Taxpayers that pay or incur domestic research and experimentation (R&E) expenses and did not make a small business taxpayer retroactivity election need to take action for their 2025 tax year (the first tax year beginning after December 31, 2024). Taxpayers must choose a new method of accounting for their domestic R&E expenses because they can no longer use the amortization method required under Section 174 as enacted by the Tax Cuts and Jobs Act (TCJA).
Taxpayers also should consider whether to continue amortizing unamortized domestic R&E expenses incurred since January 1, 2022, or make an election to accelerate those expenses and claim them either entirely in the 2025 tax year or ratably in the first two tax years after December 31, 2024.
This Alert focuses on the new accounting methods a taxpayer can use under Section 174A as enacted by the One Big Beautiful Bill Act (OBBBA) for its 2025 tax year, as well as the optional election to accelerate unamortized expenses. A taxpayer must decide whether to use the optional election before filing its 2025 tax return.
New Accounting Methods Required for Tax Year 2025 for Domestic R&E Expenses
Section 174A allows taxpayers to fully deduct domestic R&E expenses in the year paid or incurred (the 174A deduction method), effective for tax years beginning after December 31, 2024. Alternatively, taxpayers can elect to capitalize domestic R&E expenses and amortize those amounts beginning with the month in which the taxpayer first realizes a benefit from the expenses, with a 60-month minimum amortization period (the 174A amortization method). Taxpayers can no longer use the TCJA-required Section 174 method of capitalizing and amortizing domestic R&E expenses ratably over a five-year period beginning with the midpoint of the tax year in which such expenses are paid or incurred (the TCJA 174 required amortization method). Note: The OBBBA continues to treat software development costs as R&E expenses for both domestic and foreign research.
Voluntary capitalization of domestic R&E expenses under Section 59(e) remains an option under the OBBBA. A taxpayer can elect annually to determine the amount of expenses it wants to capitalize; however, the amortization period is set at 10 years. Taxpayers that want to make this election will still need to file a method change to use the Section 174A deduction method. They can then make a Section 59(e) election by following the procedures in Treas. Reg. §1.59-1(b) for any year in which they want to amortize some or all of their expenses. Partnerships and S corporations should note that under Section 59(e)(4)(C), each partner or S corporation shareholder makes the Section 59(e) election separately for their allocable shares of qualified expenditures.
The OBBBA revised Section 280C(c)(1) to provide that R&E expenses are reduced by the amount of the research and development (R&D) credit allowed under Section 41(a). Alternatively, taxpayers can elect to claim a reduced R&D credit under Section 41(a) in lieu of reducing their R&E expenses. That election must be made with the timely filed tax return for the year in which the election is being made, and it is irrevocable.
Each entity in a controlled group (or a separate trade or business) can choose its own Section 174A method, as well as whether to accelerate its unamortized domestic R&E expenses and the recovery period to use. For the R&D credit calculation, an entire controlled group must use the same calculation method.
BDO Insight
Small business taxpayers that changed to a Section 174A accounting method retroactively (via a 2024 method change or amended returns) and want to remain on the same method should not file an additional method change in 2025 unless they want to change to a method different from what they retroactively changed to.
Option to Accelerate Unamortized Domestic R&E Expenses
For domestic R&E expenses taxpayers paid or incurred in tax years beginning after December 31, 2021, and before January 1, 2025 (TCJA 174 years), the default treatment is for taxpayers to continue amortizing those amounts over the original recovery period of five years. No action is required to continue that amortization. Alternatively, the OBBBA allows taxpayers to accelerate the remaining unamortized amounts either in full in the 2025 tax year or ratably over two tax years beginning with the first tax year beginning after December 31, 2024. If a taxpayer elects to accelerate the remaining unamortized amounts, it must make an accounting method change in the 2025 tax year. That election is made independently of the taxpayer’s desired method of treating domestic R&E costs beginning in 2025.
BDO Insight
There are specific considerations for partnerships that underwent transactions resulting in their termination during the TCJA 174 years. The treatment and character of any resulting partner-level deductions for future years is highly complex, so taxpayers should consult their advisors to establish how the changes affect them.
If a taxpayer changed its accounting method for a TCJA 174 year from improperly deducting Section 174 expenses to using the TCJA 174 required amortization method and is still recognizing the unfavorable Section 481(a) adjustment amount, it will continue to recognize the Section 481(a) adjustment ratably over the remaining years. Accelerating the unamortized domestic R&E expenses will not change the remaining recognition period for the Section 481(a) adjustment.
BDO Insight
Taxpayers should evaluate their facts to determine whether they should accelerate any remaining unamortized amounts, as well as whether changing to the Section 174A deduction or amortization method is the best option. They should consider:
- Whether accelerating unamortized amounts will create or increase a net operating loss and whether future amortization deductions are more beneficial than immediate expensing;
- The impact acceleration will have on other provisions, including Section 163(j), the percentage-of-completion method under Section 460, and those governing the base-erosion and anti-abuse tax and foreign-derived deduction-eligible income regimes; and
- State income tax conformity or decoupling.
Accounting Method Changes
Taxpayers can make automatic accounting method changes to go to either of the new Section 174A methods for domestic R&E expenses and to accelerate unamortized amounts for domestic R&E expenses from the TCJA 174 years under section 7.02 of Rev. Proc. 2025-28. For an automatic accounting method change to a new Section 174A method for a tax year beginning after December 31, 2024 and before January 1, 2026, the change is made on a cut-off basis, so a taxpayer will continue to recognize any unamortized domestic R&E expenses over the remaining five-year amortization period unless it elects to accelerate the unamortized amounts. For a change to the Section 174A(c) amortization method, a taxpayer must state the number of months (not less than 60) selected for the amortization period.
If a taxpayer wants to make an automatic accounting method change to accelerate the unamortized amounts for domestic R&E expenses from the TCJA 174 years, it must make the change for the 2025 tax year. The taxpayer must specify whether it will accelerate the remaining unamortized amounts either in full in the 2025 tax year or amortize the remaining unamortized amounts ratably over the two tax years beginning with the first tax year beginning after December 31, 2024.
A taxpayer can make those automatic accounting method changes for a tax year beginning before January 1, 2026, even if that tax year is the final year of the taxpayer’s trade or business. Further, the following prior method changes will not prohibit a taxpayer from making the automatic changes:
- A change for domestic R&E expenses made under TCJA Section 174 for a tax year beginning before January 1, 2025;
- A deemed change to one of the new Section 174A methods made on a tax return filed on or before September 15, 2025, for a tax year beginning after December 31, 2024 (see section 7.02(6) of Rev. Proc. 2025-28); and
- A change to one of the new Section 174A methods for the 2025 tax year (this would apply to changes to accelerate the unamortized expenses).
Taxpayers will not receive audit protection for expenses paid or incurred in tax years beginning before January 1, 2025.
Foreign R&E Expenses
The OBBBA did not change the treatment of foreign R&E expenses, which continue to be capitalized and amortized ratably over a 15-year period beginning with the midpoint of the tax year in which they are paid or incurred under Section 174.
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