Software and Section 179
Understanding Software and the Section 179 Deduction
Software is an integral part of many businesses, and understanding how it relates to the Section 179 deduction is essential for optimizing tax savings. The Section 179 deduction allows businesses to deduct the full purchase price of qualifying assets, including software, from their gross income. This page gives you an overview of how software and the Section 179 deduction work together.
Classification of Software for Depreciation
Software is typically classified as an intangible asset for tax purposes. However, not all software falls under the same rules for depreciation. There are instances where software is eligible for depreciation and times when it isn’t, depending on how it was acquired and its intended use.
If the software was acquired in connection with the acquisition of a significant part of a business, it generally cannot be depreciated. But, if the software is:
Readily available for purchase by the general public,
Subject to a nonexclusive license, and
Has not been substantially modified,
then it can be depreciated and may qualify for the Section 179 deduction.
General Eligibility Criteria for Software
For software to be eligible for the Section 179 Deduction, it must meet the following general criteria:
The software must be purchased or financed with a qualifying loan or lease.
The software must be used in your trade or business. Note that software acquired solely for income production, such as rental or royalty-producing property, doesn’t qualify.
The software must have a determinable useful life and is expected to last more than one year.
Depreciating Software Under Section 179
When your software meets the criteria mentioned above, you can depreciate its cost. The IRS requires software to be depreciated using the straight-line method over a useful life of 36 months. Depreciation allows businesses to recover the cost of an income-producing asset over time through periodic deductions.
Moreover, qualifying software may also be eligible for the Section 179 deduction, which permits businesses to deduct the entire purchase price from their gross income. Additionally, there is a special depreciation allowance that provides accelerated depreciation for certain types of assets, including software.
Software that Doesn’t Qualify for Section 179 Deduction
It’s important to be aware of the types of software that do not qualify for the Section 179 deduction. For instance:
Custom code or highly customized software specifically designed for your company is not eligible.
Databases or similar items are not considered deductible computer software unless they are in the public domain and incidental to the operation of qualifying software.
Websites are generally not eligible for Section 179, though this may change. Always consult your accountant for the latest information.