Section 174 R&D Expensing Is Back: What to Do Now
The Section 174 R&D rules changed with the One Big Beautiful Bill Act (OBBBA), signed into law on July 4, 2025. The law restored immediate expensing for domestic research and development costs through a new Section 174A. Starting with tax years beginning after December 31, 2024, businesses can once again deduct domestic R&D expenditures in full in the year incurred rather than capitalizing and amortizing them over five years. Foreign R&D remains subject to 15-year amortization. The IRS released Revenue Procedure 2025-28 on August 28, 2025 to provide the election mechanics for recovering costs that were already capitalized under the old rules.
As of 2026, this is settled law and not a proposal. Immediate expensing for domestic R&D under Section 174A is permanent with no scheduled sunset, and the transition relief for unamortized 2022 through 2024 balances is governed by Rev. Proc. 2025-28.
Why Section 174 R&D Rules Have Been Complicated Since 2022
Before 2022, the default treatment of research and experimental (R&E) costs under Section 174 was straightforward: most businesses elected to deduct them in full in the year incurred. That made sense because R&D spending tends to benefit the current period and because the immediate deduction improved cash flow and reduced complexity.
The Tax Cuts and Jobs Act (TCJA) changed that. For tax years beginning after December 31, 2021, the TCJA required all R&E expenditures to be capitalized and amortized, not expensed immediately. Domestic R&D costs had to be amortized over 5 years (using a midyear convention, which stretched the effective period to 6 tax years). Foreign R&D costs were amortized over 15 years. There was no exception for small businesses and no election to opt out.
The practical impact was significant. A company spending $2 million per year on domestic R&D could only deduct $200,000 in year one (5-year amortization, half-year convention) instead of the full $2 million. Cash taxes rose sharply. Complexity increased because businesses had to track unamortized balances across multiple tax years. And the mismatch between financial statement treatment (which often expensed R&D immediately under GAAP) and tax treatment added reporting friction.
Congress repeatedly discussed fixing the rule but did not act until the OBBBA.
What Section 174A Changed Under the OBBBA
The OBBBA enacted new Internal Revenue Code Section 174A, which applies to domestic R&E expenditures paid or incurred in tax years beginning after December 31, 2024. Here is how the new regime works.
Domestic R&D: Immediate Expensing as the Default
Under Section 174A, domestic R&E costs are fully deductible in the year incurred. This is the default treatment, and it is permanent with no sunset provision. Businesses do retain an election to capitalize and amortize domestic costs over 60 months if they prefer (for example, a startup with no current taxable income might find amortization more useful), but the immediate deduction is now the standard path.
Foreign R&D: Still Amortized Over 15 Years
The OBBBA did not change the treatment of foreign R&E expenditures. Costs attributable to research conducted outside the United States must still be capitalized and amortized over 15 years under the TCJA rules. Businesses with meaningful offshore R&D programs need to keep tracking those separately and maintaining the TCJA amortization schedules.
Recovering Unamortized Balances from 2022 Through 2024
This is the most consequential planning question for most mid-market businesses right now. If your company capitalized and amortized domestic R&D under the TCJA rules for tax years 2022, 2023, or 2024, you have an unamortized balance sitting on your tax books. The OBBBA and Revenue Procedure 2025-28 provide three options for that balance.
Option 1: Continue the existing amortization schedule. You keep deducting the unamortized balance on the original 5-year (domestic) or 15-year (foreign) amortization schedule. This requires no election and no amended returns. It is the default if you do nothing.
Option 2: Accelerate in 2025 (full recovery in year one). You make an election to deduct the entire remaining unamortized domestic balance in the first tax year beginning after December 31, 2024, which for calendar-year filers is 2025. This is an accounting method change, and the IRS provided streamlined procedures under Rev. Proc. 2025-28 to make it without audit risk.
Option 3: Spread recovery over 2025 and 2026. You elect to deduct the remaining unamortized domestic balance ratably over two tax years: half in 2025 and half in 2026. This option helps manage the effective tax rate if a large one-year deduction would create a net operating loss you cannot fully use.
Special Retroactive Relief for Eligible Small Businesses
For businesses with average annual gross receipts of $31 million or less (measured under Section 448(c) with controlled group aggregation), the OBBBA opened an additional option: amending the 2022, 2023, and 2024 returns to apply immediate expensing retroactively. That amendment window closed on July 6, 2026, so new claims under this provision are no longer available. Businesses that did not act by that deadline should work with their advisors now on the prospective options above.
The Section 174 and Section 41 R&D Credit Interaction
Section 174 and the Section 41 R&D tax credit are separate provisions, but they interact in important ways. Section 41 provides a dollar-for-dollar credit against tax liability for qualified research expenses (QREs), and QREs are a subset of R&E expenditures defined under Section 174.
With immediate expensing restored, businesses can now pair a full current-year deduction with the Section 41 credit on the same expenditures. During 2022 through 2024, the cash value of R&D spending was eroded because the deduction was stretched over five years while the credit remained annual. That mismatch is now corrected.
One technical point matters here: Section 280C(c) requires the Section 174A deduction to be reduced by the amount of any R&D credit claimed under Section 41, unless the taxpayer makes the Section 280C election to reduce the credit by 21% instead and take the full deduction. Which approach is better depends on your tax rate, NOL position, and use of the credit. This is a calculation your tax advisor should run for your specific situation.
Key Planning Steps for Finance Leaders
Given where most mid-market businesses sit heading into fall 2026 planning, here is a practical checklist.
Quantify your unamortized domestic R&D balance. If your company conducted and capitalized domestic R&D in 2022, 2023, or 2024, pull the cumulative amortization schedule and determine what balance remains. That is the deduction at stake.
Model the acceleration options. Compare the after-tax value of Option 1 (continue amortization), Option 2 (accelerate all in 2025), and Option 3 (split across 2025 and 2026). The right answer depends on your 2025 effective tax rate, any existing NOLs, estimated income in 2026, and how you want to manage taxable income across the planning horizon.
Coordinate Section 174A and Section 41. Make sure your R&D credit study and your Section 174A deduction are built on consistent definitions of qualifying costs. Inconsistent treatment is one of the most common errors in this area.
Separate domestic and foreign R&D in your tracking systems. With two different regimes now in place for domestic versus foreign R&D, clean cost segregation between domestic and offshore work is not just good practice but a compliance requirement.
Flag software development costs. Internally developed software costs were historically a gray area under Section 174, and the OBBBA rules carry over the same definitional questions. Get clarity on which software costs qualify as domestic R&E for Section 174A purposes, particularly for companies with offshore development teams.
Engage your CPA on the method change procedures. The acceleration elections under Rev. Proc. 2025-28 are accounting method changes, and the deadlines and filing mechanics vary by situation. Calendar-year filers who filed their 2025 return before September 15, 2025 had a streamlined automatic compliance path. Businesses in other situations need to confirm their specific procedure.
Modus’s advisory team works directly with CFOs and controllers on tax planning decisions like these, including modeling the Section 174A acceleration trade-offs against broader year-end strategy. For businesses still working through the 2025 method change, now is the right time to act before the 2026 return is due.
What About GAAP Financial Reporting?
The OBBBA changes only affect federal income tax treatment. Under GAAP (ASC 730), most R&D costs are still expensed as incurred for financial reporting purposes. Internally developed software is governed separately under ASC 350-40. The new Section 174A rules do not change GAAP accounting.
The practical effect is that for many businesses the book-tax difference in R&D treatment narrows or disappears starting in 2025, which simplifies deferred tax accounting. Businesses that had large deferred tax assets (DTAs) from the TCJA capitalization requirement will see those DTAs draw down as the unamortized balances are deducted. Controllers and outsourced CFOs should review the deferred tax position as part of year-end close to make sure the DTA reversal is correctly reflected.
Modus’s outsourced CFO and advisory engagements include exactly this kind of tax provision coordination, particularly for mid-market businesses that may not have a full-time tax director on staff.
Frequently Asked Questions
What is Section 174A and how does it differ from Section 174?
Section 174 was the original provision governing research and experimental expenditures, most recently amended by the TCJA to require 5-year (domestic) or 15-year (foreign) amortization starting in 2022. Section 174A is a new provision added by the OBBBA, signed July 4, 2025, that restores immediate full expensing for domestic R&E costs for tax years beginning after December 31, 2024. Section 174 (with its 5-year amortization rule) continues to govern the unamortized balances from 2022 through 2024 for businesses that elect to continue the old schedule, and still governs foreign R&D for all years.
When does the Section 174A immediate expensing rule take effect?
Section 174A applies to tax years beginning after December 31, 2024. For most calendar-year businesses, that means the 2025 tax year is the first year with the new immediate expensing default. The change is permanent and does not have a scheduled sunset.
Can we recover R&D costs we already capitalized in 2022, 2023, or 2024?
Yes. The OBBBA gave businesses three options for unamortized domestic R&D balances from those years: continue the original 5-year amortization, accelerate the full remaining balance into 2025, or spread it ratably over 2025 and 2026. Eligible small businesses (average annual gross receipts of $31 million or less) also had an option to amend prior-year returns, but that window closed July 6, 2026. All other businesses still have the acceleration election options available through their 2025 or 2026 tax filings.
Does immediate expensing under Section 174A affect the Section 41 R&D tax credit?
They are separate provisions. Restoring immediate expensing under Section 174A does not eliminate the Section 41 R&D credit. However, Section 280C(c) requires a taxpayer claiming the Section 41 credit to either reduce the Section 174A deduction by the credit amount or make an election to take a reduced credit (by 21%) and preserve the full deduction. The optimal choice depends on your specific tax position and is worth modeling before filing.
Is foreign R&D expensing also restored under the OBBBA?
No. The OBBBA restored immediate expensing only for domestic R&E expenditures. Research conducted outside the United States must still be capitalized and amortized over 15 years under the TCJA rules. Businesses with offshore R&D operations need to continue tracking foreign R&D separately and maintaining the 15-year amortization schedules.
What IRS guidance exists on the OBBBA Section 174 transition rules?
The IRS released Revenue Procedure 2025-28 in August 2025. It covers the election mechanics and accounting method change procedures for both the Section 174A prospective deduction and the acceleration elections for unamortized 2022 through 2024 balances. Businesses that filed their 2025 return on or before September 15, 2025 had an automatic streamlined compliance path. Others should review Rev. Proc. 2025-28 with their tax advisor to determine the correct filing procedure for their situation.
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