More and more chiropractors are developing a presence on the Internet, or at least thinking about it. When considering all the benefits a web presence can bring to your practice, you probably haven’t given much thought to the financial helping hand provided by Uncle Sam in the form of tax breaks. These tax deductions can reduce your practice’s tax bill and sharply reduce the out-of-pocket costs for developing and operating a website. Not too surprisingly, given the complexity of our country’s tax rules, developing and maintaining a website involves a variety of costs that you should identify and account for separately. Some costs are deductible immediately as expenses, some are so-called “capital expenses” that can only be deducted over a period of time, and some of those costs may even produce tax credits — directly reducing your tax bill.
Ground Rules Neither the Internal Revenue Service (IRS) nor lawmakers have seen fit to address the question of tax deductions for software since 1969. In other words, there are no regulations on the books that spell out how web development costs should be treated. However, while there are a lot of questions, there are also some precedents that can produce a number of legitimate tax deductions. Among the questions that can’t be answered is whether your chiropractic practice’s foray onto the Internet constitutes a new “business.” A distributor who opens a retail outlet for the same type of goods that it has distributed for years, for example, is considered to have opened a new business. And new business — or practice — start-up costs must be capitalized and written-off over a period of years. The expenses of a chiropractor opening another office or even a group practice opening another clinic are, in most cases, considered routine, “ordinary and necessary” business expenses and are tax deductible on the practice’s annual tax return as “expenses.”
Obviously, immediately deductible expenses are far more beneficial in helping reduce out-of-pocket costs than a deduction for depreciation that must be taken over a number of years. Although the IRS and lawmakers have not yet outlined the specific tax treatment for any web development costs, broader guidelines related to business costs are applicable. Web Software Software is considered an “intangible asset” of the chiropractic practice. In this instance, software used to create a website is either purchased or self-created. Although the tax rules for purchased software are pretty straightforward, self-created software deductions are more questionable. The expense of developing software (whether for your own use or for sale to others) may be deducted immediately or amortized over a five-year period — as long as the costs are treated consistently. Purchased software, which cannot be characterized as an intangible asset acquired as part of a business acquisition, is usually depreciated using the straight-line method over three years, beginning in the month it is placed in service.
But is a web-related expenditure really for software? After all, how can you differentiate between whether a cost is for software, whether it relates to graphics or whether it relates to content? Each receives its own, unique tax treatment. Consider, Chiropractic Wellness Care, LLC. The practice creates a website primarily for advertising purposes, although it may also have the capability to sell products on-line. The website uses dozens of digitalized photos, some of which are “virtual reality,” allowing viewers to more fully experience the practice’s facilities, staff and services. Thousands of dollars go into the creation of these photos. In addition, the chiropractic practice pays a designer thousands of dollars to create the “look and feel” of the website, including the page layouts and navigational buttons. The cost of page layouts and navigational buttons will likely be considered a software cost, while the photo costs would not. As mentioned, the basic rules in this area were created in 1969, and have not been updated since. Those regulations do not take into account non-software elements included in software applications, such as graphics, sound, video and content. Graphically Speaking Graphics that are integral to a web page, such as basic design elements and navigational buttons, are generally understood to be part of the software that creates a website. Graphics that are part of the content of a website are not. Certain graphics are primarily advertising and are deductible as such. Your Site’s Content Strangely, content is not considered to be an integral part of the development of a website in the same way that software and graphics are.
Content is best defined as what the website delivers. Software might be viewed as a permanent part of the site, whereas the content is the material that can be readily changed without affecting the website’s basic “architecture.” Many websites are primarily devoted to advertising. Advertising is generally tax-deductible as incurred — even when it may result in a long-term benefit to the chiropractic practice. But what about the tax treatment of that non-advertising content? The content of many websites includes informational content that is clearly not advertising, since what attracts “surfers” to many sites is unbiased advice. Obviously, considerable costs are incurred to develop this content. Once again, however, the tax rules related to the deduction of these costs is not clear. On the one hand, there are a number of authorities backing the assumption that literary content developed for a website can be deducted. On the other hand, a 1992 decision by the U.S. Surpreme Court provided a general rule that costs resulting in benefits extending beyond the current year should be capitalized. Domain Names What is a website without a domain name? Today, more and more professionals launching a website must pay to acquire a domain name that’s already been registered by a company or individual trying to cash in on claiming some of the most popular and desirable names. The rising prices at which domain names are changing hands begs for a tax deduction.
Again, the issue is not cut-and-dried. Section 197, dealing with the acquisition of an intangible asset may apply, resulting in a 15-year life for purchased domain names. Or, a domain name might be judged by some to be an intangible asset, to which Section 197 does not apply and which has no ascertainable life. In this case, no deduction would be available for the cost of a domain name until it was sold or abandoned. The fact that neither lawmakers nor the IRS has addressed the tax treatment of website development costs should not be a major issue if you break down, document and track the costs incurred. If you can justify the treatment of expenses and treat those expenses in a consistent manner from year-to-year, you will normally be able to do so without question. The IRS may even permit some or all website development costs to be considered for the ultimate “gimme” — a tax credit for research and experimentation. Research and Experimentation There still exists in the tax rules a credit for amounts spent on research and experimentation. Extremely regulated and very narrow in scope, the R&E tax credit is available, in some instances, for so-called “internal-use software.” Generally, internal use software is defined as software used primarily for internal purposes, such as software used for bookkeeping, inventory management or order-processing.
Some software, such as order-processing, is sometimes used by customers. However, incidental use by customers does not prevent software from being characterized as internal-use software. Some website software is clearly not internal-use software, such as on-line games meant to attract more people to your website. Other website applications, such as an application devoted to network management or pure order-processing software, are likely to be considered to be for internal use. The IRS recently proposed regulations that would, in the view of many experts, thwart Congressional intent and make it impossible for anyone to claim the tax credit for R&E. Some say that IRS field agents are already taking the position that nothing qualifies for the credit. Fortunately, aside from the controversial tax credit, many of the costs of developing and maintaining a website for your chiropractic practice are tax-deductible. The argument for breaking down your website costs in order to qualify for the tax deductions that will do your practice the most good is bolstered by the lack of specific rules. In this instance, the lack of tax regulations can actually work in your favor.