Section 174A is the part of the tax code, added by Public Law 119-21 on July 4, 2025, that lets US companies deduct domestic research and experimental (R&E) expenditures, including software development, in the year they pay them. It applies to amounts paid or incurred in tax years beginning after December 31, 2024. Research performed outside the United States did not get the same treatment: it still has to be capitalized and amortized over 15 years under Section 174.
For a SaaS company, R&E is mostly engineering payroll and development contractors, so this is one of its largest tax items. Many pages that rank for "section 174" still describe the 2022 rule as current. This guide covers what changed, the 2022-2024 catch-up choices, the offshore trap, the R&D credit, and what it all does to cash taxes and runway.
This is not tax advice. The rules below come from the statute and IRS guidance as of October 2026, but how they apply depends on your entity, tax year, state and filing history. Confirm every decision with your CPA.
What changed, and when
| Period | Domestic R&E (incl. US software development) | Foreign R&E |
|---|---|---|
| Tax years beginning before Jan 1, 2022 | Deductible in the year paid (or optional amortization) | Deductible in the year paid |
| Tax years beginning after Dec 31, 2021 and before Jan 1, 2025 (TCJA rule) | Capitalized, amortized over 5 years from the midpoint of the year | Capitalized, amortized over 15 years from the midpoint of the year |
| Tax years beginning after Dec 31, 2024 (Section 174A) | Deductible in the year paid, or elect to amortize over at least 60 months | Still capitalized, 15 years from the midpoint of the year |
The 2017 Tax Cuts and Jobs Act (TCJA) rewrote Section 174 so that, for tax years beginning after December 31, 2021, R&E costs had to be capitalized and amortized ratably over 5 years for domestic research or 15 years for foreign research, starting at the midpoint of the year (Rev. Proc. 2025-28, section 2.02). The midpoint convention meant only 10% of a year's domestic spend was deductible in that first year.
Public Law 119-21 (the "One Big Beautiful Bill Act"), section 70302, added 26 U.S.C. 174A. Its core sentence: "there shall be allowed as a deduction any domestic research or experimental expenditures which are paid or incurred by the taxpayer during the taxable year." Section 174 itself was narrowed to foreign research only. The new section has no expiry date in its text, so it is not a temporary pause, whatever some older articles say.
Software development counts as R&E
Both sections keep the same sentence: "any amount paid or incurred in connection with the development of any software shall be treated as a research or experimental expenditure" (174A(d)(3)). For a SaaS company that usually means developer salaries and payroll taxes, development contractors, and the share of overhead tied to development.
The election to amortize anyway
Section 174A(c) lets you choose to capitalize domestic R&E and amortize it "ratably over such period of not less than 60 months as may be selected by the taxpayer," starting in the month you first realize benefits. You make the election on a timely filed original return (including extensions) with a statement headed "FILED PURSUANT TO SECTION 6.02 OF REV. PROC. 2025-28," and it sticks for later years unless the IRS consents to a change. Few startups will want it. It can make sense if an immediate deduction would only create losses you cannot use for years. That is a question for your CPA.
Domestic vs foreign: the offshore trap
"Foreign research" means "any research conducted outside the United States, the Commonwealth of Puerto Rico, or any possession of the United States" (26 U.S.C. 41(d)(4)(F)). The test is where the research is done, not where the developer's employer or invoice sits. Many SaaS teams have engineers in Eastern Europe, Latin America or India, hired directly, through contractors or through an employer of record. Those costs are likely to be foreign R&E, so for them nothing changed in 2025. They are still amortized "ratably over the 15-year period beginning with the midpoint of the taxable year" (26 U.S.C. 174(a)).
Under the 15-year midpoint convention you deduct 1/30 of the spend in year one, 1/15 a year for the next 14 years, and the last 1/30 in year sixteen. Take $900,000 of offshore development in one year, at the 21% federal corporate rate:
| Same $900,000 done in the US | $900,000 done offshore | |
|---|---|---|
| Year-one deduction | $900,000 | $30,000 |
| Extra taxable income in year one | - | $870,000 |
| Extra federal tax in year one | - | $182,700 |
| Present value of the deductions at 10% | $900,000 | $479,183 (53.2%) |
| Present-value tax cost of the 15-year schedule | - | $88,372 |
Put another way: each $100,000 of US development saves about $21,000 of federal tax in the year you spend it, while $100,000 offshore saves about $700. Over 15 years you get the deductions back, so this is a timing cost, not a permanent one. But at a 10% discount rate the delay costs about 9.8% of the offshore spend, which belongs in any comparison of an offshore hire against a US hire. Our payroll cost calculator covers the employer side of that comparison.
Two more details make foreign R&E stickier. Since the 2025 law, if you dispose of, retire or abandon the property the foreign research relates to, you get no write-off: amortization simply continues (174(d), for property disposed of after May 12, 2025). And foreign R&E does not get the 2022 to 2024 catch-up described below, which covers domestic costs only.
Costs you capitalized in 2022 to 2024
If you followed the TCJA rule, you have a balance of domestic R&E from 2022, 2023 and 2024 that you have not yet deducted. The law gives three ways to handle it (section 70302(f)(2), and Grant Thornton's summary):
- Keep amortizing on the original 5-year schedule. This is what happens if you make no election.
- Deduct the whole remaining amount in your first tax year beginning after December 31, 2024 (2025 for a calendar-year company).
- Deduct it ratably over two years, starting with that first year (2025 and 2026).
Options 2 and 3 are treated as an automatic change in accounting method, applied on a cut-off basis with no section 481(a) adjustment. The IRS procedure is in section 7.02 of Rev. Proc. 2025-23 as modified by Rev. Proc. 2025-28, which lets you attach a statement instead of filing Form 3115. You make the choice on the return for that first year. For a calendar-year C corporation that 2025 Form 1120 was due April 15, 2026, or October 15, 2026 with an extension, so for most calendar-year companies the choice is already on a filed return. Fiscal-year companies, and anyone unsure what was filed, should check with their preparer. The total deducted is the same under all three options; only the timing changes, and timing matters when it pushes you into a loss (see the worked example).
The small-business retroactive election (closed)
Smaller companies had one more option: apply 174A back to tax years beginning after December 31, 2021 and amend their 2022 to 2024 returns for refunds. Eligibility was the section 448(c) gross receipts test for the first tax year beginning after December 31, 2024: average annual gross receipts over the prior three years of "$25,000,000 or less (adjusted for inflation)," which Rev. Proc. 2025-28 puts at $31,000,000 for a tax year beginning in 2025. The deadline was one year after enactment. Because July 4, 2026 fell on a Saturday, the election "must be made by Monday, July 6, 2026" (Rev. Proc. 2025-28, section 3). That window closed on July 6, 2026. If you filed amended returns before then, track the refunds in your cash forecast; if you did not, the catch-up options above are what remain.
State taxes may not follow
States decide for themselves whether to adopt federal changes. Some have adopted 174A, some still follow the TCJA version of Section 174, and some follow older rules or offer their own elections (Grant Thornton). So your state taxable income can differ from your federal taxable income by the same R&E amounts, in either direction. Ask your CPA how each state you file in treats 2025 R&E before you model state cash taxes.
How it interacts with the R&D credit
The research credit under Section 41 is a separate benefit, claimed on Form 6765. From 2025 the two are coordinated through a rewritten Section 280C(c): your domestic R&E deduction (or capitalized amount) "shall be reduced by the amount of the credit allowed under section 41(a)." Alternatively, you can elect a reduced credit on a timely filed return: the credit minus the credit multiplied by the top corporate rate (21%). The election is irrevocable for that year.
For a profitable C corporation the two routes come out close. With a $100,000 credit, cutting the deduction by $100,000 costs $21,000 of tax, so the net benefit is $79,000; the reduced-credit election also gives $79,000. They diverge when you have losses, because a smaller deduction then shrinks an NOL rather than costing tax today. That is why the choice is worth an explicit conversation with your preparer.
Early-stage companies should also know about the payroll-tax version of the credit. A qualified small business (gross receipts under $5 million for the year and no gross receipts before the 5-year period ending with that year, per 41(h)(3)) can elect to apply up to $500,000 a year of research credit against payroll taxes for tax years beginning after December 31, 2022 (IRS). For a pre-revenue or loss-making startup, that is usually worth more in cash than anything in 174A.
Worked example: cash taxes and runway
All numbers below were recalculated in a script. Assumptions: a calendar-year US C corporation, federal tax at 21% only (no state tax, no credits), $3,000,000 of R&E every year from 2022 to 2026, of which 30% ($900,000) is done offshore and 70% ($2,100,000) in the US. Losses carry forward and can offset up to 80% of later taxable income, which is the limit for post-2017 NOLs under Section 172(a)(2).
The balance carried into 2025
Under the 5-year midpoint schedule (10%, then 20% for four years, then 10%), by January 1, 2025 the company has deducted 50% of its 2022 domestic spend, 30% of 2023 and 10% of 2024. The remaining domestic balance is $1,050,000 + $1,470,000 + $1,890,000 = $4,410,000.
Company A: profitable ($1.5M book pre-tax income)
Book pre-tax income is $1,500,000 a year with R&E expensed. Taxable income is book income plus R&E spent minus R&E deducted.
| Treatment | 2025 R&E deducted | 2025 taxable income | 2025 federal tax | 2026 federal tax | 2025-26 total |
|---|---|---|---|---|---|
| Old TCJA rule (if nothing had changed) | $1,680,000 | $2,820,000 | $592,200 | $491,400 | $1,083,600 |
| 174A, keep amortizing the 2022-24 balance | $3,570,000 | $930,000 | $195,300 | $182,700 | $378,000 |
| 174A, deduct the whole balance in 2025 | $6,720,000 | -$2,220,000 (NOL) | $0 | $89,460 | $89,460 |
| 174A, split the balance over 2025 and 2026 | $4,515,000 | -$15,000 (NOL) | $0 | $0 | $0 |
How the rows are built. Under the old rule, 2025 domestic deductions are 10% of the 2025 spend plus 20% each of the 2022, 2023 and 2024 spend, the equivalent of 70% of one year ($1,470,000), plus 7/30 of one year's foreign spend ($210,000). Under 174A with no election, the company deducts all $2,100,000 of 2025 US spend, keeps deducting $1,260,000 from the 2022 to 2024 balance, and still amortizes $210,000 of foreign spend. That is more deduction than cash spent, which is why 2025 taxable income falls below book income.
Against the old rule, 174A cuts 2025-26 federal cash taxes by $705,600 even with no election, and by up to $1,083,600 with the two-year split. Note what deducting everything in 2025 did: it created a $2,220,000 NOL, and because an NOL can only offset 80% of 2026 taxable income, the company still paid $89,460 in 2026. Splitting the balance kept both years at roughly zero. Across 2025 to 2029 all three 174A choices produce the same total tax ($1,247,400) in this example; they differ in when the cash goes out.
The 30% offshore share still costs money every year: in 2026 the company deducts only $270,000 of its accumulated foreign spend against $900,000 paid, which adds $630,000 to taxable income, or $132,300 of federal tax, compared with doing the same work in the US.
Company B: near break-even, and why runway moved
Now a company losing $300,000 a year on its books ($25,000 a month of burn), with the same R&E profile and no NOLs left entering 2025 (the old rule had made it taxable in earlier years). Under the old rule, 2025 taxable income would have been $1,020,000 and federal tax $214,200, despite the book loss. Cash burn including tax: $42,850 a month. Under 174A with no election it has a 2025 tax loss of $870,000 and pays nothing, so burn goes back to $25,000 a month.
With $1,500,000 in the bank, that is the difference between 35.0 months of runway and 60.0 months. That is why cash taxes deserve their own line in a financial model instead of sitting in "other". If you track burn multiple, the tax line goes into net burn too.
Pre-profit startups: little cash effect
A startup that loses money on a tax basis under either rule pays no federal income tax either way, so 174A changes its cash position very little. The larger deduction mostly becomes a larger NOL. That NOL has value later, but only once there is taxable income to absorb it, and then only up to 80% of that income each year, so its worth depends on when you expect to turn profitable. The exception is a company like B, or a fast-growing one where the 5-year rule had pushed it into taxable income while it burned cash. In 2022, a company with $2,000,000 revenue, $500,000 of other costs and $3,000,000 of first-year US development had a $1,500,000 book loss but $1,200,000 of taxable income under the TCJA rule, about $252,000 of federal tax. Under 174A that same year would show a $1,500,000 tax loss.
What to put in your model
- Split R&E by location. Tag engineering headcount and contractors as US or offshore, because the tax treatment differs by an order of magnitude in year one. A headcount plan by location gives you both lines.
- Model cash tax separately from book tax. Book expense for development follows GAAP (see capex in software development for what you can capitalize on the books); cash tax follows Section 174A and 174. They are different schedules.
- Carry the foreign amortization schedule forward. Each year's offshore spend creates 16 years of deductions. A growing offshore team means the deduction always lags the spend.
- Record the 2022-24 balance and the choice made on your 2025 return, so the 2026 deduction is in the forecast, plus any refunds from amended returns filed before July 6, 2026.
FAQ
Was Section 174 repealed?
Not entirely. For tax years beginning after December 31, 2024, domestic research and software development moved to new Section 174A and is deductible in the year paid. Section 174 still exists and now covers only foreign research, which is amortized over 15 years.
What is the difference between Section 174 and Section 174A?
Section 174A covers domestic R&E and allows an immediate deduction, with an optional election to amortize over at least 60 months. Section 174 covers foreign R&E (research conducted outside the US, Puerto Rico and US possessions) and requires 15-year amortization from the midpoint of the year.
Is Section 174A permanent?
The text of 174A contains no expiry date. Congress can always change the law again, but unlike many tax provisions it was not written to sunset.
Do software developer salaries count as Section 174A expenses?
Yes. Amounts paid in connection with developing software are treated as research or experimental expenditures under both sections. Salaries of engineers doing that work in the US are domestic R&E; the same work done abroad is foreign R&E.
Does Section 174 apply to offshore contractors?
Where the research is conducted decides domestic versus foreign, so development work performed outside the US is generally foreign R&E and stays on the 15-year schedule. Whether you or the contractor is treated as incurring the cost depends on the contract terms, such as who bears the financial risk and who owns the result. Have your CPA review the contracts.
Can I still amend my 2022-2024 returns to deduct R&D?
Not under the small-business election: it closed on July 6, 2026. Companies that did not use it recover their remaining 2022-24 domestic balance through the 2025 catch-up options (all in the first year beginning after 2024, over two years, or on the original schedule).
How does Section 174A affect the R&D tax credit?
From 2025, your domestic R&E deduction is reduced by the research credit you claim, unless you elect a reduced credit (the credit minus 21% of it) on a timely return. For many profitable companies the net result is similar; it differs when you have losses.