The R&D Tax Rule Changed Again. Can My Startup Deduct Its Engineering Costs Now?

Your engineering team is your biggest investment. Every month, you’re paying developers to build new features, improve your product, and solve technical problems.

For years, many startups expected those research and development costs to be immediately deductible.

Then the tax rules changed, forcing companies to spread those deductions over several years and increasing taxable income even though the cash had already been spent.

Now the rules have changed again.

For many startups, domestic research and experimental (R&E) expenses can once again be deducted immediately. However, the updated rules contain important exceptions, particularly for foreign research and businesses seeking relief for earlier tax years.

What Changed Under Section 174A?

The One Big Beautiful Bill Act (OBBBA), signed on July 4, 2025, introduced Section 174A, restoring immediate expensing for qualifying domestic research and experimental expenses for tax years beginning after December 31, 2024.

For many startups, this means qualifying US engineering costs no longer need to be amortized over five years.

Instead, eligible domestic R&E expenses can generally be deducted in the year they are incurred.

Domestic and Foreign R&E Are Treated Differently

One of the most important changes is that the new rules distinguish between domestic and foreign research activities.

Under the updated law:

• Domestic R&E generally qualifies for immediate deduction.
• Foreign R&E generally must still be capitalized and amortized over 15 years.

For startups with engineering teams located in multiple countries, separating these expenses accurately has become an important part of tax compliance.

Relief for Earlier Tax Years Depends on Company Size

The updated legislation also provides methods for recovering deductions delayed under the previous rules.

You may still recover deductions the old rule delayed, but the path splits by company size:

• Certain smaller businesses with average annual gross receipts of $31 million or less under Section 448(c) were permitted to amend earlier tax returns, subject to specific deadlines.
• Larger businesses generally receive a one-time catch-up deduction during the 2025 tax year or may spread that adjustment across 2025 and 2026.

The appropriate approach depends on the company’s facts and applicable tax rules.

Engineering Payroll May Qualify

For many technology startups, engineering payroll represents the largest category of research spending.

Qualified domestic wages paid to software developers and engineers performing research and development activities may now qualify for immediate deduction under the revised rules.

Because employee responsibilities often vary, companies should maintain records that clearly identify which compensation relates to qualifying research activities.

Good documentation can simplify future tax filings and support the deduction if it is ever reviewed.

Don’t Forget the R&D Tax Credit

The updated deduction rules do not replace the federal research tax credit.

Instead, the two provisions work together.

Under Section 280C, companies claiming the R&D credit generally must coordinate that credit with their R&E deduction rather than receiving both benefits without adjustment.

Understanding how these rules interact is important because the available tax benefit depends on how the election is structured.

Review Your R&D Tax Position Every Year

Research activities evolve as startups grow. Engineering teams expand, international hiring increases, and new development projects begin.

Reviewing your R&D tax position annually allows founders to:

• Separate domestic and foreign research costs.
• Identify qualifying engineering wages.
• Coordinate deductions with available tax credits.
• Evaluate whether legislative changes affect prior or future tax filings.

Building these reviews into your annual tax planning process helps maximize available tax benefits while reducing compliance risk.

Common Founder Mistakes

• Combining domestic and foreign research expenses: Domestic R&E generally qualifies for immediate expenses, while foreign R&E continues to follow a much longer amortization schedule.
• Assuming every engineering salary automatically qualifies: Companies should identify which wages relate to qualifying research activities and maintain documentation supporting those allocations.
• Ignoring the interaction between the R&D deduction and the research credit: Section 280C requires coordination between these tax benefits, making careful planning essential.
• Failing to review whether earlier tax years qualify for additional relief: Depending on company size and the applicable rules, businesses may have opportunities to recover deductions previously delayed under the former Section 174 regime.

10-Minute R&D Tax Self Check

• Have I separated domestic and foreign R&E expenses?
• Which engineering wages qualify as research expenses?
• Does my company qualify for immediate domestic R&E spending?
• Have I evaluated whether prior tax years require additional action?
• Have I coordinated my R&E deduction with the federal research credit?
• Is my documentation sufficient to support my R&D tax position?

If several answers remain unclear, additional review may be worthwhile.

Bottom Line

For a startup, R&D expenses are not an accounting footnote. It is cash flow, and cash flow is runway. However, foreign R&E continues to follow different rules, and the interaction between deductions, tax credits, and prior-year relief remains complex. Reviewing your R&D tax position carefully each year can help ensure your company receives the full benefit of the updated law.

Unsure Whether You’re Claiming Your Engineering Costs Correctly?

Schedule a free 30-minute call with our team to discuss your questions and concerns.

Book here: https://calendly.com/primumlaw/30min