Charles E. Gebhardt, CPA, CVA
Jan 2001

Please note that this paper is a synopsis of tax rule changes and is not intended to be an authoritative guide. Please consult us before relying on anything contained in this paper.

There are varying rules for the tax write off of computer software costs depending on whether the software is purchased, leased, internally developed, or acquired as part of a larger business acquisition.

Purchased software — Generally, purchased software is amortized ratably over 3 years beginning with the month it is placed in service.

Exceptions to this rule include bundled software purchased with hardware for which the cost is not separately stated. In this case the software is included in the calculations of depreciation for the computer purchased (generally MACRS over 5 years)

Leased software — Generally leased software is written off over its lease term unless the lease more closely reflects purchase of the software.

Internally developed software — Costs of developing software that is not part of a research project may be accounted for by consistently using any of the following methods:

Deducting the costs in the year the costs are paid for cash basis taxpayers and the year incurred by accrual basis taxpayers.

Amortizing over 36 months beginning with the month the software is placed in service.

Amortizing over 60 months beginning with the completion of the software.

Software acquired with a larger business acquisition — Software acquired as part of a purchase transaction involving a trade or business are treated as a purchased intangible and as such must be amortized over 15 years. An exception to this rule includes software that is available for sale to the general public, is subject to a non-exclusive license, and has not been substantially modified.