For three tax years, a startup could spend $2M building its product, lose money on a cash basis, and still owe the IRS a real check — because the tax code required that $2M to be spread across five years of deductions instead of one. That rule is gone for most companies now, reversed by a 2025 law, but it left behind a retroactive-filing window that already closed and a coordination rule with the R&D tax credit that catches founders who assume “deductible again” means “simple again.”
The One-Line Version
| 2022–2024 (TCJA capitalization rule) | 2025 onward (OBBBA, new §174A) | |
|---|---|---|
| Domestic R&D costs | Capitalized, amortized over 5 years | Deducted immediately, in full |
| Foreign R&D costs | Capitalized, amortized over 15 years | Still capitalized, amortized over 15 years |
| Who it hit hardest | Pre-profit, R&D-heavy startups (software especially) | N/A — going forward, the deduction is back |
| Small-business retroactive fix | N/A | Amend 2022–2024 returns, if ≤$31M average gross receipts — window closed July 6, 2026 |
| Everyone else’s relief | N/A | Deduct the remaining unamortized 2022–2024 balance in 2025, or split it across 2025–2026 |
How We Got Here: the 2022 Capitalization Trap
Section 174 of the tax code let businesses deduct research and experimental expenditures in the year they were paid, going back decades. The 2017 Tax Cuts and Jobs Act changed that — but deferred the change, so almost nobody felt it until it actually arrived. For tax years beginning after December 31, 2021, the TCJA required domestic research costs to be capitalized and amortized over 5 years (15 years for research conducted outside the U.S.), rather than deducted immediately (26 U.S.C. §174, as amended by the TCJA).
The effect landed hardest on exactly the companies least able to absorb it: venture-backed startups whose biggest cost is engineering salaries, which count as research expenditures under Section 174’s broad definition. A company that spent everything it raised on building its product could show a loss on its income statement and still owe federal income tax, because the tax code no longer recognized most of that spending as a current-year deduction — it recognized one-fifth of it. Software development costs were explicitly swept into this treatment, which is what made the rule a startup-specific problem rather than a general R&D-industry one.
What Changed on July 4, 2025
The One Big Beautiful Bill Act (OBBBA) created a new section, IRC §174A, which restores immediate deductibility for domestic research or experimental expenditures, for tax years beginning after December 31, 2024 (26 U.S.C. §174A). Taxpayers can also elect instead to capitalize and amortize domestic costs over a period of their choosing, as long as it’s at least 60 months — a choice that matters mainly for companies trying to smooth taxable income rather than minimize it in the near term.
Foreign research costs did not get the same relief. They remain under the original Section 174, capitalized and amortized over 15 years. A company that moved R&D offshore to control costs is now the one group still carrying the capitalization burden the 2022 rule imposed on everyone.
The IRS followed with Revenue Procedure 2025-28 (released August 28, 2025), which lays out the automatic accounting-method-change procedures for adopting §174A going forward and for unwinding the 2022–2024 capitalization.
The Small-Business Retroactive Election — Already Closed
Taxpayers with average annual gross receipts of $31 million or less (measured for the first taxable year beginning after December 31, 2024) could elect to apply §174A retroactively, amending returns for tax years beginning after December 31, 2021 — in practice, 2022, 2023, and 2024 — to claim the deduction they’d been denied and generate a refund.
That election had a hard deadline: one year from the OBBBA’s enactment date, July 4, 2025. July 4, 2026 fell on a Saturday, which pushed the practical filing deadline to the next business day, July 6, 2026 — three months before this piece was written. If your company qualified and didn’t file amended returns by then, that specific retroactive refund opportunity is gone; the deduction itself is still available going forward from 2025.
The Catch-Up Option for Everyone Else
Companies that don’t qualify for the small-business retroactive election — or qualify but never had capitalized domestic R&D to amend in the first place — get a different, still-live mechanism: whatever unamortized balance remains from 2022–2024 domestic research costs can be deducted either in full in the 2025 tax year, or split across the 2025 and 2026 tax years, at the taxpayer’s election. For a calendar-year filer on extension, the 2025 return isn’t due until mid-October 2026, which means this choice is still an open, live decision for a meaningful slice of companies reading this today, not a historical one like the amend window above.
The Part Most Founders Miss: Section 280C
Section 174A doesn’t operate in isolation from the R&D tax credit (Section 41). Under amended Section 280C(c)(1), a company that claims the federal R&D tax credit must reduce its Section 174A deduction by the exact dollar amount of the credit claimed — the tax code’s standing rule against claiming a full deduction and a full credit on the same dollar of spending twice.
There’s a way around the haircut, but it’s an election, not a default: under Section 280C(c)(3), a company can instead choose to claim a reduced R&D credit — the gross credit minus the product of the credit and the top corporate tax rate — in exchange for keeping the full, unreduced §174A deduction. Which option nets out better depends on the company’s specific credit size and tax position, which is exactly the kind of year-specific math a tax preparer should run before the return is filed, not after. Missing the election entirely defaults to the first option — a reduced deduction — whether or not that was the better outcome for the company.
A Worked Example
Say a startup spends $3M on qualifying domestic R&D (mostly engineering salaries) in 2026, and separately qualifies for a $200,000 federal R&D tax credit under Section 41.
- Without any Section 280C election: the company deducts $3M − $200,000 = $2.8M under §174A, and separately claims the full $200,000 credit.
- With the Section 280C(c)(3) election: the company deducts the full $3M, and claims a reduced credit of $200,000 minus ($200,000 × 21% corporate rate) = $158,000.
Which is better depends on the company’s marginal tax rate and how much the deduction itself is worth at that rate — the kind of comparison that takes an actual return, not a blog post, to settle, but worth flagging to whoever prepares the return before the default applies by omission.
Common Mistakes
- Not realizing the small-business amend window already closed. A company that qualified under the $31M gross-receipts test and never filed amended 2022–2024 returns by July 6, 2026 has lost that specific refund opportunity — the going-forward deduction is unaffected, but the retroactive one is gone.
- Treating software development costs as outside Section 174’s scope. They aren’t — software development costs are explicitly treated as research expenditures under the statute, which is exactly why this rule hit software-first startups harder than almost any other category of company.
- Forgetting the foreign-R&D carve-out. A company that offshored part of its engineering team to cut costs may be surprised to learn that specific spending is still capitalized over 15 years under the unchanged original Section 174 — the 2025 relief didn’t reach it.
- Defaulting into the Section 280C(c)(1) deduction reduction without checking whether the (c)(3) reduced-credit election nets out better. The election isn’t automatic, and missing the filing deadline for it locks in whichever outcome the default produces.
- Assuming this is settled law with no more moving parts. Rev. Proc. 2025-28 covers the accounting-method mechanics, but implementation questions (state conformity in particular — not every state has adopted §174A on the same timeline as the federal change) are still being worked out company by company.
FAQ
Does this affect the R&D tax credit itself, or just the deduction?
Both are still separate benefits — the credit under Section 41 wasn’t repealed or changed in size by OBBBA. What changed is the coordination rule: claiming the credit now interacts with the §174A deduction through Section 280C, the same way it always has, just against a deduction that’s immediate again instead of amortized.
I missed the small-business amend deadline. Is there any other way to get the 2022–2024 deduction?
Not retroactively as a refund. You can still use the separate catch-up mechanism available to everyone — deducting the remaining unamortized 2022–2024 domestic balance in 2025 or split across 2025–2026 — but that’s a smaller benefit than a full retroactive refund would have been, since some of the amortization has already been claimed in those earlier years.
Does this apply to companies outside the U.S., or only domestic ones?
The immediate-expensing relief under §174A applies specifically to domestic research or experimental expenditures — generally, R&D performed within the United States. A U.S. company with an engineering team based abroad still capitalizes that portion of its spending over 15 years under the original, unchanged Section 174.
Is this change permanent, or does it expire like other TCJA provisions?
As enacted, §174A has no scheduled sunset — it’s written as a permanent change to the Internal Revenue Code, unlike several individual-side TCJA provisions that were extended with expiration dates in the same bill.
Who actually decides whether we make the Section 280C(c)(3) election?
It’s made on the originally filed tax return (there are narrow exceptions for superseding returns), so it needs to be addressed before filing, in coordination between whoever is computing the R&D credit and whoever is preparing the return — not as an afterthought once the numbers are already in.
None of this replaces running your company’s actual numbers with a tax preparer who handles the R&D credit regularly — the §280C election alone can swing a return by a meaningful amount, and state conformity varies enough that a multi-state company needs that checked jurisdiction by jurisdiction. Section 174A interacts directly with how a company prices its stock option grants and structures its federal tax exposure more broadly — a company burning cash on R&D and worried about a tax bill on paper losses is usually also the kind of company that should be checking its quarterly estimated tax math at the same time. Barbara Weltman’s J.K. Lasser’s Small Business Taxes 2026 is a reasonable annual reference for keeping up with changes like this one as they land. For more on structuring founder finances deliberately instead of by default, see the finance section on FutureSharks.
