IRS Modifies Automatic Consent Procedures for Research Expenses Paid in 2022 or 2023

(Parker Tax Publishing September 2024)

The IRS issued a procedure that modifies Rev. Proc. 2024-23 to modify the procedures under Code Sec. 446 and Reg. Sec. 1.446-1(e) for obtaining automatic consent to change methods of accounting for research or experimental expenditures paid or incurred in tax years beginning after December 31, 2021. Specifically, the procedure modifies the eligibility rules and limited audit protection rules in Rev. Proc. 2024-23 to allow taxpayers to obtain automatic consent to change their method of accounting to comply with Code Sec. 174 or to rely on the interim guidance provided in Notice 2023-63 for tax years beginning in 2022 or 2023. Rev. Proc. 2024-34.

Background

Prior to be being amended by the Tax Cuts and Jobs Act (TCJA), Code Sec. 174 allowed taxpayers to elect to deduct research or experimental expenditures paid or incurred in connection with a trade or business as current expenses, to capitalize and amortize such expenditures over a period of not less than 60 months, or to charge such expenditures to capital account.

Section 13206(a) of the TCJA amended Code Sec. 174. For amounts paid or incurred beginning after December 31, 2021, that meet the definition of specified research or experimental (SRE) expenditures under Code Sec. 174(b), Code Sec. 174(a)(1) disallows deductions for such amounts, except as provided in Code Sec. 174(a)(2). Code Sec. 174(a)(2) requires taxpayers to charge SRE expenditures to capital account and allows amortization deductions of such capitalized expenditures ratably over a 5-year period in the case of SRE expenditures attributable to domestic research, or a 15-year period in the case of SRE expenditures attributable to foreign research, beginning with the midpoint of the tax year in which such expenditures are paid or incurred.

Section 13206(b) of the TCJA requires taxpayers to treat the amendments made by Section 13206(a) as a change in method of accounting for purposes of Code Sec. 481 that is: (1) initiated by the taxpayer, (2) made with the consent of the IRS, and (3) applied on a cut-off basis to SRE expenditures paid or incurred in tax years beginning after December 31, 2021. Thus, no adjustments under Code Sec. 481(a) are required or permitted with respect to research or experimental expenditures paid or incurred in tax years beginning before January 1, 2022.

Rev. Proc. 2023-11 modified and superseded Rev. Proc. 2023-8 to provide procedures to obtain automatic consent to change methods of accounting for SRE expenditures to comply with Code Sec. 174. The change in method of accounting provided by Rev. Proc. 2023-11 was subsequently included in Section 7.02 of Rev. Proc. 2023-24.

Interim Guidance

In Notice 2023-63, the IRS announced that it intends to issue proposed regulations addressing: (1) the capitalization and amortization of SRE expenditures under Code Sec. 174, (2) the treatment of SRE expenditures under Code Sec. 460, and (3) the application of Code Sec. 482 to cost sharing arrangements involving SRE expenditures. The notice provides interim guidance regarding issues intended to be addressed by forthcoming proposed regulations. In Notice 2024-12, the IRS provided additional interim guidance to clarify and modify Notice 2023-63 regarding (1) the treatment of costs paid or incurred by a research provider for research provided under contract, (2) the requirement that a taxpayer that chooses to rely on any of the rules described in Notice 2023-63 must rely on all the rules described in Notice 2023-63, and (3) the obsoletion of Section 5 of Rev. Proc. 2000-50.

Rev. Proc. 2024-9 provides procedures for taxpayers to obtain automatic consent to change methods of accounting for expenditures paid or incurred in tax years beginning after December 31, 2021, to comply with Code Sec. 174 or to rely on interim guidance under Code Secs. 174 and 460 provided in Notice 2023-63, as modified by Notice 2024-12. The change in method of accounting for Code Sec. 174 provided in Section 3 of Rev. Proc. 2024-9 modified Section 7.02 of Rev. Proc. 2023-24. Rev. Proc. 2023-24 was subsequently superseded in part by Rev. Proc. 2024-23. Rev. Proc. 2024-23 renumbered section 7.02 as Section 7.01 and removed former Section 7.01 as obsolete.

Changing Methods of Accounting Under Code Sec. 446(e)

Generally, Code Sec. 446(e) and Reg. Sec. 1.446-1(e)(2) require a taxpayer to secure IRS consent before changing a method of accounting. To obtain consent to a change in method of accounting, the taxpayer generally must file a Form 3115, Application for Change in Accounting Method, during the tax year in which the taxpayer desires to make the change in method of accounting.

Rev. Proc. 2015-13, as clarified and modified by Rev. Proc. 2015-33, and as modified by later procedures, sets forth the general administrative procedures by which a taxpayer may obtain automatic consent to change a method of accounting described in the List of Automatic Changes. Rev. Proc. 2024-23 contains the current List of Automatic Changes.

A change in a taxpayer's treatment of expenditures paid or incurred in tax years beginning after December 31, 2021, to comply with Code Sec. 174 or to rely on the interim guidance in Notice 2023-63 is generally a change in method of accounting to which Code Secs. 446(e) and 481, and the corresponding regulations, apply. A taxpayer that changes its method of accounting to comply with Code Sec. 174 or to rely on the interim guidance in Notice 2023-63 must use the accounting method change procedures in Rev. Proc. 2015-13 or its successor.

Rev. Proc. 2024-34

On August 29, the IRS issued Rev. Proc. 2024-34. Section 3 of Rev. Proc. 2024-34 modifies the eligibility rules and limited audit protection rules in Section 7.01 of Rev. Proc. 2024-23 to allow taxpayers to obtain automatic consent to change their method of accounting to comply with Code Sec. 174 or to rely on the interim guidance provided in Notice 2023-63 for tax years beginning after December 31, 2021.

Specifically, the IRS is aware that certain taxpayers may not be eligible to file automatic changes in methods of accounting under Section 7.01 of Rev. Proc. 2024-23 for a tax year beginning in 2022 or 2023 if the taxpayer had one or multiple short tax years during 2022 or 2023. This is because the waiver of the eligibility rules in Section 5.01(1)(d) and (f) of Rev. Proc. 2015-13 applies only to a taxpayer's first or second tax year beginning after December 31, 2021. Therefore, the procedures in Section 3 of Rev. Proc. 2024-34 modify the eligibility rules in Section 7.01(5)(a) of Rev. Proc. 2024-23 to provide that the eligibility rules in Section 5.01(1)(d) and (f) of Rev. Proc. 2015-13 do not apply to a change described in Section 7.01(1)(a) of Rev. Proc. 2024-23 made by a taxpayer in any tax year beginning in 2022 or 2023.

The procedures in Section 3 of Rev. Proc. 2024-34 also modify the rules for changes made in successive tax years in Section 7.01(5)(b) of Rev. Proc. 2024-23 to provide that a taxpayer may make a change described in Section 7.01(1)(a) of Rev. Proc. 2024-23 for a tax year beginning in 2022 or 2023, regardless of whether the taxpayer made a change for the same item for any previous tax year beginning in 2022 or 2023.

Finally, the procedures in Section 3 of Rev. Proc. 2024-34 also modify the limited audit protection rules in Section 7.01(6) of Rev. Proc. 2024-23 to provide that a taxpayer does not receive audit protection for a change under Section 7.01(1)(a) of Rev. Proc. 2024-34 made in any tax year beginning in 2022 or 2023 (other than the first tax year beginning after December 31, 2021) with respect to expenditures paid or incurred in the first tax year beginning after December 31, 2021, if the taxpayer did not change its method of accounting under Section 7.01(1)(a) in an effort to comply with Code Sec. 174 for the first tax year beginning after December 31, 2021.

Rev. Proc. 2024-34 is effective for Forms 3115 filed on or after August 29, 2024.

For a discussion of the amortization of research and experimental expenditures, see Parker Tax ¶95,540. For a discussion of changes in method of accounting, see Parker Tax ¶241.590.

Disclaimer: This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer. The information contained herein is general in nature and based on authorities that are subject to change. Parker Tax Publishing guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. Parker Tax Publishing assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein.

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