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Contact us today to learn the many ways that we can help you achieve your business goals. Costs to Expense Certain costs incurred cannot be included for capitalization; they should be recorded as an expense when they are incurred. Expense the following items: Preliminary costs incurred while deciding on resource allocation, performance requirement, technology evaluation, supplier demonstrations and the selection of a supplier. Development costs related to user training, data conversion, overhead and administration.
Costs incurred after implementation, including maintenance and employee training. Costs to Capitalize The costs you should capitalize are those that are directly related to the development, deployment and testing of the software.
Capitalization of internal-use software costs is an area where companies often misapply GAAP Codification Topic Software intended for internal use includes back office systems, such as general ledger or billing modules, and platforms where software as a service is provided to customers. It does not apply to software sold or distributed to customers. The accounting guidance specifies 3 stages of internal-use software development and during which stages capitalization is required:. Costs are expensed as incurred during this stage and include exploratory research, determining the desired functionality of the software, and determining if technology exists to achieve stated performance objectives among other tasks.
Companies are required to capitalize the internal and external costs incurred during the application development stage. This stage includes development path design, coding, hardware installation, and testing.
Product enhancements that are not considered maintenance activities sometimes can meet the technological feasibility threshold more easily because the developers are adding functions to an already successful product. Deciding factors in such instances include the type of software, the level of modification required, and the level of design work that was completed before the start of development.
Even when technological feasibility is established, not all agile development costs can be capitalized. In most cases, only some of the costs in each sprint can be capitalized. But large portions of the costs incurred to develop and test such features often should be capitalized if technological feasibility is achieved.
These costs include the actual coding, testing, and associated labor costs. Bear in mind, however, that any maintenance-related or error-correction costs that are incurred during the sprint may need to be expensed rather than capitalized, as many activities during the sprint may not be coding and testing but may be activities such as troubleshooting and discovery.
Moreover, capitalization ends once the project is complete and the software is ready for use. Distinguishing between costs that can be capitalized and those that cannot be capitalized can complicate the project accounting, reporting, and documentation steps within each sprint somewhat. But the additional administrative work does not have to be onerous. In most cases the various tasks and deliverables within each sprint can be segmented into broad categories, so that all costs associated with that task can be either expensed or capitalized.
Deciding which external-use software development costs can be capitalized in an agile project environment involves a certain amount of judgment. In many cases, the specific facts and circumstances surrounding the type of software being developed will drive the treatment of costs. Careful planning can aid in the analysis of which costs to capitalize versus expense.
For this reason, it usually is advisable to discuss the accounting treatment with the project management team and subject-matter experts before starting any large development project. It also is important to understand from the outset of a project the level of support and documentation that will be needed to enable the appropriate decisions regarding capitalization of costs.
In addition, a clear understanding is required of the level of documentation that will need to be maintained for auditors to evaluate and affirm the capitalization and expensing decisions.
It also is important to maintain additional internal controls such as monthly reviews of activities, capitalized and expensed amounts, and communication templates that project managers can fill out to verify that employee time is coded correctly. Although some industry discussion of updating the relevant standards to make them more applicable to the agile framework has occurred, such updates typically entail several years of planning, discussion, proposals, and industry feedback.
That means that, for the foreseeable future, companies that use an agile model to develop software for external sale or licensing will need to continue coordinating closely with their accounting teams to apply the existing GAAP guidance and capitalize development costs appropriately. To comment on this article or to suggest an idea for another article, contact Ken Tysiac, a JofA editorial director, at Kenneth.
Tysiac aicpa-cima. Read more about the change and get tips on how to access the new flipbook digital issues. Making the right moves now can help you mitigate any surprises heading into Worldwide leaders in public and management accounting.
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