A controller discovers that the development team has been expensing all software costs as incurred for three years. The CFO asks whether any should have been capitalized. The answer depends entirely on what the software is for (internal operations or external sale) and where the project stands in its development lifecycle. Two different FASB standards govern, each with distinct capitalization triggers and amortization rules.
AICPA Representative Tasks (verbatim). "Recall the criteria necessary to capitalize software developed for internal use or software developed for sale in the financial statements." "Calculate capitalized software developed for internal use or software developed for sale to be reported in the financial statements and the related amortization expense."
FASB splits software accounting by intended use. The entity must determine at project inception whether the software will be used internally or sold externally, and that classification drives which standard applies for the entire project.
KEY: Classification is based on intended use at project inception. If software is developed for internal use but later sold, the entity applies ASC 350-40 during development and ASC 985-20...
Common mistakes
- Capitalizing preliminary-stage costs for internal-use software. Vendor evaluations, feasibility studies, and conceptual design occur before management commits to the project. These are expensed under ASC 350-40. The exam will embed them in a cost list and test whether you exclude them.
- Capitalizing training costs. Training is always expensed, whether for internal-use or for-sale software. The benefit flows to employees, not the asset.
- Confusing "ready for intended use" with "placed in service." Amortization of internal-use software begins when the software is ready, even if the entity delays go-live. The exam will state the ready date and the go-live date separately: start amortization at the ready date.
Bottom line
- Internal-use software (ASC 350-40): capitalize costs in the application development stage; expense preliminary-project and post-implementation costs.
- Software for sale (ASC 985-20): expense all costs until technological feasibility is established, then capitalize until the product is available for general release.
- Capitalizable costs include direct labor, outside services, and interest during development; general overhead and training are always expensed.
- Internal-use amortization is straight-line over estimated useful life, starting when the software is ready for intended use.
Exam shortcut
When a question describes software for internal operations (ERP, HR system, internal reporting), apply ASC 350-40 and look for the three stages. Capitalize only the middle stage (application development); expense the bookends. When a question describes software for external sale or licensing, apply ASC 985-20 and hunt for the technological feasibility date. Everything before that date is R&D expense; capitalize from feasibility to general release.
The full lesson (about 2,390 words, 16 min read) adds 2 worked examples, all 6 common mistakes, a self-check, free in the app.
Learning objectives
- II.B1
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