Unamortized research costs and loss corporations

Executive summary:

How unamortized section 174 costs affect section 382’s limitation calculation

The Tax Cuts and Jobs Act of 2017 (TCJA) amended section 174 for tax years beginning after December 31, 2021. Under the amended provision, taxpayers may no longer immediately deduct specified research and experimental expenditures but must instead charge them to a capital account and amortize them over a five-year (or fifteen-year) period. Visit our resource center to find various issues relating to this change: Section 174: Take action on R&D expenditures (rsmus.com).

The new section 174 capitalization rules can impact taxpayers in numerous ways. One such area of interaction is the application of the section 382(h) net unrealized built-in gain and loss rules to unamortized section 174 costs that arise in a pre-change period. Corporate taxpayers that undergo a section 382 ownership change and that have unamortized section 174 costs must consider whether and to what extent (i) the section 174 costs serve to increase or decrease the taxpayer’s annual section 382 limitation for recognized built-in gains (RBIG) and (ii) whether the unamortized section 174 costs constitute a recognized built-in loss (RBIL).

Barring Congressional action on section 174, many taxpayers that underwent an ownership change in 2022 or that will undergo an ownership change in future years will find themselves with tax basis in unamortized section 174 costs. This article, as published in Tax Analysts’ Federal Tax Notes, addresses the interplay of this unamortized tax basis with the safe harbor methods for determining NUBIG/NUBIL and RBIG/RBIL under the section 338 and section 1374 approaches of Notice 2003-65.

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