Taxand USA summarises the major features of the final IUS regulations and highlights how taxpayers can take advantage of the revised guidance to strengthen their R&D credit documentation.
With the issuance of Treasury Decision (TD) 9786 on 4 October 2016, taxpayers at long last have the final internal use software (IUS) regulations that they have so patiently awaited since 1986. Consistent with proposed regulations issued in early 2015, the final IUS regulations broaden the scope of software development activities that are eligible under the general definition of R&D.
The road to final IUS regulations has been a long and winding one, with numerous twists, turns and dead ends. The Tax Reform Act of 1986 established that software developed primarily for a taxpayer’s internal use must meet a higher threshold to qualify for the Internal Revenue Code (IRC) Section 41 research credit. However, no clear guidance has been available to establish the definition of IUS or to determine what the higher threshold entailed.
IUS issues have been particularly confusing over the last 15 years, as taxpayers have been forced to choose between a set of final regulations issued in 2001 (TD 8930), which were later withdrawn, and a set of proposed regulations that reserved the IUS section for future guidance. This future guidance was finally provided on 20 January 2015, when proposed IUS regulations were issued (REG-153656-03) and taxpayers were given a new set of IUS concepts by Treasury and the IRS.
Discover more: It’s time to take a closer look at your software development activities
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The final IUS regulations are a welcome development for most taxpayers claiming software development expenses for the research credit. The final regulations take a more modern view of software development, which broadens the range of software systems that are likely to qualify. This broadening also brings more complexity and introduces new concepts, such as dual function software, third party subsets, and third party interactions, with which taxpayers will need to quickly become acquainted.
