U.S. R&D Deduction - 5 Things You Should Know

The permanent immediate expensing of U.S. R&D costs under the One Big Beautiful Bill Act (the “Bill”) provides a significant incentive for industries with high research and development expenditures—particularly technology (including software, fintech, and AI), life sciences, and advanced manufacturing. It also benefits their investors.

This provision may influence decisions about where to locate R&D activities, making the U.S. a more competitive environment for innovation by reducing the tax burden on research investments.

High-R&D industries benefit from accelerated tax deductions, which improve cash flow and reduce effective tax rates—allowing for quicker reinvestment in innovation and long-term projects. The certainty of permanent expensing also supports better long-term planning.

Here are five key things you should know about the U.S. R&D Deduction:

1. Permanent & Immediate Expensing

The Bill permanently restores the ability for businesses to immediately deduct domestic R&D expenditures in the year they are incurred starting January 1, 2025. This reverses the prior requirement under the TCJA to capitalize and amortize these costs over five years.

Taxpayers may still elect to amortize domestic R&D over at least 60 months (some exclusions apply).

Taxpayers can elect to deduct unamortized domestic R&D paid or incurred in tax years beginning after December 31, 2021 and before January 1, 2025 in first taxable year (2025) or over two taxable years.

2. Retroactive Deduction for Domestic R&D

Eligible companies can elect a one-time, retroactive deduction for any unamortized domestic R&D costs incurred from 2022 through 2024, offering relief for previously capitalized amounts.

There are certain eligibility requirements to be met, including meeting average gross receipts of $31 million or less for the first taxable year beginning after December 31, 2024.

Businesses have one year from the enactment date of the Bill to make this election and are required file amended returns for each affected tax year.

3. Foreign R&D Still Amortized

R&D expenses related to foreign research must still be capitalized and amortized over 15 years. The immediate expensing provision applies only to domestic R&D.

4. No Change to the R&D Tax Credit

The Bill does not alter the eligibility or calculation of the R&D tax credit under IRC Sec. 41. While the timing and amount of qualified research expenditures may change, the credit’s structure remains unchanged.

5. Broad Application with No Industry Exceptions

The expensing provision applies broadly across all industries and types of R&D activities. There are no carve-outs or exceptions for specific sectors.

Overall Incentives

This provision is designed to significantly boost U.S. investment and innovation through several mechanisms:

• Improves cash flow by reducing taxable income and freeing up capital for reinvestment.

• Enhances budget certainty, making it easier to plan for increased R&D spending.

• Simplifies tax compliance by eliminating the need to track and amortize R&D costs over multiple years.

• Lowers the effective tax rate, potentially increasing after-tax profits and shareholder value.

  
  

Additional Considerations

While the benefits are substantial, companies should be aware of several challenges:

• Transition and Retroactivity Issues: Electing a retroactive deduction may require amending prior-year returns (2022–2024) and recalculating taxable income.

  
  

• Accounting Method Changes: Shifting from amortization to immediate expensing constitutes a change in accounting method, requiring the filing of Form 3115 and adherence to procedural guidance.

  
  

• International Tax Coordination: U.S. multinationals and middle-market companies may face uncertainty regarding how U.S. R&D incentives interact with global minimum tax rules (e.g., OECD Pillar 2), potentially affecting their global effective tax rate.

  
  

• State Conformity Issues: Not all states conform to federal tax law changes, which may result in inconsistent treatment of R&D costs and increased compliance complexity.

  
  

• Audit and Documentation Requirements: The IRS may increase scrutiny of R&D expensing claims, especially for amended returns, requiring robust documentation to substantiate qualifying expenditures.

  
  

• Effective Tax Rate Volatility: Immediate expensing can cause significant fluctuations in taxable income and effective tax rates, complicating financial forecasting and tax planning.

  
  

How We Can Help

Companies should evaluate their current R&D strategies, forecasting, and modeling the benefits and costs of adopting changes under the Bill.

At illumina CPA Group, we can support you in this effort to optimize outcomes in planning, streamline the transition, and meet your company’s tax reporting and compliance obligations.

For more information, contact us. 

Disclaimer

The contents of this insight are intended for general information only. illumina CPA Group, Inc. is not, by means of this communication, rendering professional advice or services. Before making any decisions or taking any action that may affect your finances or your business, you should consult a qualified professional adviser.