wrote:
| Because big corporations can be easily controlled by a
| hostile government while small businesses (absent
| legislation and other covert means like this) are not as
| easy to control. Simple as.
| jollyllama wrote:
| Agree w/ GP that it's dumb. And you may well be right, it
| does feel malicious.
| ravagat wrote:
| Wow, I missed this, thanks for sharing. I didn't even hear
| anything from my accountant
| benmanns wrote:
| Yuck, it seems like no exceptions, minimums, or safe harbors that
| I can find. Definitely something to keep in mind and save/price
| accordingly. Seems like bootstrapped software needs to charge
| 30-50% more than 2021 and prior, at least for the first 5 years.
| splitstud wrote:
| [dead]
| rco8786 wrote:
| This does seem rather...terrible. I am assuming in this case you
| outsourced the software development and paid someone $90k out of
| pocket?
| eatonphil wrote:
| Not an accountant so: Wouldn't taking a 90k salary be the same
| thing? (If you're building something new.)
| rco8786 wrote:
| Yea I just figured a bootstrapper is not going to take a
| salary in year 1.
|
| But also seems like you could sidestep this by taking your
| salary as CEO rather than as a software developer
| or...something?
| brianwawok wrote:
| So I'm 6 years in as a bootstrapper.
|
| Let's say I took a 500k year salary and paid 1M to my
| developers.
|
| I always claim development as R&D.
|
| I now need to pay taxes on (500k + .8 * 1M = 1.3M?) Despite
| only taking 500K salary? At some point I would owe more in
| taxes than I took in salary..
| silverlight wrote:
| Assuming that your shop took in 1.5M in revenue, then yes
| it would be (500k + 0.9 * 1M) because for the first year
| you only get 1/10th of the deduction.
|
| So it's like:
|
| Year 1: 0.1 Year 2-5: 0.2 Year 6: 0.1
| silverlight wrote:
| In the example I am giving it would be any expense related to
| "software development." So paying a salary to another person on
| your team (or 1099 income to a contractor), buying tools to aid
| in the development, anything at all really.
| slavboj wrote:
| You're absolutely not required to categorize things like
| payroll as amortizable R&D.
| silverlight wrote:
| To be clear I would love for this to be the case. I'm just
| curious though how you would justify saying a developer's
| salary is not a software development expense?
| slavboj wrote:
| You need to talk to an actual accountant or tax lawyer.
| The key verbiage is "for the purposes of this section",
| and the language which optionally supersedes it in other
| sections (notably section 162) in combination with
| several court rulings.
|
| You really can't just read individual sections of the tax
| code and expect to understand how the thing works as a
| whole.
| silverlight wrote:
| I started this discussion after hearing about this from
| my CPA, who works for a large, multi-state firm.
|
| My other business has a different CPA that I am waiting
| to hear from in terms of their advice/interpretation of
| this.
|
| The articles I linked in the OP is from a multi-national
| CPA firm.
|
| I am basically here hoping someone else has professional
| advice from a CPA that contradicts what I've been told
| since I would love for this to be completely not how this
| is working.
|
| So I just want to make sure, are you saying you heard
| from your CPA/tax attorney that this is not how this
| works? Or are you just basing that on your read of it?
| slavboj wrote:
| I have heard from my tax guy about the 174/162 treatment
| and "new" cos vs "carrying on trade" cos and his read is
| that it's defensible to continue using the latter
| provision especially given one has actual revenue
| associated directly with that activity as of year 0,
| rather than some kind of 80s style "we will spend two
| years building the software and then three selling it in
| boxes" that is more directly analogous to capitalizable
| costs. It happens all the time that CPAs are overly
| focused on particular provisions phasing in and out vs a
| holistic view of what provisions even apply.
|
| Keep talking to CPAs until you find the one willing to
| engage in sufficiently aggressive tax treatment to not
| bankrupt your company. Tax returns are not footnoted;
| you're not required to explain at time of filing what
| exact reading of your activity and the tax code leads you
| to believe you have a vanilla payroll expense vs a
| capitalized R&D expense.
| silverlight wrote:
| Yeah, the 162 treatment defense is the thing I've seen on
| here that seems like it may hold some water, and I'm
| planning to go back to my CPA and talk about it with
| them.
|
| To be clear my companies are going to be fine either way,
| but I am not a fan of pulling up the ladder of success
| behind me and the me of 10 years ago trying to start his
| first thing shouldn't have to deal with this nonsense.
| itake wrote:
| If they paid an outsourcing company, not direct hire
| through payroll, then there is no payroll?
| Klonoar wrote:
| How does this apply to individual software dev
| consultants/contractors who operate under an LLC?
|
| (Obligatory "should ask a CPA" but I don't see much mention of
| this case around anywhere)
| sprite wrote:
| Wondering the same thing.
| johnrob wrote:
| Could you request a multi-year payment plan for the 2022 tax owed
| balance?
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