If your company builds software or develops products, Section 174 decides when you get to write off that work, and the rules just flipped back in your favor. For three painful years you had to spread those costs out. Now you can deduct most of them right away again. This guide walks through what Section 174 covers, what the One Big Beautiful Bill Act changed, and what to do about the expenses you already capitalized.
Section 174 of the Internal Revenue Code governs the tax treatment of research or experimental expenditures, often shortened to R&E. These are the direct research expenses of developing or improving a product, process, formula, or piece of software, and they represent research and development in the tax sense. All software development work counts as R&E under the statute, which pulls in most tech and product companies and are included in Section 174 whether they think of themselves as doing research or not.
It helps to separate two things that often get mixed up. The section is about the write-off, meaning when and how you claim the cost. The credit for increasing research activities under Section 41 is a separate benefit, a dollar-for-dollar R&D tax credit for qualified research. Section 174 costs and R&D credits often come from the same projects, but they are different rules, and this guide is about the write-off side. In short, the Section 174 rules set the deductibility of R&E expenditures, while Section 41 sets the credit.
For most of its life the rule let you deduct research costs in the year you paid them. The Tax Cuts and Jobs Act changed that. Starting with any year beginning after December 31, 2021, the amended Section 174 required taxpayers to capitalize and amortize R&E instead of deducting it. This Section 174 capitalization and amortization regime applied to all R&E expenditures under Section 174, and those expenditures were no longer deductible under Section 174 in full.
Here is what that meant in practice. Section 174 requires domestic costs to be capitalized and written off over five years, and foreign research over fifteen, with a half-year convention that pushed the first deduction even further out. So a company that spent a dollar on domestic R&E that year could only deduct about ten cents of it. That amortize-it rule hit software and startup companies hardest, because their biggest expense, engineering payroll, suddenly could not be fully deducted. Cash tax bills jumped even for firms losing money on paper.
The One Big Beautiful Bill Act rewrote this. It added a new Section 174A that permanently lets taxpayers immediately deduct domestic R&E expenditures again. These are research expenditures paid or incurred for research in the first tax year beginning after December 31, 2024, the specified research or experimental expenditures that had been stuck. For a calendar-year business, that means 2025 costs are back to being fully deductible.
These changes to Section 174 restore the old treatment for domestic work while keeping a split you need to watch. Under new Section 174A you can either deduct domestic R&E expenditures in the year incurred or elect to capitalize and amortize them over at least sixty months if that suits your planning. The default most companies will want is the immediate write-off. Because this is a change in accounting method, the IRS laid out how to make it in Revenue Procedure 2025-28.
The catch is location. Section 174A only covers domestic R&E. Foreign research did not get the same relief, so foreign R&E expenditures must still be capitalized and amortized over fifteen years under Section 174 as amended. That makes tracking where the work happens more important than ever.
The practical effect is a two-track system. Your domestic R&E keeps its immediate write-off, while the treatment of R&E expenditures incurred abroad stays on the long fifteen-year schedule. A company with R&D activities and R&D expenditures abroad has to split its research spend by country and apply the right rule to each bucket, since Section 174 R&E rules now turn on location, because the treatment of domestic R&E expenditures and foreign ones is no longer the same.
You are probably wondering about the money already stuck on your balance sheet. The law handles it. Any taxpayer can elect to deduct unamortized domestic R&E expenditures they capitalized during tax years 2022 through 2024, the amounts not yet written off. The election to deduct unamortized domestic R&E expenditures is a way to release research and development expenditures under Section 174 that were trapped.
You get two ways to release that unamortized domestic R&E. You can deduct the whole remaining balance on your 2025 return, or you can spread it evenly across 2025 and 2026. Taking it all at once gives the bigger immediate benefit, while splitting it over two years helps if a single large deduction would waste against low income. This path is optional, so a business that would rather keep its original schedule for those amounts can simply do nothing and let them keep amortizing.
Smaller companies get an extra door. A small business taxpayer can elect to apply Section 174A retroactively all the way back to tax years beginning after December 31, 2021, which means amending the 2022, 2023, and 2024 returns to deduct that domestic R&E in the years it was actually incurred. That can unlock real refunds.
To qualify, you have to meet the small business definition under Section 448, which for this purpose means average annual gross receipts of about 31 million dollars or less across that three-year window. If you clear that bar and choose to amend, you apply the retroactive treatment across those years consistently, and you also have to pull the related Section 280C adjustment into those amended years. For many smaller companies sitting on capitalized research, the amend route, which turns on the amended Section 174, is the one worth modeling first.
There is a wrinkle when you also claim the credit. The One Big Beautiful Bill Act restored Section 280C for tax years beginning after December 31, 2024. Under it, a taxpayer claiming the R&D credit must either reduce their R&E expenditures by the amount of the credit or elect to claim a reduced credit under Section 280C to keep the full write-off.
During the capitalization years this coordination had quietly switched off, which briefly made the credit more valuable. Now it is back, so the deduction and the credit have to be squared against each other again. When you deduct domestic research and experimental expenditures and also claim the R&D tax credit, the amount allowable as a deduction gets trimmed. If you want to claim the R&D tax credit and take the full deduction, the reduced-credit route is usually the cleaner path, and the research credit documentation you keep for the credit will support the deduction too.
Section 174 rewards a plan and punishes a shrug. Between the current deduction, the catch-up election, the small business amend option, and the Section 280C coordination, the right combination depends on your numbers, and getting it wrong leaves cash on the table. Madras Accountancy supports U.S. CPA firms and their startup clients on exactly this: splitting domestic from foreign spend, sizing the unamortized balance, and preparing the elections so the deduction holds up. If you have R&E to sort out, you can reach out here.
This is general information, not tax advice, so confirm the treatment for any client with their preparer, and you can read the official rules in Revenue Procedure 2025-28.
1. What is Section 174? Section 174 of the Internal Revenue Code sets the tax treatment of research or experimental expenditures, including all software development work. It decides whether you deduct those research and development costs now or spread them over time.
2. What changed with Section 174 under the One Big Beautiful Bill Act? The One Big Beautiful Bill Act added new Section 174A, which lets you immediately deduct domestic R&E expenditures again for tax years beginning after December 31, 2024. It reversed the Tax Cuts and Jobs Act rule that forced companies to amortize starting then.
3. Can I still deduct R&E expenditures immediately in 2025? Yes, for domestic research. Under Section 174A, domestic R&E expenditures paid or incurred in a tax year beginning after 2024 can be deducted in the year incurred, so calendar-year 2025 costs are fully deductible.
4. How are foreign R&E expenditures treated? Foreign research did not get relief. Foreign R&E expenditures must still be capitalized and amortized over fifteen years under the amended rules, so you have to separate domestic and foreign research spend and apply the right rule to each.
5. What happens to the R&E I capitalized in those years? You can elect to deduct the unamortized domestic R&E expenditures you capitalized, either fully on your 2025 return or split evenly across 2025 and 2026. Keeping the original amortization schedule is also allowed if you prefer.
6. Can small businesses amend prior returns for Section 174? Yes. A small business taxpayer with average gross receipts of about 31 million dollars or less can elect to apply Section 174A retroactively and amend the 2022 through 2024 returns to deduct that domestic R&E, which can generate refunds.
7. How does Section 174 affect the R&D tax credit? The One Big Beautiful Bill Act restored Section 280C, so if you claim the R&D tax credit you must either reduce your write-off by the credit amount or elect a reduced credit under Section 41 to keep the full deduction.
8. Is software development a Section 174 item? Yes. All software development costs are treated as research or experimental expenditures, so the Section 174 rules apply and they are reported on your tax return accordingly, so the same write-off and amortization rules apply to them.
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