42.18 Deducting the Cost of Computer Software

The cost of software installed in a computer that you buy and use in your business is not deducted separately, unless the software cost is separately stated. In most cases, the cost of software bundled with a computer is not separately stated. The cost of the computer including such software is depreciable (42.10).

If you buy software for business use, such as a database or spreadsheet program, the treatment of the cost depends on your use of the program. If you use it for a year or less, such as an annual tax program, you may deduct the cost as a business expense for that year. If the useful life in your business exceeds a year, and the software meets the three tests in the Planning Reminder on this page, it is considered off-the-shelf software eligible for first-year expensing if bought in 2003–2012 (42.3). Alternatively, you may depreciate the cost over 36 months. See the e-Supplement at jklasser.com for proposals to extend first-year expensing to software bought in 2013.

Software acquired in the acquisition of a business is eligible for first-year expensing (42.3) or depreciable over 36 months if it meets the three tests listed in the Planning Reminder on this page; otherwise, 15-year amortization applies under the Section 197 intangible rules (42.17).

Planning Reminder

Computer Software Not Subject to Amortization

Computer software is not a Section 197 intangible (42.18) if it: (1) is readily available to the general public; (2) is not subject to an exclusive license; and (3) has not been substantially changed. If these three tests are met, software purchased in 2003–2012 is eligible for first-year expensing (42.3), or it may be depreciated over 36 months. Computer software falling outside of this exception is considered a Section 197 intangible subject to 15-year amortization if it is acquired in the acquisition of a business.

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