Software firms across US facing tax bills that threaten survival

Given how difficult it is to predict policy outcomes this is probably a good idea. Even if a collection of policies are good on the individual level there is no way to figure out if the interaction will be net positive, nor if the cost of remedy reverses the calculus.

If you look away from the senators and consider the people the senators represent, it was intended to be even without the filibuster.

But what should be truly opposed is the cowardly way in which the filibuster is done today.

You should make 41 people vote against the bill, on record with their names, then go back to their constituents and explain why they did it in a town hall sometime soon.

Right now a senator can rely on the fact that their re-election is five years away when killing a bill which is supported by their constituents.

41 of them cannot assume they have years for the public to forget their vote on this particular thing (like hurting small businesses by inaction too).

Minority rule would be if 40% of the Senate could pass laws at will.

Australia, even with a 2 party preferred, still often has smaller parties hold the balance of power. Often this is quite beneficial since the big party has to water down their ambitions.

It forces fringe, extremist and "eternal" oppossition parties to compromise and negotiate better terms and it can change elections that are really close.

The filibuster was a hack which has since been weaponized. It should be eliminated. If only to rationalize and normalize the Senate.

The anti-majoritarian case for maintaining the filibuster presumes that tyranny of the minority is preferable to the tyranny of the majority. Often dressed up dressed up in doublespeak slogans like "states rights" (John C. Calhoun) and "entrepreneurial freedom" (James M. Buchanan, Peter Thiel).

The majority of US problems come from the inherent duality of the political system. Every matter gets split among political lines, with one party for, the other against, regardless of merits. What would fix that would be to move to popular votes (real, proportional popular votes, not first past the post disenfranchising the vast majority of the population), which would result in more parties emerging, which would lead to more nuance, actual debates and compromises.

If your proposal is enacted, what changes? Governors, elected by first past the post (checking the stats for 2022, with 40-60% of the vote)[1], or state congresses, which are also elected by first past the post and thanks to gerrymandering are usually highly partisan with near total domination of one party[2], elect the two senators for the state. What's the difference? Same two parties as before, same stupid dividing lines on every single topic, same impossible to achieve supermajority needed to do anything significant.

Oh, and actual political finance limits. Whoever came up with "companies donating millions to politicians is free speech so nothing can be done to limit that" is either a massive idiot or extremely biased towards big money influencing elections.

https://en.wikipedia.org/wiki/2022_United_States_gubernatori...

https://en.wikipedia.org/wiki/2022_United_States_state_legis...

- greatly reduce the power of the Senate, effectively limiting it to the ability to veto legislation and judicial appointments with a two-thirds majority (effectively a "state's veto" over a runaway federal government)

- the House of Representatives should be elected based on per-state proportional representation; districts are an antiquated concept from an era where people traveled by ship and horseback, and don't really make sense in an age of telecommunications, air travel, automobiles, etc.

- the President should be elected by a direct majority, as the electoral college has outlived its usefulness and exists only to enable a president to win an election with a majority of votes

The problem with state-appointed Senators is that it was warping gubernatorial politics. If you didn't like your Senator, you had to have the state governor replace him, and in practice most people were treating their vote for state governor as a senatorial vote anyway. Direct election of Senators just cut out the middleman.

Furthermore, we should be very careful with veto powers in a democratic system. Have you ever heard about a study which claims that the US is run by rich people? Well, the thing is, it's true, but not entirely. All classes are still capable of advancing an agenda. Louis Rossman can sit on a chair and yell into the microphone about right-to-repair[0] and get a bunch of state bills proposed. But rich people uniquely have veto power. They can, say, have a 'robust conversation' with a Senator or Representative to kill an R2R bill, or have New York State's governor change the R2R bill at the last minute to completely remove the legislative intent.

Filibusters are another veto mechanism; they raise the vote threshold from 50 to 60. Furthermore with the procedural filibuster they are significantly easier to use, so they get used all the time.

You know how Brexiteers were really mad about how the EU has a lot of unelected political appointees making law? They're not wrong about that. You see, whenever a political party in Germany, France, or the UK (pre-Brexit) wanted to push an unpopular policy, they'd make it into an EU-wide regulation and then blame the EU for it, because they think voters are stupid[1]. They were able to do this specifically because the EU works exactly like how the US Senate used to, with member state representatives not elected by the people and thus not accountable to them. And the only democratic accountability provided to stop this is to replace your member state's government with one that'll replace the appointee in the European Commission, which is now two levels of indirection.

Personally I'd rather live in the world with a straightforward democratic system with as little indirection as possible and few veto powers. Yes, you can point to rising populism as a counterargument, but the problem is that populism is rising because nobody's voice is getting heard. The more that the rich use their veto powers instead of relenting to the will of the majority, the more that the majority will turn to non-democratic means of power, and then we'll wind up in a dictatorship with exactly the kinds of people you don't want running things in office.

[0] Right to repair is a political campaign to undo several harmful effects of copyright and trade secrets law by explicitly requiring manufacturers to sell replacement parts and provide unlock codes to pair them onto equipment. It does not actually obligate them to repair the device, in fact that's counterproductive to the actual point, which is to restore ownership of your device (or car, or tractor) back to you.

[1] They're not.

Also, it turns out that when the legislature doesn’t act, because it was deliberately hobbled by its designers, you end up with an ultra powerful executive rather than things being left to the states.

It would be better if more Americans recognized the flaws in the design of our system of government instead of quasi-worshipping the Founding Fathers and insisting that any problems are because we are unworthy of their great design.

And beyond that, it lets party politicians who don't really want to have to take hard votes hide behind the procedural hurdles.

VC has spoiled software folks for the past decade. This is just how small businesses become bigger businesses. The dogma of "bootstrapping" in software circles has been distorted into what is now clearly, retrospectively, an unsustainable means of developing industries. There doesn't seem to be any reason to treat software differently from others.

The arguments here given scream of panicked, defensive rationalizations how actually we're super special and saving the world through technology, and how dare they claw back the rewards we're given for enabling humanity's progress.

The two constants are death and taxes, if you don't have the revenue to pay them at your current burn rate, you either find a way to burn less or your company just isn't viable.

In any case, it seems like the result of these changes (if they stand) will probably be to change in some way the amount /and type/ of software that gets written. If the tax treatment of software essentially requires it to be a capital asset, we will probably see people write more software that behaves like a capital asset: shrinkwrapped software rather than SaaS. This may not be a bad thing.

That's why you have to take into account that it's "research and development", and not "research" and "development". As in research and the development of that research, not separately research and development.

It's not "just an expense". Think about an architect designing a house. The tax treatment depends on how the person spending the money "uses" the labor. It might be an ordinary operating expense (fully deductible), but could also be inventory, or a depreciated "capital asset" (closely related to the idea of "capital gains" taxes) whose value is spread over a long period of time, generally related to the asset's usable life.

There is a large body of work around the correct treatment of this stuff, which sits at the core of accounting in the same way data structures sit at the core of CS. It's not the most straightforward thing to explain. The tax code contains a ton of exceptions, but in general, a thing that is long-lived, expensive, not routinely bought or sold, and provide some kind of long-lived economic benefit (e.g. shelter, the ability to produce something, or facilitate some kind of industrial process), is a capital asset. (Sounds a lot like software, doesn't it?) Inventory is something routinely bought and sold, generally for profit. A server is inventory for Dell. For a typical software startup, it's a capital asset.

The whole point of accounting is trying to accurately measure economic activity. It's more complicated than it looks. If you agree to a five-year contract and get paid upfront, not all that money is "earned" (hence taxable) in the first year. If you're in debt and the debt is forgiven, no money changes hands, but that's very much beneficial (and taxable) to you. And if you own a long-lived asset, you don't just get to say, oh, I spent all this money upfront, that's an expense I can use to reduce my taxes. Not how it works.

Just trying to shed some light on this. It is indeed rather complex.

Of course, if anyone had owned real estate, they'd understand things like depreciation, and the fact that you can spend money without it being an 'expense', or that no, just because you 'made $1,000,000 and spent $1,000,000' doing something like building a house, or a piece of code, you could of course show an accounting profit. You created something of value--that's the point. There's something of value left over. Maybe there won't be in five years, but you can't expense the entire thing immediately.

I actually think this treatment (capitalization of software R&D) is more "correct" from a theoretical accounting perspective. Clearly, software companies are creating something that has residual value with all those developer salaries. As for the politics, I'm not sure. I do know that RE has the same problem (accounting profit can run far ahead of cashflow), but has so much crazy advantaged tax treatment (arguably "loopholes")--1031 exchanges, bonus depreciation--and that's on top of stuff like 179 expensing (not specific to RE I know, but still), that maybe software just needs to work more like RE, where the baseline is "many things capitalized", but all sorts of crazy loopholes driven by the whims of short-term politics.

It certainly makes the accountants rich...

FWIW, my wife's architecture practice is dealing with this 174 amortization (on their salaries, some of which were classified as R&D) and it's killing them, too.

I wonder what this section and any software means

This is a bit much. "Research" maybe, but not "development". Many things are developed -- land, buildings, etc. Someone still has to do the work.

What are they welding that has four corners to make squares?

Maybe this will help you.

If (as you imply) SW developers are critical to this year’s revenue (vs. building for future years revenue), then why don’t they go in COGS?

Seems like an easy way to solve the problem…

When you build a manufacturing line, you usually buy your equipment off-the-shelf (capex, with good resale value) and hook it up in a semi-custom way with cheap, movable conveyors (also capex, with resale value). This means that you can make a "stuff" company with practically no R&D. In that world, you only do significant R&D of any kind once you are big enough that your chance of going bankrupt before the end of even a 15-year amortization period is pretty small.

Even in those companies, the work product of R&D groups is often relatively modularizable and transferable. For example, your R&D group may modify a machine to produce coke cans 10% faster. That improvement is likely transferable to pepsi. You may also patent the improvement, but that's not required for it to transfer well. Your R&D can also be hard to transfer, like specific factory layouts to make $widget that only you would ever want to make, but you're only doing that research when you are an established manufacturer, which makes the depreciation not a big deal (you probably prefer to capitalize that expense anyway).

The fact that the work product of R&D is somewhat transferable at a price near how much it cost to produce is what allows you to get loans backed by R&D work (technologies, patents). Without the secondary market value, you don't really have an asset.

In contrast, companies whose primary work product is technology (software companies and some digital hardware companies) do significant R&D from day one, both before proving the value of the R&D work and in a way that it usually isn't sellable or modularizable.

Like the coke cans, there's probably a market of people who would buy the product "patch that makes redis 10% faster," but the tech transfer mechanisms we have today don't support that market well (if at all), and most startups don't waste time improving redis. There is almost certainly no market that would buy "efficient database schema for a SaaS for gravediggers," which actually is what occupies your time if you're building a SaaS for gravediggers.

That suggests, using the "capitalized R&D" and "software development is R&D" ideas, that the first few years of a software company will pretty much always involve vastly overpaying for an asset with likely no real resale value. That is very different than how a traditional capex works: usually the vast majority of the price you pay on a capex goes into the value of the asset.

So that leaves us in a weird sort of void. I assume the very-long-term solution is to figure out how to make an IP rights system that actually works for software (eg a new kind of patent), so you can finance your software R&D the way you do a house.

If you spend is going up, you're pre-paying more and more tax on profits you haven't earned yet. If your spend is constant, you'll stay the same amount behind. If your spend declines you'll start to catch up, and if it drops to 0 and stays there for ~4 years you'll catch up to where you would have been without the law change...but if you start spending again you have to start pre-paying again.

It's also pretty harsh on a business that's just plain unprofitable. The laws should be arranged so that if you start a business and it's a flop, but you have no debts, you can walk away pretty much unscathed.

Until 2022, companies had the choice between expensing and amortizing software development under Section 174. (Section 174 specifically calls out all software development as falling under that section.) So they would only time track when they wanted to get the R&D tax credit, which only covers a portion of software development activities. R&D tax credit software development is a much narrower scope than R&E software development. So it didn't matter until now.

And yet that's the letter of the law. R&D expenses must be amortized over 5 years. Software development must be counted as R&D.

There is no consideration in the law as written for categorizing software development differently.

That's the reason this whole scenario is a problem in the first place.

> For purposes of this section, any amount paid or incurred in connection with the development of any software shall be treated as a research or experimental expenditure.

Where "this section" is "§174. Amortization of research and experimental expenditures"

Tax credit is separate from amortization afaict.

Disclaimer: Not an accountant, not your accountant, get professional advice.

[0] https://www.att.org.uk/tax-treatment-software-and-website-co...

> For purposes of this section, any amount paid or incurred in connection with the development of any software shall be treated as a research or experimental expenditure.

I'm just "parroting" from house.gov

> Amortized software development costs (we discourage capitalizing these costs in the first place)

Emphasis mine. They're saying if you amortize your other software dev as R&E (stuff that isn't ops/infra/etc. and thus considered COGS) then it doesn't count towards your COGS. But then what they're pretty clearly saying in the parenthetical is that they don't recommend doing that in the first place, which implies that you have a choice.

My understanding is the problem is the phrase "any amount paid or incurred in connection with". It is unambiguous and provides no leeway. Any costs related to software development are R&D. Period.

I understand the rest and I'm not saying it's a good law. It's just not as bad as in the example with $1,000,000 above as IMO most companies won't be in that position, especially newly founded startups. The worst part is that it happens without a ramp up and with high interest rates.

Others (say, an investor) might view a contract as an “asset” because of the future value it might bring, but not in a traditional accounting sense.

A contract can be an asset. Usually the unrealized future value of the agreement has value should you need to make a deemed disposition (or have some other valuation event). It gets very obviously complicated and fuzzy though, which is where accountants make the big bucks. It's pretty rare that a company chooses to make a contract valuable, but it often comes up in bankruptcy proceedings.

As an example of contracts having value, a few years ago I was involved in the acquisition of some media distribution assets, and one such asset was a transferable "MFN" contract with a major publisher. That was a very, very valuable asset.