Nothing but love to Adam and the Tailwind team (including now-former team members) today. They’ve made huge contributions to web development and it just sucks, sucks, sucks that things have turned out this way. I know he’ll find a way forward, though.
18F [1] was the government’s design group, and did incredible work to improve the level of visual, UX, and UI design as well as usability across federal government websites. They created standards, led trainings and workshops, and were a go-to resource for people in and outside of the government.
You may have heard about the US Digital Service, but 18F were equally rockstar-level in the local community. Highly dedicated civil servants who were very good at what they did and very good at communicating it to others.
In May, DOGE unceremoniously gutted the department and shut it down.
Thankfully, they’ve archived their guides on an external site [2]. I didn’t even work for the federal government but I used to use these all the time when I was a product manager.
If you happen to see a resume come across your desk from someone who worked at 18F, jump on that. You’re lucky.
You do, if you want to claim the tax credit. But the R&D tax credit and R&E under Section 174 are two completely different things.
Until 2022, companies had the choice between expensing and amortizing software development under Section 174. (Section 174 specifically calls out all software development as falling under that section.) So they would only time track when they wanted to get the R&D tax credit, which only covers a portion of software development activities. R&D tax credit software development is a much narrower scope than R&E software development. So it didn't matter until now.
They have been. Large companies have been engaging with Congress since 2019 on this, reminding them that they intended to revert this before it took effect. CFOs wrote a letter to Congress in November. https://investinamericasfuture.org/Communications/letters/
The key problem here is that for 70+ years companies have had the option to amortize or expense these costs. This change was made as an accounting sleight of hand to make the 2017 tax cuts look paid for over a long-term basis, but Congress never intended for this change to take effect. They know it isn't good tax or economic policy.
So now small businesses and startups are being thrown into crisis because Congress has accidentally implemented policy that they haven't gotten around to fixing.
On the one hand, Section 174 clearly stipulates: "(3)Software development
For purposes of this section, any amount paid or incurred in connection with the development of any software shall be treated as a research or experimental expenditure." [1]
Section 174 R&E expenses are much more expansive than what qualifies under the R&D tax credit criteria. This article has a rundown of some of the activities included in 174. It's well beyond software or salaries -- it also includes things like market research. It also includes any expenses in connection with R&E, so for example time using a server for new features or new products would have to be amortized but maintenance (bug fixes) wouldn't. Even if a company files for R&D tax credits, they won't be able to offset this increase. [2]
Lastly, since Congress was widely expected to revert this before it took effect, the IRS didn't issue full guidance on how to implement it. They've never had to define software development before, but the interpretation that Big 4 accounting firms are taking is that it covers new products AND new features on existing commercial products, but not straight maintenance.
Only a small portion of activities count as R&D for R&D tax credit purposes. R&E is a much bigger category and where the problem lies. This write up has a good graphic showing the magnitude (scroll halfway) https://www.striketax.com/journal/tcja-and-the-resulting-tax...
The problem is that this tax change is artificially inflating profits. Companies previously had the choice between expensing (writing off entirely) and amortizing (spreading out) these costs, and now they must be amortized.
It is especially problematic since it categorizes all software development as R&D even if we don't think of it as R&D. It's still unclear what the IRS considers "software development" since they've never had to define it, but the way most big companies with their well-paid accountants are proceeding are that it covers new product development AND new features on existing products, but not bug fixes/maintenance.
Let's take a simple example. Imagine a profitable small software company that made $1M in revenue last year, spent $700,000 on developer salaries and $200,000 on other expenses. Ordinarily, they'd be able to write off $900,000 and have a taxable net income of $100,000 that matches their actual profit. Assuming a tax rate of 25% that's a $25,000 tax bill.
Now, if you assume developers spent 50% of their time building new products and new features, and 50% of other expenses were on new features, only $420,000 of the salary costs and $110,000 of other expenses are write-offs. Their taxable income just went from $100,000 to $470,000.
Assuming a 25% tax rate, their tax bill is now $117,500 for 2022 — which exceeds their actual net income. This also inflates their quarterly tax payments for 2023, both of which hit right now.
This gets even worse for companies that aren't profitable, as they don't have the cash flow to cover a tax bill when they hadn't planned on having one at all. And given the current financial environment, it's hard for startups to get any kind of additional financing or funding.
We’re not selling anything about AI and have no association with Claude Code, though