What is Software Development Costs?
Software development is an integral part of most businesses today. It is a complex process that involves a lot of time, effort, and money. As a result, businesses need to ensure that they capitalize on their software development costs. This means that they need to record these costs as an asset on their balance sheet rather than as an expense on their income statement.
Capitalization of Software Development Costs
Capitalization of software development costs involves recognizing these costs as an asset on the balance sheet. This asset is then amortized over the useful life of the software. The capitalization of software development costs is only permitted if certain criteria are met.
Criteria for Capitalization
To be eligible for capitalization, software development costs must meet the following criteria:
- Feasibility: The software must be technically feasible.
- Intention: The business must have the intention of completing the software and using it or selling it.
- Ability: The business must have the ability to use or sell the software.
- Resources: The business must have sufficient resources to complete the software development.
- Reliable Measurement: The costs must be reliably measurable.
Types of Software Development Costs
Software development costs can be broadly classified into two categories:
Research and Development Costs: These costs are incurred during the research and development phase of the software development process. They are expensed as incurred.
Capitalizable Costs: These costs are incurred during the development phase of the software development process. They are capitalized if they meet the criteria for capitalization.
Examples of Capitalizable Costs
Capitalizable costs include:
- Wages and salaries of employees directly involved in the development of the software.
- Cost of materials and supplies directly used in the development of the software.
- Depreciation of equipment used in the development of the software.
- Overhead costs that are directly attributable to the development of the software.
- Interest costs incurred during the development of the software.
Amortization of Capitalized Costs
Capitalized software development costs are amortized over the useful life of the software. The useful life is determined by the estimated period over which the software is expected to provide economic benefits to the business. Amortization of these costs is recorded as an expense on the income statement.
In conclusion, capitalization of software development costs is an important process that businesses need to adhere to. By capitalizing these costs, businesses can recognize the value of their software development efforts and improve their financial statements. It is important to understand the criteria for capitalization and to properly classify and amortize software development costs.