When Section 174 of the Internal Revenue Code was amended in 2022, many startups—especially in software and technology—started to worry about the implications. This change required businesses to amortize research and development (R&D) expenses over five years for U.S.-based activities and 15 years for foreign-based R&D, rather than immediately deducting these expenses.

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While this may sound alarming at first, early-stage software companies shouldn’t lose sleep over Section 174 amortization. Here’s why:

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1. Most Early-Stage Startups Aren’t Yet Profitable

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For a company to feel the full impact of Section 174, it needs to generate taxable income. Many early-stage software companies operate at a loss as they focus on building their product, gaining traction, and acquiring customers. Loss-making companies don’t pay federal income taxes, so the timing of deductions under Section 174 has little to no immediate effect.

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Even with amortization in place, startups will often carry forward net operating losses (NOLs) to offset future taxable income. This means those R&D deductions will still provide a benefit—just in future years when the company starts turning a profit.

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2. The Focus Should Be on Growth, Not Tax Policy

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At this stage, the top priority for early-stage software companies should be scaling their product and market presence—not getting bogged down in tax concerns. While it’s important to understand Section 174, worrying excessively about amortization takes valuable energy away from what really matters: creating a product customers love and building a sustainable business.

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If you have a sound financial strategy—including a clear understanding of how R&D costs fit into your broader budget—you’ll be well-positioned to address any tax implications when they become more relevant.

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3. Cash Flow Is King—Amortization Is More About Paper Losses

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For early-stage software startups, the real concern is cash flow, not taxable income. Amortization under Section 174 affects how your R&D expenses are recorded for tax purposes but doesn’t change the fact that these expenses reduce cash in your bank account.

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Investors understand this distinction. Venture capitalists and other backers of startups don’t evaluate your company based on your taxable income; they focus on your burn rate, gross margins, and growth potential. The Section 174 changes are unlikely to influence your ability to raise funds or maintain investor confidence.

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Conclusion

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While the changes to Section 174 may initially seem concerning, early-stage software startups have little reason to worry. The impact of amortizing R&D expenses is often minimal for companies that aren’t yet profitable, as the deductions don’t matter until taxable income is generated. Moreover, investors care far more about growth metrics and cash flow than tax liabilities, so these changes won’t affect your ability to raise funds or scale.

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By prioritizing product development, customer acquisition, and sound financial management, startups can stay focused on what matters most: growth and innovation. Section 174 is just a tax regulation—your success will be determined by how well you execute on your vision, not how quickly you can deduct expenses.

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Need help navigating tax complexities while growing your startup? At Startup Accountant, we specialize in empowering software companies to make smart financial decisions, no matter where they are in their journey. Let’s talk about how we can help you thrive.