How you handle research and development costs can shape your business’s financial health. Missteps might mean overstated expenses or missed opportunities for tax purposes.
This article unpacks what it means to capitalise R&D costs, which costs qualify, and how this affects your balance sheet and cash flow.
What does it mean to capitalise R&D costs?
Capitalising research and development costs means treating them as an asset on the balance sheet rather than recording them as immediate expenses in the profit and loss statement. This approach reflects the long-term value these investments bring to the business, especially for products developed with an enduring benefit that generate revenue over time.
Under International Financial Reporting Standards (IFRS), you can only capitalise costs if they meet certain conditions, usually in the development stage when it’s clear the project is feasible. By capitalising eligible R&D expenditures, you spread out the costs over time, giving a clearer and steadier view of your business’s performance across the fiscal year.
Put simply, it’s about making your financial statements reflect the real value of your investment and how it supports your future growth.
What R&D costs can be capitalised?
Knowing which costs can be capitalised helps you manage expenses strategically and stay compliant with accounting standards. These costs generally fall into two categories: tangible and intangible assets.
- Tangible assets include physical items such as laboratory equipment, machinery, or prototypes used directly in R&D activities.
- Intangible assets refer to non-physical resources like software, patents, or intellectual property developed during the R&D process.
Accurately identifying and categorising these costs supports effective financial reporting and strengthens the long-term value of innovation investments.
Developing phase expenditures
Costs incurred during the development phase—like designing, prototyping, and testing a product—can often be capitalised.
For example, creating a prototype that proves your idea works or refining software to make it market-ready are considered capitalised development costs. These expenses reflect the transformation of an idea into a tangible, revenue-generating product.
Prototyping and testing costs
Prototypes and testing are vital in the R&D activities process, and their costs may qualify for capitalisation if they meet the technical feasibility criteria.
Whether it’s physical product testing or software debugging, these activities demonstrate progress toward a market-ready solution and align with the conditions for recognition as an asset on the balance sheet.
Software development related to R&D
When developing software, certain costs—like coding, designing system architecture, and testing functionality—can often be capitalised if they occur after technical feasibility is proven.
For businesses that rely heavily on innovation, this can help smooth out profit and loss impacts and better reflect the long-term value of their R&D activities.
Patent application and legal expenses
Filing patents to protect your innovations is another example of a capitalisable R&D cost. Legal fees, filing expenses, and other related costs contribute directly to safeguarding your developed products, making them a valuable part of your intangible assets.
How does capitalising R&D costs impact cash flow?
Capitalising R&D costs spreads significant investments over several years, reducing their immediate impact on your financial results. This can improve the appearance of profitability and provide a clearer picture of your company’s long-term value.
It also helps align expenses with the future benefits they generate, which can make your financial position more attractive to investors and lenders. However, it requires careful management to ensure only eligible costs are included, avoiding compliance risks and inaccuracies.
How Ayming can help you with R&D cost capitalisation
Understanding and managing R&D cost capitalisation can be complex, but we are here to simplify the process. Our team provides expert guidance to help you identify eligible costs, ensure compliance with reporting standards, and align your financial practices with your business goals.
We take a tailored approach, working closely with you to make the most of your R&D investments while reducing administrative burdens. Whether you need support with identifying qualifying costs or navigating financial compliance, we’re here to help.
Contact us today to find out how we can add value to your business.