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IRS Issues Regulations Regarding ERP Software

01.07.2016

Working on Laptop, business, techIRS Chief Counsel has affirmed the application of the guidance in a 2002 letter ruling (LTR 200236028) regarding the treatment of computer-related costs, both software and hardware (CCA 201549024). Although the LTR may not be used or cited as precedent, taxpayers in effect may rely on the 2002 ruling and on guidance published in Rev. Proc. 2000-50. Considering the growing cost of computer equipment and software in most businesses, the latest LTR from the IRS for the most part is welcomed news.

The 2002 ruling addresses the consequences of the purchase, development and implementation of Enterprise Resource Planning software. ERP software is a business process management software that allows an organization to use a system of integrated applications to manage the business and automate many back office functions related to technology, services and human resources. The IRS issued the following rulings:

  • The cost of purchased ERP software must be capitalized ratably over 36 months under Code Secs. 263(a) and 167(f);
  • Employee training and related costs are deductible under Code Sec. 162;
  • Separately stated computer hardware costs must be depreciated over five years under Code Secs. 263(a) and 168;
  • If the taxpayer is solely responsible for the software project, the costs of machine readable software that are developed by the taxpayer can be deducted as current expenses; and
  • The costs of template selection are installation and modification costs (part of the ERP software purchase) that must be capitalized and amortized over 36 months.

The IRS had indicated back in 2002 that it would issue regulations on these issues, but it did not do so. The LTR does reject outright any extreme taxpayer position that, because of regulations issued in 2004 under Code Sec. 263, the 2002 letter ruling no longer applies and that all software costs can be deducted, rather than being amortized over 36 months. Nevertheless, most businesses are willing to accept the IRS’s renewed position as a good compromise.

Tax Court Reversed on Claiming Ordinary LossIf you have any questions about this ruling, please contact your tax advisor or Cathy Goldsticker, Partner, Tax Services, at 314.983.1274 or cgoldsticker@bswllc.com.

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