Addressing problems around the accounting and tax treatment for software costs incurred by companies
FRS 102 does not address the classification of software and website costs and therefore each entity should develop and apply a suitable accounting policy to classify such costs as tangible fixed assets or as intangible assets.
The decision is likely to be based on commercial reality – if software is primarily used to enable an item of IT hardware be used for its intended purpose, it is likely to be considered as a tangible asset. On the other hand, if the software constitutes an asset in its own right, it is likely to be treated as an intangible asset.
It is unlikely that choosing to classify assets under one or the other of the two categories will result in material differences in terms of initially recognised amount and subsequent amortisation/ depreciation or impairment, especially in view of the fact that the estimated useful economic life of such assets is likely to be short. However, it could lead to have significant tax impacts.
In developing a suitable accounting policy management refers to, in descending order, other FRS dealing with similar issues, any SORP applicable to the entity, general recognition criteria and measurement concepts in section 2 of FRS 102.
Software and website development costs (not research costs) may be recognised as internally generated intangibles if, and only if, an entity can demonstrate all of the following:
Once capitalised, Section 18 of FRS 102 provides an option to follow cost or revaluation model for the subsequent measurement. It is required that the entity shall allocate the depreciable amount of an intangible asset on a systematic basis over its useful life. The amortisation charge for each period shall be recognised in profit or loss unless another section of the standard requires the cost to be recognised as part of the cost of an asset.
For example, the amortisation of an intangible asset may be included in the costs of inventories or property, plant and equipment.
It should be noted that the amortisation begins when the intangible asset is available for use. Amortisation ceases when the asset is derecognised. The entity shall choose an amortisation method that reflects the pattern in which it expects to consume the asset’s future economic benefits. If the entity cannot determine that pattern reliably, it shall use the straight-line method. An entity is unable to make a reliable estimate of the useful life of an intangible asset, the life shall not exceed 10 years.
FRS 102 also requires an assessment of whether there are any indicators of impairment of carrying values of the asset. If the asset is impaired, then it should be written down to recoverable amount.
Under FRS 102, if software classifies as a tangible fixed asset, it would normally obtain tax relief through the capital allowances regime (unless there is an argument to treat the expenditure as revenue for tax purposes). This means that tax relief can be claimed fully as part of the annual investment allowance (AIA) claim. If AIA is not available, tax relief can be claimed as part of the writing down allowances as normal.
If software is treated as an intangible fixed asset, the tax relief will be spread at the amortisation rate over the life of the asset in line with the accounting policy. The main feature of the intangible assets’ regime is that the tax treatment follows the accounting treatment.
However, HMRC CA manual guidance points out that it is possible to claim capital allowances on software costs (while capitalised as intangible assets in the financial statements) instead of claiming tax relief on amortisations. The CA regime covers all fixed assets used in the business other than intangible assets apart from computer software, land and buildings.
Further guidance provided within manual CIRD25180 highlights when an intangible asset can be excluded from CTA09/PART8 and special tax rules apply. Section 815 of CTA 09 allows an election to make in respect of capital expenditure on computer software. This means tax relief for the depreciation of computer software may be available more quickly under the capital allowances code (see CA23400 onwards) than it is under CTA09/PART8. The election makes capital allowance treatment available.
Receipts from the realisation of the software, which are not brought into account under the capital allowances rules, are recognised as taxable income under CTA09/PART8.
The election:
The effect of the election is described in CIRD25190.