As more and more industries turn to the Internet as a source to reach their consumers, the Internal Revenue Service (IRS) is making the research and development (R&D) tax credit more available. The IRS recently issued proposed regulations that would expand the amount of software projects eligible for the credit. Many of the online shopping and banking websites that were once considered "internal use software" will now be eligible for the R&D tax credit.
Costs used to develop internal use software will remain ineligible for the R&D tax credit. The internal use software will now be defined as software developed primarily for the use of day-to-day operations, human resources and financial management. Conversely, software that will be eligible as non-internal use is:
Examples of these would include internet services such as online purchases, banking, tracking inventory and accessibility of data.
The timing of the effective date of the proposed rules could cause issues for taxpayers. As the proposed regulations currently stand, the rules would take effect from the very date they are finalized. This would mean any company under audit could see the very same software treated as internal use in some years and not treated as internal use in years going forward. While not in the current proposed regulations, the ability to retroactively utilize the rules for the R&D tax credit would be favorable for taxpayers.