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A taxpayer who makes an error in connection with the application of its method of accounting may be entitled to file an amended return to correct the error. However, Sec446(e) prohibits a taxpayer from changing its method of accounting without the consent of the IRS. In a recent technical advice memorandum, the National Office concluded that a taxpayer could not file amended returns to correct an error in the treatment of software development costs, despite the existence of a revenue ruling which had permitted such a procedure in similar circumstances.
In TAM 9421003, a subsidiary member of an affiliated group, which had developed its own computer software, deducted currently all of its software development costs from 1969 through 1985 for purposes of tax, financial, and regulatory accounting. However, in 1986, the subsidiary began to capitalize and amortize software development costs for projects expected to cost $100,000 or more ("$100,000 projects"), but continued to deduct such costs for other projects. The capitalization resulted from changing, for financial and regulatory accounting purposes, the account used for software development costs incurred in $100,000 projects from a deferred expense account to a construction work in process account (CWIP). The CWIP account was treated as an equipment account, and depreciation was taken as the projects were placed in service.
The taxpayer's tax department was unaware of the financial accounting department's change in accounts for treating software development costs incurred in $100,000 projects, and its reconciliation of the tax and financial accounts did not reveal the change. Consequently, the consolidated tax returns for years 1986 through 1990 reflected deductions for software development only for projects other than $100,000 projects. (A small portion of costs incurred in $100,000 projects was deducted as depreciation attributable to the CWIP account, which the tax department mistakenly believed was an equipment account.) Such treatment resulted in the capitalization, for tax purposes, of the majority of software costs for those years. It was estimated that from two-thirds to 90% of...