On May 18, the Small Business Technology Council (SBTC) hosted a free, public webinar on possible alternatives to using Sec. 174 for SBIR firms, specifically using Sec. 162, which allows for a deduction for “ordinary and necessary business expenses” instead. While using 162 instead of 174 will not be a option for every firm, we hope that it will be for some of you on the webinar, who may not have even been previously aware it was a possibility. Ultimately it will be up to you to decide if this is a workable solution for your company.
Thank you to everyone who participated. Below is the slide deck used by Rick Kleban during the webinar, list of speakers and their company’s website, and other relevant links and resources on Sec. 174 vs 162 tax expensing.
- Jere Glover, SBTC
- Ed Jameson, CPA
- Kenan Ezal, Toyon Research Corporation
- Rick Kleban, The Sycamore Group
Other Links and resources on Sec. 174 vs 162:
- Ed Jameson: Talk to your Tax Preparer About Section 174 & 162
- Bloomberg Tax Article on Sec. 174 vs Sec. 162 Expensing
- WSJ article on Sec. 174 costs to Small High-Tech Businesses
- SBTC Sec. 174 & Sec. 162 Caselaw & Reference Document
Beginning in 2022, major changes made to section 174 of the Internal Revenue Code by the 2017 Tax Cuts and Jobs Act went into effect require businesses to amortize R&D expenses over a five-year period. Previously Section 174 allowed these expenses to be deducted in the year they were incurred. The effect of this change is that beginning in 2022, the cost of performing R&D will be much higher for many firms, and will result in a larger tax burden for many high-tech companies. This will be burdensome for every firm performing R&D work, but especially high-tech small businesses, like those that compete for SBIR and STTR awards. The Wall Street Journal recently published an article on the burdens that the changes to Sec 174 will impose on small innovative firms.
SBTC has been active in the effort to get a fix passed in Congress that would restore the Sec. 174 expensing provision. SBTC is continuing its efforts to get Congress to pass a fix to the Sec. 174 R&D Expensing provision. We have sent a letter signed by 450 small businesses to Congress urging them to pass a fix or extension, and have met with both House Ways and Means Committee and the Senate Finance Committee to share the concerns of Small Businesses. There does seem to be broad bi-partisan support for a fix, but there are political issues that are slowing down the process.
Realistically, however, the odds of anything getting passed in Congress in the short term are small. In the meantime, firms will have to figure out whether to amortize their R&D expenses as per the new Sec. 174 law, or find an alternative. In discussing this issue with several SBIR winning small businesses, we have learned that some firms are utilizing Sec. 162 instead of Sec. 174 for R&D expenses, which allows a deduction for “all the ordinary and necessary expenses paid or incurred during the taxable year”. This may be an alternative for some SBIR firms to deduct their R&D expenses instead of capitalizing them.
While SBTC can’t endorse any specific interpretation regarding taxes and expensing, we wanted to provide small businesses with some information, resources, and background on using Sec. 162 to deduct R&D expenses, instead of Sec. 174. While this won’t be a solution to every small business, it may be to some who aren’t aware of this alternative. We have previously discussed this with SBTC members, but now want to reach out to SBIR firms broadly to share what we know. Ultimately, SBTC can’t offer tax or legal advice, so whether Sec. 162 will work for your firm is a decision each small business will have to make in consultation with your legal and tax experts.