Key takeaways:

• • • Immediate R&D deductions — The One Big Beautiful Bill Act introduces Section 174A, which restores immediate deduction of domestic research and experimental expenditures starting in tax years beginning after December 31, 2024, reversing the controversial five-year amortization requirement that took effect in 2022.

    • Retroactive tax changes — Small business taxpayers with average annual gross receipts of $31 million or less (for tax years beginning in 2025) will generally be permitted to apply this change retroactively to taxable years beginning after December 31, 2021, offering significant opportunities for amended returns and potential refunds.

    • Planning considerations needed — The legislation modified Section 280C, which now requires that domestic R&E expenditures be reduced by the amount of research credit, creating new planning considerations for businesses claiming R&D tax credits alongside Section 174 deductions.

The Tax Cut and Jobs Act (TCJA), enacted in December 2017, brought significant changes to Section 174, impacting how businesses account for research and development (R&D) expenditures. With the passage of the One Big Beautiful Bill Act earlier this year, the landscape has shifted dramatically once again, requiring tax departments to engage in strategic planning and proactive tax management.

Section 174: From immediate expense to amortization

First enacted in 1954, Section 174 allowed for the deduction of expenditures related to R&D in the year the expense occurred. The TCJA eliminated the ability to deduct R&D costs as an expense in the year incurred, requiring costs to be amortized over five years for domestic research and 15 years for research outside of the United States.

Over the years, the IRS released guidance several times on how best to approach Section 174’s R&D capitalization. The most recent substantive guidance came in Notice 2023-63 (in September 2023), which provided interim guidance on the capitalization and amortization of specified research or experimental expenditures; and Notice 2024-12 (December 2023), which clarified the earlier guidance. Additionally, Revenue Procedure 2025-8 (December 17, 2024) provided updated procedural guidance for taxpayers filing automatic accounting method changes related to Section 174 expenditures.

Since the changes to Section 174 took effect in 2022, businesses have struggled to track R&D costs, including what should be excluded or included. This shift created cash flow challenges for innovation-driven industries, leading to widespread calls for reform.

The One Big Beautiful Bill Act: A game-changer for R&D expensing

The One Big Beautiful Bill Act (OB3) that was signed into law by President Trump on July 4th, brought sweeping changes to the tax treatment of domestic R&D expenditures. Under a new addendum, Section 174A, capitalization is no longer required for qualified domestic research activity for tax years beginning after December 31, 2024.

This represents a major victory for businesses that have been lobbying for relief from burdensome amortization requirements. For many businesses, this change will simplify tax compliance, improve cash flow, and reduce overall tax liability.

Importantly, amounts paid or incurred in connection with software development are treated as R&E expenditures eligible for immediate expensing, which can provide particular relief to technology companies and startups. However, research or experimental expenditures attributable to research conducted outside the United States must continue to be capitalized and amortized over 15 years, creating a bifurcated system that requires careful tracking of domestic R&D activities, compared to foreign activities.

The OB3 legislation also includes particularly generous provisions for small businesses. Small taxpayers — those defined by a gross receipts threshold established in Section 448(c) — can amend tax returns as far back as 2022 to reverse the capitalization of R&E expenses. The Section 448(c) threshold is adjusted annually for inflation; and currently, for tax years beginning in 2025, the threshold is $31 million in average annual gross receipts over the prior three tax years.

For all taxpayers that made domestic research or experimental expenditures after December 31, 2021, and before January 1, 2025, will be permitted to elect to accelerate the remaining deductions for such expenditures over a one-year or two-year period, providing flexibility in managing taxable income.

Planning for the new landscape

While the OB3 provides welcome relief, corporate tax professionals must remain vigilant and proactive. The legislation introduces new complexities, particularly around . The change mirrors the Section 280C rules that were in place prior to the enactment of TCJA in 2017, although taxpayers still have the option to make an election under Section 280C that would reduce their research credit by the maximum corporate tax rate (21%) in lieu of reducing their domestic R&E expenditures.

Here are other key considerations for corporate tax department leaders navigating the new Section 174A landscape:

Understanding qualified research — Tax departments must understand what is considered qualified research and development under the new rules. This involves staying current on all guidelines issued by tax authorities and working closely with the company’s R&D team. Critically, teams must now distinguish between domestic and foreign R&D activities, as the tax treatment differs significantly. This information should be communicated to upper management when considering product expansion or enhancements.

Documentation & recordkeeping — Concise documentation of any expense activity remains essential. Tax departments should capture now and decide later — because it’s better to have the data than not. For any R&D activity that takes place outside of the US, all data should be captured separately from domestic activities. Corporate tax departments should systemize documentation, collection, and storage of R&D expense-related information.

Amended return opportunities — Small businesses should immediately evaluate whether they qualify for retroactive relief and assess the potential benefits of amending their returns for the years 2022 through 2024. Even larger taxpayers should analyze whether electing to accelerate remaining unamortized amounts into 2025 or splitting them between 2025 and 2026 provides optimal tax outcomes.

Section 280C planning — Departments must carefully model the interaction between R&D tax credits and Section 174A deductions. The restored reduction requirement means businesses must evaluate whether making the Section 280C election to reduce the credit rather than taking the deduction would provide better overall tax results.

Scenario planning — Departments should develop multiple financial models based on different elections and timing strategies. This will help the company understand the range of impacts these changes will have on cash flow, net operating losses, and overall tax liability.

The OB3 represents a major course correction for R&D tax policy, but it requires tax professionals to adopt a proactive approach to maximize benefits. Corporate tax departments can navigate these changes effectively by staying informed about legislative developments, engaging in continuous learning, and leveraging advanced tax planning strategies. Also, collaboration with internal teams and external advisors will be crucial in identifying opportunities and mitigating risks.

Ultimately, establishing a proactive and nimble mindset will enable corporate tax professionals to optimize their positions and drive business success in this evolving regulatory landscape.

You can find more about how the One Big Beautiful Bill Act has impacted tax issues here

Key takeaways:

• • • Tax requirements have become more complex — The 2025 R&D credit reporting requirements have become significantly more complicated, demanding detailed business component and expense breakdowns.

    • AI may offer solutions — AI-driven platforms that are aligned with new IRS expectations can offer practical solutions to strengthen substantiation, simplify technical narratives, and ease the documentation burden.

    • Pre-planning and preparation are key — Proactive audit preparation, strategic communication, and awareness of recent IRS procedural changes are critical for successful resolution of R&D examinations.

This year marks a milestone for the corporate tax community as the tax code’s Section G Research & Development credit reporting enters the mandatory phase for returns exceeding $1.5 million in qualified research expenses or $15 million in gross receipts. Formerly, taxpayers faced little more than two simple fields on — now, however, filers must provide granular detail at the business component level.

These new requirements include breaking out employee expenses (direct, supervisory, and support), and separating additional qualified categories like supplies, computer leasing, and contract research for every component. The new requirements mirror global trends seen in countries such as Germany and France, where R&D credit documentation has historically been much more burdensome.

How documentation has changed

Historically in the United States, many aspects of R&D substantiation were included in the study and not presented on the tax form itself. In June 2024, the IRS released a revised draft of Form 6765 — and provided — that included the updated stance demanding transparency. Wherein every business component, its relation to controlled groups, the type of component, and the wage/expense breakdown must be represented on the tax return. The implication is clear: Taxpayers must bolster their documentation, ensuring contemporaneous evidence that is not solely prepared for tax purposes.

Compared to many foreign jurisdictions, especially those in Europe, the US still offers relatively less burdensome requirements; however, this directional shift is unmistakable. Complex, technical project narratives and granular wage allocation are increasingly expected by US tax authorities. The IRS indicates that it presumed all filers already performed this granular breakdown. Now, the reporting burden moves from optional best practice to taxable necessity.

Shifting audit terrain

In a , presented by ¶¶ŇőłÉÄę and Tax Executives Institute, panelists also discussed audit shifts. Indeed, 2025 brings procedural shifts within the IRS’s audit playbook. Notably, the elimination of the agreement of facts process at the conclusion of Large Business & International audits in early 2026 removes a formal avenue that filers can use to respond to the IRS’s versions of events before the Notice of Proposed Adjustment is issued. This heightens the importance of detailed, factual Information Document Request (IDR) responses throughout the entire audit, ensuring a well-documented appeals record if needed.

Additionally, tools like the Accelerated Issue Resolution (AIR) and Fast Track Settlement programs are expanding. These initiatives streamline multi-year disputes and improve the odds of reaching taxpayer-favorable outcomes, particularly as IRS management and appeals officers seek more efficient, resource-aware resolutions. Recent experience shows a trend: Fast Track settlements are securing more positive outcomes for taxpayers — sometimes even when the parties are far apart on the numbers.

State audits add their own complexity, especially because many states don’t recognize federal Accounting Standard Codification 730 directives. Tax departments must proactively develop full substantiation for state reviews, rather than relying solely on federal documentation standards or shortcuts. Partnering with audit-experienced professionals, especially those with IRS backgrounds, can further improves audit results.

Turning burden into benefit

The new mandates from Section G are not a signal to retreat from claiming the credit. Despite elevated standards, the credit remains a vital incentive for businesses. Rather than being deterred, corporate tax departments can use this to bolster their requests for more technology investment, including AI-driven tools and solutions.

The arrival of advanced generative AI (GenAI) models makes R&D credit substantiation faster and more precise than ever before. These tools have capabilities that include:

• • • Ingesting and organizing vast quantities of technical and operational documentation into IRS-compliant formats
    • Translating technical jargon into tax-speak, ensuring that every business component gets a concise, accurate, and compliant technical narrative
    • Assisting in quantifying R&D time at the individual level, mapping granular time and activities to precise expense categories
    • Generating contemporaneous documentation referenced directly to underlying evidence or regulatory authority for bulletproof

Corporate tax professionals also can take tedious and manual tasks —  such as interviewing engineers, mapping activities, and defending allocations — and now use AI to manage this work at scale. Real-time views of qualified R&D activity, lessened reliance on labor-intensive surveys, and immediate provisioning all contribute to faster, more rigorous studies, bigger credits, easier audits, and happier R&D teams.

Preparing for 2025 returns and beyond

There are several actions that corporate tax teams can take now to prepare for 2025 returns, including:

• • • Embrace AI and contemporary documentation workflows to meet new substantiation and reporting burdens
    • Build IDR responses, audit narratives, and documentation as if they will be reviewed in appeals or in court — precision and completeness are paramount
    • Cultivate constructive auditor relationships, whether federal or state, with a mindset focused on problem-solving rather than confrontation
    • Consider Fast Track and AIR strategies for accelerated and possibly more favorable dispute resolution in multi-year credit audits
    • Continually monitor IRS and state developments, regulatory guidance, and prominent cases as precedents shift norms and expectations.

R&D credit compliance has evolved from simple reporting to sophisticated, data-driven substantiation. With increased detail required for every dollar claimed, corporate tax departments must adapt quickly.

They now need to be leveraging advanced technology, have subject matter expertise, and create more transparent auditor relationships. Having AI-powered tools is a necessity to making more accurate credits and smoother audits a tangible reality. The bottom line is that R&D credits are valuable and corporate tax department teams will now need to invest time and expertise to get them right.

You can find more about how tax professionals are planning for future tax changes here

One of those aspects has been Section 174. First enacted in 1954, Section 174 allowed a deduction of expenditures related to research and development (R&D) in the year the expense occurred. The upgrade to Section 174 under the TCJA eliminated the ability to deduct R&D cost as an expense in the year the expense occurred, and instead the cost would have to be amortized over a five-year period for domestic research and 15 years if it was outside of the United States.

Over the years, the IRS has released guidance several times on how best to approach Section 174 R&D capitalization, including its most recent guidance, issued December 17, 2024, that discussed the required accounting method used with Specified Research or Experimental Expenditures.

However, since the changes to Section 174 which took effect in 2018, businesses have struggled to track R&D costs, including what should be excluded or included as a cost. Some tax experts believe that this year and next could bring significant changes to the tax & accounting industry with a new presidential administration — as well as the fact that some key provisions of the TCJA are set to expire later this year.

President-elect Donald Trump has made it clear that his intentions are to extend all the expiring provisions, but the potential impact of this on the national debt could make this a more difficult task.

Planning for uncertainty

Although there is a unified Congress going into 2025 (with Republicans having a slim majority in the House), there previously was a to reverse Section 174. However, because the cost to the government of implementing a more favorable R&D expensing rule is uncertain, it is questionable whether it would pass.

While much of the upcoming year may be steeped in uncertainty, especially around tax policies, companies now need to strategically plan for and mitigate any possible changes that may be on the horizon and that could impact their business.

Indeed, there are ways that corporate tax departments can plan and prepare for potential changes. Today, many corporate tax departments already feel taxed, no pun intended, and more than half say their work is primarily reactive, with more than 70% expressing a desire to do more proactive work, according to the Thomson Reuters Institute’s most recent .

In 2025 and beyond, tax professionals will have to work differently to be compliant, with Section 174 only being a part of the potential changes that may be coming down the pike for businesses.

Here are a few more considerations for corporate tax department leaders to worry over:

• • • Understanding qualified research — The tax department must understand what is considered qualified research and development. This involves staying current on all guidelines issued by the tax authorities. Also, it is essential to work with the company’s R&D team to understand the research being done and then advise that team on the kinds of expenditures that need to be captured, or which costs do or don’t qualify for deductions. This information also should be communicated to upper management when considering product expansion or enhancements.
    • Documentation & recordkeeping — Making sure there is concise documentation of any apparent expense activity — and, for good measure, require documentation even if there is some uncertainty over whether the related expense is an R&D activity. Capture now, and decide later — because it’s better to have the data than not. This requires working closely with the various internal teams responsible for those activities. And for any R&D activity that takes place outside of the US, all data should be captured in the same manner domestic documentation. In short, corporate tax departments should be systemizing documentation, collection, and storage of any R&D expense-related information.
    • Scenario planning — Departments should also develop multiple financial models based on different potential outcomes of Section 174 adjustments. This will help the company understand the range of impacts and prepare accordingly. Scenario planning can help the company decide on the timing of developing or enhancing products because the data points from the modeling can reveal potential tax savings or liabilities that could impact cash flow.
    • Other tax incentives — Depending on the industry in which the company operates, there may be other tax credits and incentives to consider, like Section 41, which provides tax credits for increasing research activities. Tax teams should ensure that claiming one credit does not adversely affect eligibility for others. Evaluate how R&D activities can be structured to maximize available tax incentives.

In conclusion, tax professionals must adopt a proactive approach to remain agile amid shifting tax policies, including potential changes to Section 174 and sunsetting provisions of the TCJA.

Corporate tax departments can navigate uncertainties effectively by staying informed about legislative developments, engaging in continuous learning, and leveraging advanced tax planning strategies. Also, collaboration with internal teams and external advisors will be crucial in identifying opportunities and mitigating risks.

Ultimately, establishing and fostering a proactive and nimble mindset will enable tax professionals to optimize their positions and drive business success in an ever-evolving regulatory landscape.

You can find more information about how corporate tax departments manage Section 174 rules here.

While the Internal Revenue Service has around R&D tax incentives, companies are looking to the government for their recommendations in order to set clarity and streamline the calculation and application processes for R&D credits, particularly under Section 41 () and Section 174 (R&E Expenditures).

R&D tax areas most in need of clarification

Based on comments from a recent leading tax conference, below are five key areas in which additional clarifications is most needed:

1. Software development costs

The evolving nature of technology and software development presents challenges in defining what is considered software development costs that are eligible for R&D tax credits. Authorities are addressing this, not only now but in the future, as they consider comprehensive regulations to address the breadth of activities that qualify, from preliminary research and design to testing and deployment. Given the warp-speed of innovation and of software development, the guidance has to be flexible yet precise enough to include a wide range of activities. At the same time, it also needs to be able to exclude routine or maintenance tasks that do not contribute to technological advancement.

2. Timing of labor costs

One of the most pressing issues is the definition and timing of labor costs eligible for inclusion in the Specified Research or Experimental Expenditures (SRE) calculation. This includes determining which employee’s activities are qualified as direct research activities rather than supporting or ancillary work. Additionally, guidance is needed on how to allocate labor costs when employees are engaged in both .

3. Incidental costs on “safe harbor” rules

Businesses need to fully understand the for incidental costs associated with R&D activities. These rules could specify a fixed percentage of direct R&D costs that can be automatically treated as qualifying incidental expenses, thereby simplifying the calculation process and reducing administrative burdens. Establishing clear criteria for what constitutes incidental costs — such as materials, supplies, and overhead — would help companies more accurately estimate their eligible R&D expenditure.

4. Treatment of contract research

plays an important role in the R&D ecosystem, allowing companies to leverage external expertise and resources. However, there is some ambiguity regarding the eligibility of contract research expenses, especially in determining the ownership of the resulting intellectual property and the allocation of risks and rewards between the contracting parties. Future guidance should clarify the conditions under which contract research expenses qualify for R&D tax credits and provide a framework for contractual arrangements that facilitate collaboration while ensuring it meets with tax incentive criteria.

5. “Unit of account” for Sect. 41 business components

A critical and complex issue is the determination of the unit of account for the purpose of distinguishing between Section 41 business components and Section 174 products. This distinction between the two categories impacts whether expenditures are eligible for R&D tax credits, because it defines the scope of what constitutes a separate and distinct component of research or a new or improved product. Better guidelines are needed to assist companies in identifying the appropriate unit of account, considering the details of technological advancements and the integration of components into comprehensive systems or solutions.

While the United States government strives to be the in the world and provides ways to encourage innovation, for example, by creating tax incentives to help businesses offset the cost of innovation. Over the years, however, some of these regulations — including newer or updated rules — have left businesses at times trying to figure out how best to take advantage of these tax credits.

Now, companies are eagerly anticipating the additional clarification and guidance from the IRS on R&D tax incentives over the coming months. As policymakers work to refine these regulations, it is imperative that they engage with business and tax advisory communities to develop practical, forward-looking guidance that accommodates the complexities of modern R&D practices.

The complexity and confusion are only compounded by pending legislation. On January 31,  was passed by the U.S. House of Representatives, by a vote of 357-70. A portion of this bill includes the repeal of Section 174; however, the likelihood of its passage is slim.

At the base of all businesses is innovation and growth strategies; for most companies, R&D is their bedrock. In the United States, to help spawn innovation as part of the , the Research & Experimentation Tax Credit was introduced. Although it was initially supposed to last three years as a specific incentive to encourage companies to invest in R&D, Congress recognized its value in helping businesses create more products and services.

However, it was quickly realized that this tax code made calculations for R&D complicated, especially for small businesses, which led the government to create other iterations of tax codes in order to help clarify the situation. However, not until 2017 and the enactment of Section 174 of the TCJA has there been such a comprehensive change to R&D accounting.

Indeed, before the TCJA’s enactment, businesses deducted the total amount of R&D expenditures as an expense in the . Beginning in 2022, all costs related to R&D must now be amortized over five years for US-based companies or 15 years for non-US companies.

Critical components of R&D under Section 174

The definition of research and development or experimental expenditures is quite broad, making it a challenge for most businesses to determine how to categorize or re-categorize expenses that might be related to research.

However, in September 2023, the Internal Revenue Service provided more guidance that , including the definition of software and the treatment of research performed under contract. Some of these issues included:

Technological information — Technology or software companies may have a greater challenge than some as they sort through the complexities of understanding that all expenses, in theory, incurred in connection with software development must now be amortized. Many technology and software companies will face significant increases in their taxable income because they are no longer allowed to deduct certain expenses.

Business component — For any research related to or one used to improve on an existing function (such as a software update), it must be proved that the update will increase the product or service performance, make it more reliable, and in general increase its quality.

Process of experimentation — The activities must involve a process of experimentation. This means there should be an evaluative process to identify and consider alternatives to achieve a result.  must be technological in nature and must fundamentally rely on principles of physical or biological sciences, engineering, or computer science.

Elimination of uncertainty — Companies will have to document and report the purpose of the research. It must show that the research must eliminate uncertainty concerning a product’s development or improvement. This includes uncertainty about the appropriate design of a product or process.

Exclusions from Section 174

It is worth noting what situations or conditions are not covered or are explicitly excluded from the definition of R&D for the Section 174 tax benefit. These exclusions include:

• • • market research, advertising, and sales promotions;
    • research after commercial production of a product has begun;
    • quality-control testing;
    • research funded by another party (in which the taxpayer does not retain substantial rights); and
    • research conducted outside of the United States.

For businesses, the ability to deduct R&D expenditures under Section 174 can significantly reduce taxable income. Section 174 requires companies to document their R&D activities carefully and ensure that expenditures qualify for the specific deductions. This includes maintaining records that demonstrate how the expenses directly relate to qualified research activities. Not surprisingly, the expansive nature of this kind of work requires that corporate tax departments do their best to leverage technology to ensure proper compliance with the tax code.

Given this, it is not surprising that , a group of chief financial officers reported that they weren’t confident that their companies were taking full advantage of all the R&D credits to which the companies were entitled. The reason cited was the difficulty in accessing specific information that would help support proper claims of Section 174 qualification.

In 2022, the went into effect. as part of the Internal Revenue Code (IRC), Section 174 was created to eliminate uncertainty in tax accounting treatment of research and experimental development (R&E, or more popularly, R&D) expenditures and to simply encourage research and developmental experimentation as to way to grow innovation.

Section 174 allows businesses to either deduct or amortize certain R&D costs. Deductions can be made in the year in which they are paid or incurred, or they can be amortized over a period of not less than 60 months, beginning with the month in which the taxpayer first realizes benefits from the expenditures. Below are five things to know now about the updates to Section 174.

1. Which entities are subjected to Section 174 capitalization?

In short, Section 174 applies to any taxpaying entity that incurs qualifying R&D costs independent of specific industry or business size. Specifically, there are several that are impacted, including:

• • • Corporations — Regardless of size, once corporations have incurred qualifying research and development costs;
    • Small businesses including startups — Regardless of current profitability status, small businesses and startups that are heavily invested in R&D may capitalize or amortize their research expenses;
    • Sole proprietorships, partnerships, and LLCs — Also, these entities can take advantage of Section 174 if they have qualifying R&D expenses; and
    • Past-through entities including S-corporations — These too can utilize Section 174 for eligible cost associated with R&D, and the R&D credits can be passed through partners, individual shareholders, or members.

2. What qualifies? What are the kinds of costs subject to Section 174 capitalization?

There are several categories of expenses that can be subject to Section 174 capitalization, including:

• • • Salaries and wages — The salaries and wages of employees who conducting or directly supervising or supporting research activities can be capitalized;
    • Supplies and materials — The cost associated with supplies used in the research process can be capitalized, including anything from lab equipment to the software required for the research;
    • Patent costs — The cost associated with obtaining patents for a product or process developed through research activities can be capitalized;
    • Overhead expenses — There are certain indirect expenses that can be allocated to research activities, including utilities for a research lab or depreciation on research equipment; and
    • Contract research expenses — If a third party is used to conduct the research on a company’s behalf, the cost can be capitalized.

3. What kinds of items are excluded from Section 174 deductions?

Not all R&D expenses can be deducted under Section 174. For example, costs for land or depreciable properties are not deductible. Additionally, costs associated with research conducted after the beginning of commercial production, marketing research, quality control, and funded research (such as research funded by any grant, contract, or otherwise by another person or governmental entity) are generally excluded.

4. What is considered R&D as defined by Section 174?

For tax purposes, the following from the Internal Revenue Service must be met in order to qualify for R&D credit:

• • • Business purpose — The research must be intended to benefit a business component, which can be any product, process, computer software, technique, formula, or invention that is to be held for sale, lease, license, or use by the company in a trade or business of the company.
    • Technological in nature — The business component’s development must be based on a hard science, such as engineering, physics, chemistry, the life or biological sciences, engineering, or computer sciences.
    • Elimination of uncertainty — The activity must be intended to discover information that would eliminate uncertainty about the development or improve of a product or process.
    • Process of experimentation — The business must evaluate multiple design alternatives or have employed a systematic trial-and-error approach to overcome the technological uncertainty.

5. Which states have conformity to Section 174?

Companies will have to check with the individual state in which they are filling in to determine if that particular state has conformed. to the IRC Section on a rolling basis or a static basic. A state that conforms on a rolling basis means it will automatically adopt any changes to the federal tax code as those changes occur. Some states that conform on a rolling basis include Illinois, New Jersey, New York, and Pennsylvania.

States that conform on a static basis adopt the federal tax code as of a specific date and do not automatically incorporate subsequent changes. Some static states include Florida, Georgia, Virginia, and North Carolina. There are some states that have selective conformity (this means they adopt selective portions of the IRC), including Arkansas, Colorado, and Oregon.

It is worthwhile to note that levels of conformity can vary by state and may be subject to specific adjustments, additions, or exceptions based on the individual state’s tax laws.