United States

IFRS vs. US GAAP: R&D costs

Aug 24, 2017
From the IFRS Institute

IFRS Perspectives: Update on IFRS issues in the US

Companies often incur costs to develop products and services that they intend to use or sell. The accounting for these research and development costs under IFRS can be significantly more complex than under US GAAP

Under US GAAP, R&D costs within the scope of ASC 7301 are expensed as incurred. US GAAP also has specific requirements for motion picture films, website development, cloud computing costs and software development costs.

Under IFRS (IAS 382), research costs are expensed, like US GAAP. However, unlike US GAAP, IFRS has broad-based guidance that requires companies to capitalize development expenditures, including internal costs, when certain criteria are met.

Based on these criteria, internally developed intangible assets (e.g. development expenses related to a prototype in the automotive industry) are generally capitalized and amortized under IFRS and expensed under US GAAP. This difference gives rise to two complexities in applying IFRS: distinguishing development activities from research activities, and analyzing whether and when the criteria for capitalizing development expenditures are met.

Separating development from research

The starting point for companies applying IFRS is to differentiate between costs that are related to ‘research’ activities versus those related to ‘development’ activities. While the definition of what constitutes ‘research’ versus ‘development’ is very similar between IFRS and US GAAP, neither provides a bright line on separating the two. Instead, a company needs to develop processes and controls that allow it to make that distinction based on the nature of different activities.

 

Research

Development

Definition

Costs related to original and planned investigation undertaken with the prospect of gaining new scientific or technical knowledge and understanding.

Incurred in the application of research findings or other knowledge to a plan or design for the production of new or substantially improved materials, devices, products, processes, systems or services before the start of commercial production or use.

Examples

  • Activities to obtain new knowledge on self-driving technology.
  • Search activities for alternatives for replacing metal components used in a company’s current manufacturing process.
  • Search activities for a new operating system to be used in a smart phone to replace an existing operating system.
  • Design and construction activities related to the development of a new self-driving prototype.
  • Design and construction of a new tool required for the manufacturing of a new product.

  • Testing activities on a new smart phone operating system that will replace the current operating system.

Analyzing when to start capitalizing development costs

Expenditures incurred in the development phase of a project are capitalized from the point in time that the company is able to demonstrate all of the following.

  • The technical feasibility of completing the intangible asset so that it will be available for use or sale.
  • Its intention to complete the intangible asset and use or sell it.
  • Its ability to use or sell the intangible asset.
  • How the intangible asset will generate probable future economic benefits.
  • The availability of adequate technical, financial and other resources to complete the development and to use or sell the intangible asset.
  • Its ability to reliably measure the expenditure attributable to the intangible asset during its development.

In our experience, the key factor in the above list is technical feasibility. There is no definition or further guidance to help determine when a project crosses that threshold. Instead, companies need to evaluate technical feasibility in relation to each specific project. Projects related to new product developments are generally more difficult to substantiate than projects in which the entity has more experience.  

To learn more about the differences between IFRS and US GAAP, see KPMG’s publication, IFRS compared to US GAAP.

What about acquired R&D projects?         

R&D intangible assets (in-process R&D, or IPR&D) may be acquired rather than developed internally. As a general principle under IFRS, the acquired IPR&D is capitalized. However, the amount capitalized and the differences between IFRS and US GAAP depend on whether a ‘business’ or a single asset/group of assets is acquired. Under US GAAP, only IPR&D acquired in a business combination is capitalized post-acquisition.

The definition of a business is an area of change under both US GAAP and IFRS.

  • The FASB issued ASU 2017-01, Business Combinations (Topic 805), in January 2017. The ASU sets out a new framework for classifying transactions as acquisitions (disposals) of assets or businesses. As a result, fewer transactions are expected to involve acquiring or selling a business. For more information, read KPMG’s Defining Issues.
  • The IASB is continuing its deliberations on the feedback received on its exposure draft, Definition of a Business and Accounting for Previously Held Interests, which at the time was similar to the FASB’s proposals. The IASB expects to complete its discussions in the first half of 2018.

Expect future articles addressing the definition of a business under finalized amendments to IFRS and any differences from US GAAP, and the accounting for IPR&D.


1 ASC 730, Research and Development
2 IAS 38, Intangible Assets

East region

Erik Lange
Partner, Accounting Advisory Services
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Ingo Zielhoff
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Reza Van Roosmalen
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Marybeth Shamrock
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