Protect Your Construction Business From Tax Bill Uncertainty Related to R&E Amortization

Since the Tax Relief for American Families and Workers Act of 2024 was failed to pass in the Senate, construction companies should consider that anticipated tax changes may not come to fruition in 2024. Outlined below are actions to consider for preparing your business.

Tax Relief for American Families and Workers Act of 2024 Bill Background

The House of Representatives passed the Tax Relief for American Families and Workers Act of 2024 with an overwhelming bipartisan vote of 357 to 70 on January 31, 2024.

If the bill had successfully passed both chambers of Congress and been signed into law, it would have enacted a four-year repeal of the domestic research and experimentation provision, covering the 2022 to 2025 tax years. This repeal would have allowed construction firms to deduct their research and development expenses in the year they are incurred, rather than amortizing them over five years as required by Section 174 of the Internal Revenue Code, which was established by the Tax Cuts and Jobs Act.

How to Prepare Your Business

Here are the key actions taxpayers should consider taking:

1. Review WIP schedule for projects with research and experimentation activities
2. Assess for any applicable Section 174 R&E expenditures
3. Review 2022 and 2023 filed tax returns
4. Determine the need to file Form 3115
5. Consider R&D Tax Credits to offset the impact of additional tax liability created by 174

Assess for any Applicable Section 174 Expenditures

The Treasury Department and IRS issued Notice 2023-63 and Notice 2024-12 providing guidance clarifying specified research or experimental activities and expenditures under Section 174.

To narrow down the list of projects to assess for Section 174 expenses, look for projects that the company had design & engineering responsibilities on, including:

• Design-build projects
• Design-assist projects
• Dedicated design project components
• Projects that utilized new innovative components.
• Projects that utilized mock-ups or extensive testing and analysis efforts

SRE activities include software development and activities intended to discover information that would eliminate uncertainty concerning the development or improvement of a product or project component.

Examples include:

• Unique energy-efficient features
• Innovative wastewater technologies
• Innovative designs of surfaces and structural components for bridges and roadways
• Site conditions including retaining walls and drainage systems
• Renewable energy infrastructure
• Building foundations, structural members, and mechanical or electrical systems

SRE expenditures generally include all costs incident to the development or improvement of a product and all costs for software development, such as:

• Labor costs, including all elements of compensation other than severance (regular, overtime, vacation, holiday, sick, stock-based comp, payroll taxes, pension costs, employee benefits and payments to a supplemental unemployment benefit plan)
• Materials, supplies, tools and equipment that aren’t depreciable
• Depreciation, amortization or depletion allowances for property used in research
• Patent cost, such as attorney fees in making and perfecting a patent application
• Travel costs
• Operation and management costs for rent, utilities, insurance, taxes, repairs and maintenance costs, security costs, and similar overhead costs with respect to facilities, equipment and other assets used in SRE activities

The IRS noted they’re on track to release proposed regulations in early 2025. Once issued, the public will have a chance to make comments.

Review 2022 and 2023 Tax Returns

The IRS issued Rev. Proc. 2023-11, Rev. Proc. 2024-09, and Rev. Proc. 2024-23 enabling a taxpayer to file a statement in lieu of Form 3115, Application for Change in Accounting Method, with its original tax return for the first taxable year beginning after Dec. 31, 2021, that the Section 174 amortization requirement is effective.

If applicable, the taxpayer needs to confirm if they appropriately started capitalizing and amortizing such costs for the 2022 tax year and confirm if they attached the appropriate statement to effectuate the change of accounting method to the original 2022 tax return.

Determine Need to File Form 3115

Depending on how a taxpayer treated potential Section 174 R&E expenditures on its 2022 and 2023 tax returns, the taxpayer may be required to file a Form 3115.

For example, a taxpayer may need to file Form 3115 to change its method of accounting to rely on the interim guidance provided by Notice 2023-63. Such a change may require a modified Section 481(a) adjustment considering only SRE expenditures paid or incurred after Dec. 31, 2021.

Consider R&D Tax Credits

The Section 174 R&E amortization is required regardless of whether a taxpayer claims the R&D tax credit. However, companies that have Section 174 R&E expenditures have a high likelihood of being eligible for the R&D tax credit, which can help mitigate the potentially negatives effects of Section 174 amortization.

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