When companies invest heavily in developing operating systems or apps, should these costs be recognized as current-period expenses or capitalized as assets for amortization? Under FASB ASC 350-40 guidelines, the key hinges on which stage the development process is in !
The Three Stages of Software Development and Their Accounting Treatments
Under ASC 842, it must first be confirmed whether control of the asset has transferred to the buyer in accordance with the revenue recognition standard (ASC 606).
- Preliminary Project Stage
Early planning, such as evaluating alternatives, selecting suppliers, and determining system requirements.
Accounting Treatment: Fully expensed. Technical feasibility is not yet established at this stage, so all expenditures are recognized as expenses in the period incurred.
- Application Development Stage
System design, coding, hardware installation, testing, and data conversion, etc.
Accounting Treatment: Eligible for capitalization. If management formally approves the project, funding is in place, and it is "probable" that the project will be completed and placed in service, direct development costs can be recognized as assets.
- Post-Implementation / Operation Stage
Routine operations and maintenance after the system goes live.
Accounting Treatment: Fully expensed. Expenditures at this stage are considered ongoing operational expenses necessary to maintain system performance.
Important Reminders
- Employee Training Costs:
Always expensed, regardless of which stage they occur in.
- Data Conversion / Purging Costs:
Expenses associated with transferring data from old systems to the new system are generally expensed (only the costs of developing data conversion interfaces or software tools themselves can be capitalized).
USCPA Luo Xia reminds you, when undertaking major software or system development projects, companies need clear phase boundaries defined by the finance team to legally and compliantly capitalize development costs. Handled properly, this not only accurately reflects the company's intangible asset value, but also helps optimize financial presentation.
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